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I’m often asked if we invest with Betterment, or if I would recommend them.
I assume this is because of their generous affiliate marketing program for personal finance bloggers, but we could generically ask, “Would I recommend using a robo-adviser?” But Betterment’s solution will make a fine reference point.
As with most things, there are pros and cons. But for the purpose of discretely foreshadowing my conclusions:
Betterment has zero of our dollars.
That isn’t going to change.
As with all things related to investing, I take the long view. Where I want to be in 30 or 50 years determines how I invest in the present.
For our dollars, robo-advisers don’t provide a good long term solution.
An Intro to Robo-advisers
I can understand the appeal of robo-advisers for new investors. They offer investment advice without the big fee, automatic portfolio rebalancing, and no trading fees. And in some cases, their tax-loss harvesting algorithms can save real dollars, enough to pay their fees and put a few bucks in your pocket.
For a new investor trying to get started, the sheer number of investment options can be overwhelming. Of the thousands of Mutual Funds and ETFs out there, which ones should we choose? With all of the smart people working on Wall Street, can’t they do better with my money then I can? Or should I just buy Apple or Facebook stock; my brother-in-law said those stocks are up?
The robo-adviser answers all of these questions and more. All you have to do is pay them a small fee of 0.35% to 0.15% of total assets, and their computer systems take care of everything. Compared to a traditional financial adviser charging 1.0%, this is a real bargain. Plus you can do everything online; no need to go into a stuffy office building ensconced in leather and mahogany, where everything seems to be designed to make you feel inferior.
Lower fees are great. Betterment shows how their lower fees result in superior performance over the medium term for a $100k+ IRA. From end of Jan 2004 to Dec 2015, cumulative returns for the Betterment portfolio are 115.6%. By contrast, the traditional adviser portfolio returned only 67.7%.
Betterment 100% Equity Portfolio vs. Traditional Adviser. Data from Betterment
For taxable accounts, Betterment even offers a nifty algorithm that automagically harvests losses that occur as part of daily market fluctuations.
In many cases this can result in a tax deduction of up to $3,000/year, worth $750 in real money for someone in the 25% tax bracket. And this happens even as your account rises in value!
With a $100,000 portfolio, Betterment’s fees are 0.15% or $150. Last time I checked, $150 was less than $750 by 6 Benjamins. Sweet!
Yes, I can understand the appeal of Robo-advisers for new investors.
But these are expensive training wheels.
Critiquing the Robo-adviser
Looking past the shiny exterior, the robo-adviser offerings lose some appeal due to performance, quality of advice, fees, and the realization of tax savings.
Performance
No honest performance analysis can be done without comparing to the index. A comparison to a high fee adviser is a weak straw man argument.
Using total return data from Morningstar, during the period in which Betterment’s 12-ETF 100% equity portfolio returned 115.6%, the S&P500 returned 131%. An investment in VTI / VTSAX would have returned 141%.
VTSAX / S&P500 total return from Morningstar
While their use of “Nobel winning” Modern Portfolio Theory and back-tested data is impressive, and their selection of low-fee Vanguard funds as a base should be applauded, the results lag.
Advice
Henry Ford reportedly once said, “Any customer can have a car painted any color that he wants so long as it is black.”
Robo-advisers are the Ford Motor Company Model-T of the investment world.
Robo-adviser advice is in the form of target asset allocation; using Modern Portfolio Theory and back-tested data, the investment models tells you exactly which ETFs to buy and how much.
To someone (understandably) feeling overwhelmed with investing, this can relieve a great burden.
Or… the same advice is published on their websites. For free. If you want it.
Our own portfolio significantly outperformed the target Betterment portfolio, not because we have any investment prowess, but because of some questionable robo-choices.
The equity portfolio is invested heavily in International equities, even for people who never plan to step outside the US (54%? That seems an odd choice, especially when 1/3 or more of S&P500 revenue is already sourced Internationally.)
One example portfolio suggested we hold 44% bonds… nearly guaranteeing our senior years are spent in poverty (68% success rate in cFIREsim.) Yes I’m an outlier… Aren’t we all?
But I would like a lower allocation of International Equities
Fees
In return for their advice, Betterment charges a fee as a percentage of Assets Under Management.
Fees start at 0.35% for accounts with less than $10k, and drop to 0.15% after account values exceed $100k. This is in addition to the ETF loads (~0.09% for the 12-fund 100% Equity allocation) which brings total fees to 0.24%-0.44%.
By contrast, a traditional financial adviser may charge 1.0%, just for advice and the occasional lunch or parking validation. Lower is often better (generic Oreos perhaps being the exception.) On the other extreme, Vanguard charges 0.05% for VTI / VTSAX.
Naturally people are wary of fees. This is usually where someone mentions that we shouldn’t worry about fees, because “tax loss harvesting.” ;) ;)
(Potential) Tax Savings
If all works well, for portfolios less than $300k-$500k tax loss harvesting can save more in taxes than the robo-adviser charges in fees.
But fees are guaranteed. Tax savings are not.
What is Tax Loss Harvesting?
Tax Loss Harvesting is the process of selling an investment that has declined in value, in order to gain a deduction for income tax purposes.
In some cases up to $3,000 of capital loss per year can be used to offset other income. At the 25% marginal rate this is a real savings of $750.
This can be done manually, by selling an investment that has lost value. Or it can be done with an algorithm.
Both have limitations.
Manually Harvesting Losses
In a down market, manually harvesting losses is an easy process.
I did it myself as part of year-end portfolio rebalancing in December 2015. It took less than 7 minutes and cost $15.90 in trade fees. Compared to having Betterment do it for me, I earned at least $25,000 per hour (Multi millions * 0.15% >= $3,000 / 7 minutes >= $25k+)
With hourly rates like that, it pays to get a basic investment education.
What about in a bull market?
Substantial New Investment Requirements
Due to the relentless upward march of the stock market, it becomes increasingly difficult to harvest losses without significant new investment.
If we purchased Investment A for $100 and it is now worth $200, the market must drop 50% before a loss can be realized. With new investment at the $200 price point, some loss opportunity is available.
For a $3,000 tax loss, we would require either a large investment or a large stock market correction. ($30,000 * 10% = $10,000 * 33% = $3,000.)
Since we already contribute to a 401k and IRA to minimize today’s taxes, contributing these substantial sums to a taxable account requires a fairly high income and aggressive savings rates.
Wash Sales
When we sell Investment A to realize a loss, we can’t just repurchase Investment A or any substantially identical investment within 30 days. In IRS parlance, this is called a wash sale. Instead, we must seek a different investment that we hope has similar performance, Investment B.
In the event of a wash sale, which can occur from something as simple as a dividend reinvestment, the loss is disallowed for income tax purposes until we resell at a future date.
However, if the wash sale occurs in an IRA, the loss is disallowed permanently. (Ouch!)
A wash sale doesn’t have to be in our own investment account. Even a spouse purchasing a similar investment is enough to trigger a wash sale.
To avoid wash sales with a Tax Loss Harvesting Algorithm requires one of two things.
We must either:
a) allow Betterment to manage 100% of our assets, including our IRAs
b) ensure our non-Betterment portfolio holds none of the ETFs, or ETFs that track the same index, as the Betterment portfolio
Option a comes with additional fees.
Option b comes with more complexity (which usually means more fees.)
Capital Gains are First in Line
If we ever realize a capital gain, capital losses are first applied to capital gains before they can offset other income. Selling assets that have increase in value is a recommended best practice for readjusting asset allocation, so capital gains are a norm.
At the 25% marginal rate, a $3k loss was worth $750.
But long term capital gains are taxed at a lower rate, from 0% to 15%.
At 15% a $3k loss is worth $450. At 0% it is worth zero.
Long Term Implications
Long term, my goal for investing is to build wealth and establish a financially secure retirement.
Life long fees and low basis don’t help.
Fees
With no earned income and tax free long term capital gains, tax loss harvesting has minimal to zero advantage. All fees must be paid with cold hard cash.
That means forking over $1,500 per year for each million in investments. Or put another way, it is 4% of total spending for someone following the 4% Rule.
Portfolio Longevity
cFIREsim is a powerful tool for analyzing portfolio longevity, and is very helpful for determining the long term impact of a 0.15% increase in fees.
A $1 million portfolio with $40k annual inflation-adjusted withdrawals and 0.09% annual fees has a success rate of 95.7%. Increasing the fees to 0.24% reduces the success rate to 94.8%. A 1% reduction in success rate isn’t substantial.
But the impact to median terminal value is massive! Over 30 years, assuming equal performance the higher fees reduce the average terminal value by ~$200,000! That is 20% of the initial portfolio value!
This, based on a decision we made as kids some 30 years ago, when we didn’t know anything.
Basis
Actively harvesting tax losses over an extended period reduces overall basis.
During retirement we want the opposite. This is why we are actively raising our basis by harvesting capital gains, all part of our plan to never pay taxes again.
When basis is low, a greater percentage of our wealth is considered income when we spend it. As part of total income, it is subject to taxation and may impact healthcare subsidies and taxation of Social Security.
Conclusions
All things considered… the prevalence of free high quality asset allocation advice, lower performance than our own simple portfolio, questionable robo-choices, the substantial impact of higher fees to portfolio long term value, the ease of do-it-yourself tax loss harvesting while working, the limited to zero value of tax loss harvesting in retirement, and the advantages of high basis, I don’t see any advantage to having a robo-adviser manage our portfolio.
This is why Betterment has zero of our dollars.
—
This is only half of the question, of course. Also to be fair, Betterment would say I’m not their target customer. Would I recommend robo-advisers for someone else?
There is a certain customer that should consider adding their assets to the $3 billion that Betterment already manages.
- Young
- Suffering from Paralysis of Analysis
- Plans to work to traditional retirement age
- Zero interest in learning about $; even 2 hours is too much
- Earns enough to save $35k+/year/person while still falling in the 25% tax bracket ($50k+/single, $100k+ for a married couple.)
If you match this profile, that’s cool. Investing via a robo-adviser is better than not investing at all. I think I’ll apply for one of those affiliate links and paste it right here.
Update: GCC now has an affiliate relationship with Betterment. If you sign up for their services with this link, we will receive a commission. Thank you.
Update #2: I’ve been asked via email if there are good Asset Allocation books. Here are two that are popular and probably in your local library. Feel free to recommend others in the comments.
The Intelligent Asset Allocator: How to Build Your Portfolio to Maximize Returns and Minimize Risk
(Mathematical)
The Bogleheads’ Guide to Investing
(Simple DIY portfolios and a great resource for all investors)
Great write-up GCC. Compiles without error.
I’m glad to see you aren’t pushing Betterment for the affiliate marketing dollars (like so many others in the pf space). In the short-term you may be giving up a few dollars, but in the long-run I think you’ve done the right thing. Having the trust and the respect of your readers is worth more…especially for someone who doesn’t really need the extra cash.
Well done sir!
It is so rare to see a blogger put the interests of readers first and not advertising income.
Bravo Mr GCC!
You have got yourself a loyal follower ( even if I am not an indexer I now like you even more)
My thoughts exactly. It bothered me to see other PF bloggers I respect recommend Betterment. GCC, much respect my friend.
Thanks Mr. Tako, DGI, Mike, appreciate the sentiment
+1. I’m getting tired of people recommending inferior products for the affiliate marketing money. I tried personal capital for example and didn’t like that the very first thing it asks of me is full access to all my accounts. I don’t care that they use “military grade” encryption. If someone hacks my accounts through personal capital, good luck getting the bank’s insurance to actually pay for anything…
full disclosure: I have an affiliate relationship with Personal Capital and think their tools are great (and free.) I use them regularly.
Prior to PC, I used mint.com, which also has full access to all accounts (and is also free.)
What do you do as an alternative? Do you have any online access to your accounts, or do you do everything via phone and snail mail?
Do you plan to write something about Personal Capital’s investment product? I know you are a fan of their tracking system. I presume (better than assume, but barely) your comments are similar to betterment, but I am curious.
I have put money with PC. I can’t decide if I am happy or not. Some externally written rational reviews might help.
The PC fees are much higher (0.89% on 1st million) so take my concern on fees and multiply by 6.
By comparison, the total load on our portfolio is less than 0.08%.
I know the question was not directed at me, but I’ll chip in with what I do, as I’m too paranoid to allow a single third party entity access to all my information (I read about new corporate and institutional hacking scandals on a monthly basis). I simply check my individual accounts once per quarter and plug in the numbers to a spreadsheet I made on Google Drive. This allows me remote access, a bit more privacy than Mint or Personal Capital, ability to arrange information in a highly personalized format, discourages the urge to check and obsess over accounts constantly, and ultimately, teaches me how to think and strategize about personal finance a great deal more than an off-the-rack tool.
“…discourages the urge to check and obsess over accounts constantly”
This has been my story ever since I signed up with PC. The tools are very cool but I was doing a fine job of saving and tracking my net worth before PC came along. I really think I’m gonna adopt Brent’s strategy for myself. Now I need to learn how to make a spreadsheet ?
Count me as another loyal reader. Your blog went right to the top of my daily PF reading list. So refreshing to not see more affiliate marketing related BS! Good on ya.
I’m using Betterment currently for my taxable investment account. While I’m a DIY investor, I find that Betterment offers many people who don’t have the time, energy, or desire to learn about investing automatic diversification, rebalancing, and cuts down on the behavior gap. I would say the number one issue with many new investors (including myself at a younger age) is performance chasing or trying to buy based on the latest tip in Forbes magazine. Betterment offers an extremely cheap 90% solution available to everyone. For my non DIY readers, I’ll still recommend Betterment for their taxable and IRA accounts. For those who want to get that extra control, DIY, and the lowest fees (outside the TSP) I’ll always recommend Vanguard, affiliate program or no.
I think its more expensive to get in on this when you are younger since those fees have a longer time to erode your savings. Paying for lack of discipline doesn’t make sense. Paying for convenience is understandable but not optimal.
Thanks for the honest and thorough analysis, much appreciated.
Great post! 44% bonds!!! Bad robot! Also 54% international? Something about your situation must not compute. I wonder if a “normal” person would get different results. That’s pretty scary to think that these are being promoted to people interested in early retirement.
54% International equities is the robo-choice for a 100% equity portfolio.
https://www.betterment.com/portfolio/
44% bonds was for a 41 year old retiree with no income. I wasn’t even asked if I was male or female (life expectancy), if I was married or had dependents, or how much I planned to spend annually.
Great post! I only wish that you had done this a year ago. We just transferred my wife IRA to an account that we control. In the 12 months we had Betterment they lost just north of 7%, while our other self directed IRA’s made an average of 16%. IMHO, robo’s suck green canal water.
Mr. FireDink and I have some investment accounts at Charles Schwab, and they have a product that competes with Betterment called Intelligent Portfolio, except it has NO fees. I believe there was a $5k minimum to get started.
Read the fine print on this. I believe that the Schwab one requires you to keep a high percentage in cash, which is why a lot of people in the FI community were recommending against it when it was first announced.
Just invest through Vanguard. Choose VTI or another equivalent and start automatic investments. Set it aside, forget about it. When you are building wealth, tax loss harvesting is not very important.
This comment wins the GCC best comment award! Keep it simple and put it on auto pilot.
The problem with investing with Vanguard, does not allow fractional share purchases. Instead of near zero interest savings account, I park my spare cash with WiseBanyan that does not charge a fee unless you elect to use the Tax harvesting feature with is .25(capped at $20 month). I think they have better fund selection.
Vanguard does fractional shares on Mutual Funds. And no trade fees.
Isn’t TLH important if you are currently in a very high tax bracket and you expect your retirement income/withdrawals to be much lower?
It could have some financial value, as discussed in the blog post.
On a scale of importance, I would put it below making regular automatic contributions.
I did a bunch of research on robo-advisers in the fall when I was really starting to build up my after-tax portfolio. I came away with the same conclusion of fees too high over my (hopefully) 60+ year investment horizon for services I can DIY. It helps that I run a pretty lazy portfolio (thanks GCC, Jim Collins, Bogleheads, etc.). I just hate paying others for services I can do myself.
I feel the same way about paying for services I can do myself.
And if I can’t do them today, I can learn! The hourly rate on this kind of education is sky high
I always admired you and your journey, but have new found respect with this post. I respect a pf blogger who is not pushing a product because of its generous affiliate program. Sure, some probably do believe in the product, but many are really just looking at the bottom line. I’m a big fan of the boglehead forum and site…and their lazy portfolios.
The only thing about that allocation is we’ve experienced a flight to the dollar over the past few years as the international haven currency. With the Euro close to parity, a decade of international underperformance, and EM currencies at multi year lows relative to the USD, I would think now would be the best time imaginable to have a high weight to international stocks rather than a reliance on overpriced US ones. The bond allocation advice is definitely foolish. Vanguard always publishes these papers saying that you still need a high bond allocation, but I feel like that’s to protect their bond fund assets more than it is a real investment case, especially with Intl bonds right now.
I can think of a lot of good reasons why International would be a strong performer over the next decade, including those you mention. I can also think of reasons that it won’t… Fed raising rates (?) while other countries add stimulus (e.g. Japan negative rates), low oil prices causing challenges for Russia, Middle East, Canada, etc. (even the Philippines.), the Euro continuing to be financially punitive to Southern Europe, fear (Trump building his Wall, etc…)
Or is all of that already priced in?
We’ll know in 10 years or so. In the mean time, this is what having a target allocation is for.
54% International equities for a US resident is excessive
The Bogleheads wiki has a great discussion on Domestic/International
https://www.bogleheads.org/wiki/Domestic/International
I originally thought a year ago Betterment was a good place to start, about 6 months ago I did more research and realized I should’ve just went with Vanguard. You gave even more reasons I should kick myself. Oh well, it’s all a learning curve. Thanks for sharing.
We all go through a learning curve. I did lots of dumb stuff when I was getting started.
I even hired a full fee financial adviser at 1.0%.
(I learned a ton from him though, so it was maybe worth it.)
I could easily do the investing myself. But I’m worried about getting hit by a bus. For those of us with spouses who have no interest, inclination or success with investing, my hope is to avoid her going to the high fee investment as a default should I die.
In the event of my death, I don’t want my spouse trying to figure out how to interview a proper, trustworthy financial advisor while dealing with whatever emotions my death might cause.
So I use a robo-advisor and realize, yup, it’s costing me. So is the life insurance policy. And lawyers to write up wills. Car insurance. Monthly bank fees.
It’s just another way of looking at it.
I can certainly appreciate ensuring a solid line of succession. My wife knows enough that she won’t need to change anything.
Interestingly, we also have no life insurance, no wills, no car insurance, and no monthly bank fees.
I can understand the “no life insurance” (self insured), and the “no bank fees”, but what’s the argument against having a will? And the “no car insurance” one, I hope you don’t mean no liability insurance. That would be foolish (unless you also mean “no car”),
We have no car and no driver’s licenses.
We have a simple estate, and everything is covered with TOD certificates.
TOD certificates are an interesting strategy. What about an event if both Mom and Dad get “hit by a bus” at the same time (it does happen). Do you trust the court system of the country where you get hit by that bus or the state of WA to decide what would happened to little GCC. Do you really trust your extended family to manage your remaining nest egg in the best interest of the little GCC. Can they manage? Do they want to? The more I am looking into all the rules (IRAs, 401ks, taxable, pensions, ss, etc. they are all different with varying options) that follow that kind of event the more I feel overwhelmed. I wish there were clear decision trees when it comes to all of these.
If Mom and Dad are both hit by a bus, poor little GCCjr is probably flat as well. I suppose that is one of the perks of being parents 24/7.
> Do you trust the court system… of the state of WA to decide what would happened to little GCC? Trust family?
I do. But you knew that already ;)
For some clarity, check out this post by Prob8 on Jim Collins’ site:
http://jlcollinsnh.com/2013/11/25/death-taxes-estate-plans-probate-and-prob8/
Another concern is that they can increase their fees at anytime. Any non-IRA’s will be difficult to move without getting a tax bill. It would take 12 months just to qualify for the lower long-term tax rate, assuming that one can turn off their re-balancing / tax loss harvesting feature.
In addition, folks at the 15% tax bracket might want to strategically take long-term capital gains every couple of years to increase their cost basis, which will then allow for another round of tax losses (even without adding large amounts of fresh capital every year).
That’s not necessarily true. You can simply do in-kind transfers of the assets in Betterment to the brokerage of your choice to avoid the tax consequences. Sure, you’ll be stuck with whatever Betterment had you invested in, but the ones they use aren’t bad either.
Wish I knew that was an option. I actually had some money at betterment that I transferred back to Vanguard. I just waited till it was all at a loss before selling/reinvesting at vanguard.
In other words… you harvested some losses
What happens when two of the greatest Personal Finance bloggers have completely different views on a single idea? GCC – Please help me understand who to believe – http://www.madfientist.com/moving-my-money-to-betterment/
I’ve been heavily investing with Betterment recently – it had seemed to have approval from the PF community (Jim Collins seems to support here as well – http://jlcollinsnh.com/2013/12/16/betterment-wants-to-give-you-25/) so this post is quite a jolt
Situations like this call for an emergency three way Podcast IMO – has that ever been done?
Is this just a matter of you and Brandon having different opinions on a service?
Help! My head can’t take it!
I would say as someone who has gone deep on learning to be a DIY investor over the past couple of years that all three of these guys have been incredibly helpful and influential as well (I am the intro to JLCollins’ “Stock Series”). That said, having learned some lessons the very hard way getting burned by a financial advisor that we trusted you should NEVER invest in anything because ANYONE says you should. You should educate yourself and choose to invest in things because you fully understand them and they make sense for your personal needs and situation. I agree with GCC’s take on this issue, not because I trust or like him more (though I do obviously enjoy this blog!). It simply is in line with everything I know and believe from putting together all the pieces I’ve learned, and why I also have $0 with any robo-advisor. Just my $.02 for what it’s worth.
It all depends on your assumptions. If the nominal tax burden of the capital gains is the same (i.e. you have to pay the same amount of tax per dollar of gains), it’s better to defer paying that tax for as long as possible. Time-value of money makes future $10 of tax cheaper than paying $10 of tax today.
Unless you have no returns, your cost basis will never be as high as your realized value at time of sale. Therefore, if your investments see a return, you’re going to pay tax.
GCC makes the great point that the benefits of automated TLH are not enough to offset advisor fees, all other things the same. So, if you can create a portfolio at least as well-crafted as the Betterment product on your own, you’re better off.
If you need an emotional reminder to cut fees, just remember, that you pay fees (those advisors will get some of your money) whether you yourself make money or lose money.
Great comments, both, EE and edifi
re: >if your investments see a return, you’re going to pay tax.
– the exception being LTCGs. Our basis is maybe +120k over the last 3 years due to tax gain harvesting long term capital gains
Isaac, I think Jim Collins’ comment above best answers your concern, “If you have/can read thru and understand the Stock Series…you are good to go and DIY (Do It Yourself) directly with Vanguard.” If you prefer to not DIY, Betterment is one option
Great write up Jeremy. Geesh 44% in bond for your age? That’s a crazy amount giving the current bond market. Robo-adviser might be OK if you’re just getting started but for long term it’s not a good idea as you’ve pointed out. It’s really quite simple to manage your own portfolio, especially if you are only buying index ETF’s. All you need is an Excel sheet and the managing becomes extremely easy.
The amount of eye rolling I do when I see the word Betterment around the internet has decreased because of this post.
Appreciate the honesty.
Haha, I LOL’d for real!
Very thoughtful analysis and a link to it is now an addendum to my own (mostly positive) post on Betterment. (Yes, I’m one of those FI bloggers with an affiliate relationship with them. ;)
Thanks for the link to my Stock Series. I agree, and as I say in my own post, “If you have/can read thru and understand the Stock Series…you are good to go and DIY (Do It Yourself) directly with Vanguard.”
I also agree SFL should get your best comment award! :)
As of this morning, I too have an affiliate relationship with Betterment. I’ve updated the post with a link. Here is another copy.
I like your post, Jim, particularly the caveats of who should and should not DIY. With you Stock Series (and future book?) a lot more people will find themselves in the should category. Thank you.
Oh my! To quote your sanctimony: “Betterment has zero of our dollars. That isn’t going to change.”
You don’t invest anything with them but are happy to take Betterment dollars to shill for them? Sending all these people who trust you to a company you don’t invest with?! You undershot your own argument and betrayed the trust of your readers. Very sad!
Maybe relax a little and you’ll enjoy this Internet thing a little more.
Really enjoying the education I’m getting in this post! I have an extra $15K lying around and was thinking of throwing it toward Wealthfront (the other robo) for TLH and then build on it. BUT GCC’s advice helped me to make the decision to throw it in my Vanguard account and continue DIY!
P.S. GCC had every opportunity to throw a snide remark toward CLT for NOT reading his post, but being the gentleman and scholar that he is, he just says, “relax a little…”. Nice! I subscribed to GCC today, thank you sir!
Bravo! It takes Cojones to go against what other PF bloggers are recommending .
Some really good points brought up here.
I do think that auto-balancing and more importantly (to me), auto-loss-harvesting can be done best by an algorithm because of the frequency needed to maximize these amounts.
F
Maximizing realized losses isn’t necessarily a good thing.
While accumulating, there is a $3k annual limit for the offset against earned income.
While withdrawing in retirement, a higher basis is better. As an example, what if the algorithm was so wildly successful that total basis in all stock holdings was zero?
Hello GCC-
This is the one aspect of the post that caused me confusion. Why is a higher basis better in retirement? Would you be so kind as to expand on this with an example? I understand that any loss is carried forward and would offset and CG in retirement? Great Blog!
“Actively harvesting tax losses over an extended period reduces overall basis.
During retirement we want the opposite. This is why we are actively raising our basis by harvesting capital gains, all part of our plan to never pay taxes again.
When basis is low, a greater percentage of our wealth is considered income when we spend it. As part of total income, it is subject to taxation and may impact healthcare subsidies and taxation of Social Security.”
Example (contrived):
A retired person wakes up one day and decides they want to buy a big boat. Since nobody has $250k-$300k lying around in cash, they need to sell some stock.
Option A: Sell $350k worth of stock with a basis of $100k. Pay tax on a gain of $250k (15% or $37.5k). Buy boat with proceeds.
Option B: Sell $350k worth of stock with a basis of $350k. Pay no tax. Buy boat. Spend $37.5k on beer.
I agree with your conclusion. But, I think using VTI/VTSAX/S&P500 outperforming Betterment over the last 10ish years to not really be fair. 10 years is not a long time in this game, and it just happens US stocks have outperformed Intl stocks in that time. There have been other 10 year stretches where the inverse has been true and the exact opposite would have been found.
I agree it would be better to have a longer time frame for comparison, but I used what was available. This is also why I added the cFIREsim median terminal value, to show the impact of equal performance but higher fees.
See my reply to RoG’s comment for graphs and research and such.
“If you match this profile, that’s cool. Investing via a robo-adviser is better than not investing at all. I think I’ll apply for one of those affiliate links and paste it right here.”
The Betterment marketing department must be salivating over this possibility. In fact, I wouldn’t be surprised if this ringing endorsement gets top billing on their website’s “as seen in” banner. The ad copy almost writes itself — “Why Betterment? Because, according to GCC, we’re better than your mattress!”
I am GCC, and I endorse this message
Finally a PF blogger that doesn’t rejoice over Betterment. :)
I’ve talked to a lot of folks through my blog and I get asked the “should I go with Betterment” question a lot (almost like it’s a trick question to see if I’m paying attention).
I found what I think is the only place I’ve recommended Betterment at Root of Good in an article called “Starve the Army of Hungry Money Managers”. I basically say 0.15%-0.3% is better than a sharp stick in the eye or paying a full service manager 1% to put you in craptacular funds with high expense ratios.
With the caveat that “you’ll be best off if you learn to invest on your own. For a moderate investment in time, you’ll save on investment fees and have more personalized control over your investments. Even a 0.15% management fee adds $1,500 in investment expenses to a $1 million portfolio. That’s a lot of money to pay someone else.”
Vanguard’s Investor Questionnaire (google it) recommends a very solid portfolio of US, International, and maybe bonds with only 3 funds and expense ratio around 0.1%. If you have 30 minutes, that’s the best choice. Tax efficiency with the possibility of tax loss harvesting.
Otherwise, a Vanguard Target Retirement 20XX fund or Vanguard Lifestrategy fund is an excellent choice (with slightly higher fees than if you roll your own with 2-3 funds and $25-30k+ dollars).
From talking to actual Betterment users, I can’t recall many that felt they get a clear benefit out of Betterment and for the most part if just adds confusion to what should be a simple portfolio.
Excellent voice of reason comment, Mr RoG
I googled this Vanguard questionnaire, and it didn’t specifically state to hold an International fund, but it was nice enough to recommend we go 100% equities. I like it when Vanguard agrees with me :p
In practice, Vanguard changed their Target Retirement Fund international equity allocation from 30% to 40% early in 2015.
Overall their research says, “we have demonstrated that domestic investors should consider allocating part of their portfolios to international securities and that a 20% allocation is a reasonable starting point. While finance theory dictates that an upper limit should be based on the global market capitalization for international equities (currently approximately 55%), we have demonstrated that international allocations exceeding 40% have not historically added significant additional diversification benefits, particularly as costs are accounted for.” (Emphasis mine.)
I’m currently holding 20% International, but should bump it back up to our target 25%, which is about the point of diminishing returns on the US/International allocation “efficient frontier” for the last 40 years or so (up to 2008 – any newer data would be appreciated.)
I totally agree with you. If not picking up individual stocks because of whatever reasons, then just buy well-diversified Vanguard ETFs all the way. Why bother with Betterment when you can still being diversified and paying way less fees buying Vanguard ETFs?
Do you thinks the amount of money in makes a difference to this analysis. I have been investing with Betterment since May (So my returns are getting crushed) but have been quite happy with the constant rebalancing and tax loss harvesting. I only have 12k in and have paid $14.03 in fees. I have $1700 in harvested losses (my tax rate is high around 40%) so I feel like I am making a killing so far. I just would not be able to do this myself. I assume as assets increase this benefit wears off which is what your argument is.
You also don’t mention another common criticism. The stock indexing has a US value tilt which really takes it away from being truly passive (though there is a good rationale for it). One counter point I would make on the 10 year return, the fact that it has under performed the last ten years, which I would guess is due to value underperformance but who knows, would make the next 10 years slightly more likely to over perform. I do agree that it is hard to commit yourself to their “optimized” portfolio. The question is when does the tax loss harvesting and constant rebalancing lose it’s value.
Harvesting losses in a down market is relatively simple (Mad Fientist article.) If you can use the words “value tilt” in a logical sentence, you can harvest losses. Considering how much emerging markets are down since May, I’m surprised you don’t have more than $1,700 in realized losses.
As portfolio value increases, indeed the value of harvesting vs. cost of robo-fee wanes and then disappears. Now is a good time to practice, when the portfolio is small.
re: value of rebalancing, from Vanguard –
“there is no optimal frequency or threshold when selecting a rebalancing strategy”
“risk-adjusted returns are not meaningfully different whether a portfolio is rebalanced monthly, quarterly, or annually”
Tracking wash sales across multiple brokerages is pretty difficult, even by an auditor. The net effect is really just about picking the correct tax rate on up to $3k of income (All the othe gains and losses offset).
Same goes for games raising/lowering costs bases. Just do what you can to reduce tax rate and deferr the burden as far into the future as possible.
I personally think Wealthfront is better than Betterment. I pay wealthfront primarily for daily tax loss harvesting and for buying and managing hundreds of individual stocks in the account. 25 basis points is cheap compared to tax benefits in my taxable accounts.
With that said, I think a robo-advisor makes the most sense for:
1) People currently in high tax brackets… the higher the better.
2) People who might be looking at long-term capital gains taxes when they hit retirement.
Because deferring taxes by lowering your basis while you are your high tax years, and building up a carried forward pile of capital losses to use when you sell your main home…
And then pushing them off to when you are retired (or better yet, never paying them because you leave these appreciated stocks to your heirs), is a tremendous advantage.
One idea is to use a robo advisor during your peak earning/accumulation years, then transfer the account to Vanguard or somewhere else when you retire and go down to very low tax brackets… then you can spend your days of leisure harvesting capital gain.
I fully and completely agree there is no point for a retiree in low tax brackets to use a roboadvisor.
Why not harvest losses yourself? I made about $25,000 per hour doing just that as part of our normal year end adjustments
Love it! I actually just removed my link to Betterment on my resources page and transferred my IRA to Vanguard because their asset allocations didn’t make sense to me. Like you say, why should I pay 0.15% – 0.35% when I can get the S&P500 for 0.05% (actually 0.04% through my 401(k))? It just didn’t make sense to me, nor did the heavy allocation to international stocks. I’m a simple country man, so I’m going to take the Buffett/Bogle approach and make investments that are easy to understand and keep track of.
Wish I had read the post earlier, had it been written. I invested a good sum in Betterment; 100k in June 2015 and have been adding 10k monthly since then. I already lost 25k in 7 months. Should I pull money out? Is there another option in this case?
Thanks much and it’s all great information in the comments as well.
We all lost money in the last 7 months. It’s not because of Betterment. I’m all in Vanguard and I still lost money. Don’t blame Betterment for a down market. I’m not recommending Betterment, I’m just keeping it real.
JC dost speaketh the truth. Equities are down, International a bit more than Domestic.
Seems like a good time to buy at a discount.
If you don’t want to DIY, you can just leave the funds at Betterment. If you want to DIY, you could transfer the funds to another brokerage or have Betterment liquidate the funds (tax loss harvesting if at a loss) and transfer to your linked bank account.
So, if you’ve already invested in Betterment, what’s the best way to transition assests to Vanguard?
If you want all of the funds transferred in kind, you can ask Vanguard to initiate a transfer.
I’m considering investing with Betterment due to the ability to contribute automatic investments in ETFs vs. mutual funds. ETFs are much more tax efficient than mutual funds, due to mutual fund capital gains being passed on to the inventor form investor redemptions and selling gains to rebalance/reallocate funds. I invest in an after tax account with Fidelity and you cannot auto invest into ETFs. If you look on Morningstar and compare the tax efficiency of a MF vs. a similar ETF, it can be a difference of 50 to 100 basis points. That pays for the 15 basis points betterment charges right there. The larger brokerage houses need to make it more convent to invest automatically with ETFs.
It would be nice to get a free 100 bps (1%!) If it were true.
Because of Vanguard’s dual fund structure, their ETFs and Mutual Funds are 100% equivalent on taxes.
https://www.bogleheads.org/wiki/ETFs_vs_mutual_funds#Vanguard_funds
Wow. Great information. I was unaware of Vanguards “dual fund structure”. Protected by patent until 2023!! That’s a big advantage for Vanguard over Fidelity in taxable accounts.
I think both the patent and the value are overstated. If there was really a 100 bp advantage, every fund company in the world would implement the same. Vanguard could choose to challenge other companies in court, which would generate counter suits and references to prior art, and eventually all parties would settle out of court for a small fee. We can conclude that the value is much smaller than 100 bp or that all fund companies have a similar practice but it isn’t worth pursuing legally. Regardless, Betterment has no advantage here and their 0.15% fee must still be paid.
GCC- Thank you for this. I have $70k for the past year in Betterment after all the fanfare in the blogs. This has given me enough information to move it to Vanguard, where all my tax-advantaged accounts are sitting in VTSAX or VLCAX.
I called Vanguard and they were not able to do an in kind transfer from Betterment, even though their website wizard for doing it shows them as an institution. Their online form wouldn’t accept my Betterment email address as the account number. (Betterment told me that is my account number). Betterment also said they use the “DTC transfer process”, so if Vanguard supports this it should be possible. It could be I got a misinformed Vanguard rep, so I will try again.
I’m questioning whether Betterment’s TLH would be more efficient or do a better job than I would. I’m in my highest earning years right now (28% bracket), so TLH is great to lower my taxes (which means I get to invest more!) My Betterment dashboard shows my total Betterment earnings at $-4k for the past year now. It also shows it harvested $10k in the past year. Does this mean they managed to harvest an additional $6k throughout the past year? If I had done my own TLH at the end of the year, I would have only harvested $4k (since the portfolio is down $4k now).
Also, is harvesting the losses now in order to reinvest the savings going to be putting me worse off in the long run because I’m reducing my cost basis? How do you calculate this trade off?
Thanks again for this.
With Betterment, do you have control over or are you made aware of what TLH source and target? When I TLH, I am bouncing between 2 funds that I know I want to be invested in in the long term and that have expense ratios acceptable to me. I guess if I want such level of control, I am not a good candidate for Betterment in the first place, but I am curious as to how open Betterment is with their clients.
Betterment’s TLH white paper shows their parallel funds.
If you were managing losses yourself, you probably would have done it when the market dropped 10% in January, not on Dec 31st. An algorithm certainly may be able to get more realized losses, but more than $3k a year isn’t going to help your taxes today.
New to your site, love it!
This topic hits home hard.
We have our money at a fee based firm. I have been discussing going to Vanguard ETF’s for some time, feeling stressed about pulling the trigger. At 55 and able to stop working, we are living on these accounts. We are also starting to travel.
I guess I am looking for reinforcement that selling my portfolio and moving into Vanguard ETF’s are the right thing to do.
Thanks for the opportunity.
Hi JayC,
One way to think about management fees, is they come directly from the 4% that you are able to spend. With 1% fees, the firm is taking 25% of your annual spending potential.
For further reinforcement, check out the Bogleheads Forum.
It would be important to transfer / liquidate funds in a way that minimizes taxes.
Thanks, I will read this. It is a big concern on how to get my portfolio over to Vanguard the best way possible. I need to look into seeing if Vanguard can help in this, for a one time fee.
Years ago I saw a “retirement budget” example ( I think it was from Bob Clyatt, author of Work Less, Live More) which was compelling. He showed budget expenses as “fixed” and “discretionary” with investment management fees (then close to 2% at full service brokerages) in the fixed section, 2nd or 3rd after housing, food, medical, transport. 2% of $1MM is $20K/yr vs., say Vanguard fees of 0.1% or $1K. So you can earn a near-certain, recurring savings of $19K/yr (and grows with balances) for every $1MM you transfer. Take into account taxable vs. non-taxable accounts and LTCG.
The Vanguard quiz has me at 70%stock, 30% bond. I have adjusted the answers to many of the questions and it always comes up with the same thing. It may not be a good quiz.
Nice to read the other side of the story. I’m not really sure why so many investors are enamored with Betterment. It is a good service and works well for some people, but it is not a cure all. For anyone with a modicum of interest in investing, you can do much better with lower fees elsewhere.
My take: It’s good for some, but not most investors. I would only use it for short term investing (5-10 years)
A little confused about the affiliate link at the end. It seems you made a pretty good case AGAINST using the service throughout most of the post. The bills still have to be paid I guess.
To date that affiliate link has performed as expected, with $0 in income.
Ha fair enough. I guess you did too good of a job of talking people out of signing up!
Dear Mr Curry
I took the same path as you but I dropped out of engineering school in New Zealand. You made it. I wound up as a field technician for the telco business. It was crappy at times but we kept the bells ringing.
Don’t you feel that you wasted an opportunity to really “make a difference” by building the projects of the new age?
I did build the project of the new age.
He is now almost 1 year old.
Congrats to you Mr Curry
You planned well and executed your plan ,(to retire early).As I recall you graduated in electrical engineering.
Are there no decent jobs in the US for elec engineers? It’s got to be a lot better than the NZ job market .No nuclear power there.. The US is the number one place to be an engineer ,right?
One thing I always recall from HS maths :compound interest . That and the share market has made me rich! Markets are fickle but you can always count on arithmetic and compound interest!
Pete (now living Gold Coast,Australia).
It is refreshing to hear honest advice! One of the many reasons why I love your blog so much. Thank you!
We’re still pretty new to early retirement over here — just our first full year of aggressive savings. When we knew little to nothing, Betterment wasn’t an all around terrible place to start. I feel any justified investment decision warrants at least 2-3 years before totally dropping, so we haven’t given up on Betterment (yet). One of our targets was to reach the 100k mark in a taxable account with Betterment.
For us, their automated tax-loss harvesting prevented some of the worry I initially had of doing something drastically wrong on this front before I really understood it all. Ultimately, we decided if the harvested tax-losses offset the annual fees, we’d carry on to the 100k target. So far it has, but just barely. That being said, I’ve been reasonably critical of them in a 6-month review here – http://afkjoe.com/blog/my-experience-using-betterment-after-6-months
You may already be aware, but they recently launched a Tax Coordinated Portfolio feature betterment.com/tcp that at least considers tax-advantaged and taxable accounts as a single goal so that bonds and emerging market funds (for example) aren’t held in a taxable account until absolutely necessary. Prior to this, every goal/account was independent and it was all-around silliness in my mind. We did a little first look review of this feature here after we implemented it on our own account — http://afkjoe.com/blog/first-look-at-betterment-s-tax-coordinated-portfolio
*GCC was a huge inspiration for documenting our journey/progress towards early retirement via afkjoe.com. Thank you for your candor and congratulations on reaching your goal!
I am 28 and am lookimg to start investing my money for retirement. I currently have a 401k with work but it is not comapny matched. I earn $51,500 with my main job and around $40,000 with my contracted jobs. I really need some good advise as I have no clue about investing and would like the highest returns with minimal fees for retirement. This is the 1st site I have seen not sing praises on Betterment so I would love to hear advise from real people who do not get paid to endorse them. Starting off, I need simole as I will be in the learning stages and do not have a ton of time to invest in the process.
Try reading JL Collins’ A Simple Path to Wealth. The title says it all, and you can get it free at your local library.
Book review here.
Very Good Mr. GCC.
I know you americans dont really care about the rest of the world as your 54% very well shows but I have to ask you what is your recomendation for someone like me that will live 7 yrs in the US under work visa and 401k and IRA are not good options when we leave back to our contries (cant wd before 60). What’s your suggestion to minimize taxes? I’m using fidelity go robo-adv but will withdraw and make my own choices of ishares ETF (free comission while vanguard are not)
I’m sorry that the Americans you have met have given you this sour impression. That said, it is no excuse to be rude.
I’m in the same boat but I still invest in 401k here. Yes, you can’t withdraw till 59.5, but that also means that it has the ability to grow because it will be untouched. The US market is one of the best market to have your money invested in. It will grow and become sort of a bounty for you when you are older. Imagine having $500k for your 60th birthday.
You can make withdrawals from a 401k at any time without penalty, using either a Roth Conversion ladder or SEPP.
Hi Mr. GCC,
Thanks for a very nice article. I was going towards betterment. You article has definitely made me change my mind.
What’s your advice on investment brokerage accounts. If I want to invest in ETFs of multiple vendors (Vanguard, iShares etc), is it better to open a brokerage account such as Ameritrade or open individual accounts with Vanguard and iShares?
I would do whatever is most convenient. 99% of our funds are at Fidelity, which has free trades on many iShares ETFs. You can get free Vanguard trades at Vanguard.
Does anyone else think it is weird that the terminator robots have teeth? Like, why would they need teeth?
To distract you from the excessive AUM fees ;)
Hi Mr. GCC,
I’m a bit new to the PF community. I am going to open a taxable account with Vanguard in a few months to store a bulk of my money in anticipation of early retirement (hoping to withdraw any necessary money from these accounts to sustain life to avoid retirement account penalties). Just wondering, for people that manage their own accounts with companies such as Vanguard, are there any resource materials for DIY tax loss harvesting? I didn’t fully understand the example you used and would like to learn more. Thanks!
Hi Youssra, welcome.
There is a tax loss harvesting post on the Boghlehead’s Wiki.
Thank you for the article! You mentioned that in the end of your post Betterment would be wise for “•Earns enough to save $35k+/year/person while still falling in the 25% tax bracket ($50k+/single, $100k+ for a married couple.)” I am single in the 25% tax bracket and saving >35K per year. I currently have all my tax and non-tax investments with Vanguard in VTSAX, (I follow JCollinsh Simple Path to Wealth ideas). I have been considering Betterment for tax loss harvesting and am not sure if I should move everything. After reading your article I was set on staying in place with Vanguard until that last comment I copied above. Could you expand on why in that particular case you would suggest moving to Betterment? I am looking to keep things simple, Vanguard has been great for that, but I am concerned I might be missing out on tax loss harvesting and rebalancing from the roboadvisor. Thank you!
I never used the word wise.
If you match all of the items on that bulleted list, investing with Betterment is better than not investing at all. It isn’t a la carte.
Thank you for writing this article. When I found it I had just opened and funded (luckily I was able to cancel the transaction) a wealthfront account and was doing some more googling comparing it to betterment.
The part where you wrote about taking just 2 hours to educate oneself on investing led me to reading the “stock series” and from there discovering the concept of FI.
I have since moved all my assets to vtsax and vinix (employer 401k) in self managed Vanguard accounts, and have been reading the blogs and books commonly referenced in the frugality / investment/ alternative income sources online community. I’m turning 30 this year and so grateful that I am learning this valuable information now rather than later.
I Just wanted to say thank you for opening the door to truly life changing information for myself and my family.
Orrie
Congrats on taking your financial future into your own hands. Good luck!
Thanks for this post, Go Curry Cracker. I just found your site for the first time today. Enjoying your perspective. I haven’t bothered with Betterment either, but I do know quite a few people who are so clueless about investing that it might help. My concern is that when a huge bear market hits, if they don’t really understand what is going on, they may panic and sell at the bottom if they have no knowledge and nothing but a roboadvisor on the other end of the relationship. A huge part of investing is psychological; roboadvisors only partially address this.
Good post. Although I wonder why you chose to add the affiliate link to Betterment as an addendum to the post. I started investing with Wealthfront (another Robo-advisor) and realized that I’d be paying more fees than if I invested directly with Vanguard. Plus as far as I have read (Jim Collins attests to this) VTSAX is one of the most tax efficient funds out there with very low turnover. I’d still stick to Vanguard for my wealth accumulation.
I’m curious as to why you recommend this for those able to save over 35K per year and in a higher tax bracket. This will be me soon. I’m currently with a fiduciary who knows very little about FIRE and consider just going 100% VTSAX based on jlcollins. I do have some FOMO especially when it comes to being smart with taxes and wondering about using something like betterment or continuing with a fiduciary because we will be able to save a lot while in a higher tax bracket and maybe the fees are worth it?
If you are continually adding fresh capital, then the tax loss harvesting algorithms may be able to give you a $3k loss per year. At 22% tax bracket, that can save you $660/year in taxes. Or you could do TLH yourself.
I think “recommend” is a strong word. It would be better to DIY in the long run.
+1 thanks for taking a clear-eyed look at this, it’s another reminder to not rely on all the “commonsense” we get fed throughout our lives. I also found it pretty funny Betterment was filling up your ad spots on this article (I’ve been reading a lot of FI blogs lately so it makes sense I was targeted, but still funny)