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Book Review – Choose Your Retirement

choose your retirementThe latest book by Emily Guy Birken – Choose Your Retirement – is unlike any other book I’ve read on the subject. Birken takes the time to walk the reader through all of the decision-points that likely will confront you. She spends time acknowledging all of the factors that often face future retirees, including all of the emotional factors that plague us.

Author Birken, who you may recognize from her many writing gigs with well-known personal finance outlets including Wisebread, PT Money, Money Crashers and Yahoo! Finance, has really done well with this book, in my opinion. The book provides practical step-by-step guidance and counsel for navigating the internal mental scripts that different personality types face when saving – Money Avoidance, Money Worship, Money Status, and Money Vigilance. Most everyone fits into one of these categories – and each category has it’s own pitfalls and benefits. This book takes you through each script type to help you understand the barriers that you are likely facing as you plan for and approach retirement.

In Part II Emily takes time to work through debunking the common myths that pervade the retirement planning landscape.  Among the topics here are myths about how to estimate how much money you’ll need in retirement, as well as myths about Social Security, Medicare and healthcare.

The last section of the book is where the rubber meets the road. The author covers in ten chapters some of the very important topics that most retirement books leave behind, including things like retiring abroad or retiring in place (where you live now), changing careers in retirement (because retirement doesn’t mean stop!), and leaving a legacy.

The last section of the book is in my opinion what really sets this book apart from the field. These categories are covered in-depth, with practical advice for things that you don’t typically see in a retirement book. Ms. Birken does a great job with this part of the book – like, for example, the concept of undertaking more education in retirement. Did you know you can use a 529 plan to fund your own education on a tax-advantaged basis?

All in all, I think Emily, who I am privileged to have met and spent some time with at a recent FinCon conference, has really done a great job with this book. It’s also an excellent complement to her first book, The 5 Years Before You Retire. I recommend this book for any and all who are looking to retire soon, it’s a practical book with worksheets built in, and you’ll earn back your investment quickly with the sage advice.

Beyond – Beyond 401k and IRA

As a follow up to my post last week Beyond 401k and IRA, I discovered this week that I had neglected to point out a relatively new option that is very well worth considering.

This option was brought to my attention by my friend and colleague (and fellow GPN member) Lisa Weil of Clarity Northwest Wealth Management in Seattle, WA: as of late last year with the issuance of IRS Notice 2014-54, there is the option of over-funding your 401k with after-tax dollars, and then rolling over those monies to a Roth IRA when you leave employment.

The way it works is that after you max out your regular deducted 401k contributions, plus your company provided the matching funds, there is usually quite a bit of headroom available within the annual funding limits. You can (if your 401k administrator allows) make after-tax contributions to your 401k up to the limit of $53,000. This limit includes the “regular” contributions of $18,000 and your employer matching dollars. If you’re over age 50 the limit is $59,000 due to the catch-up.

When you leave employment, you can rollover your pre-tax contributions, employer contributions, and the growth in the account to a traditional IRA; THEN, you can take these after-tax contributions and rollover to a Roth IRA. Sort of a super-charged Roth IRA contribution method.

This is an excellent place to put your additional savings dollars after you’ve maxed out all of the other options. You need to be careful about the rollover when you retire, and your plan administrator also has to allow these after-tax contributions. If the administrator doesn’t currently allow the extra contributions, the plan can be amended to allow the extra contributions.

I applaud Lisa for pointing this out – and it shows once again that the rules for retirement plan contributions are complicated and constantly changing, and it pays to question everything as you go. I wrote about the change with Notice 2014-54 late last year in the article A New Way to Fund Your Roth IRA – and had forgotten about it when I wrote the article last week.

Thanks again, Lisa!

An Emergency Fund for Retirement

Photo courtesy of Thomas Lefebvre on

Photo courtesy of Thomas Lefebvre on

Many individuals have heard about having an emergency fund while working and saving for retirement. Generally, the rule of thumb has been to keep 3 to 6 months of non-discretionary living expenses on hand in case one loses their job, becomes disabled, or an unforeseen emergency occurs. But what about those individuals who are nearing or already retired? What should their emergency fund look like? Do they even need one?

One of the bigger risks that pre-retirees and retirees face in retirement is sequence risk. Sequence risk is generally defined as the risk of even lower portfolio returns due to making withdrawals from a retirement account when the market has experienced a downturn.

In other words, a retiree experiences sequence risk when their retirement account drops in value due to market volatility, and they make a withdrawal (or withdrawals) after the account has dropped in value. Another way to put it would be similar to an individual saving for retirement in their 30s, yet selling at the market bottom and “locking in” their losses.

Understandably, this can be disastrous for any retiree who has a goal of their money outlasting them in retirement. There are a few things pre-retirees and retirees may consider to help with reducing sequence risk.

  1. Consider having 1-2 years of living expenses in a savings account. This can help reduce the strain on the retirement account when markets are down by living off of the money in the “emergency fund” for retirement. Additionally, an individual may consider funding the emergency savings with money from the retirement account when markets are up in any given year. That is, sell from the assets classes that are up to replenish the cash account.
  1. Consider longevity insurance (an annuity). By purchasing longevity insurance an individual can transfer some of the sequence risk to the insurance company providing the annuity. In the event that their non-annuitized portfolio drops in value due to market volatility, the individual can take some comfort in knowing they will not have to withdraw as much from their assets since they will be receiving a guaranteed income stream from the annuity.
  1. Consider reducing spending temporarily. If possible, the individual can delay consumption until their portfolio improves. Granted, not everyone can afford to reduce spending (such as for health care, housing, etc.). But some individuals may find it to their advantage to put the vacation off a year, not dine out as much, or delaying discretionary purchases until their financial picture improves.
  1. Optimize your Social Security. There are many advantages and nuances an individual or couple can consider when applying for and taking Social Security benefits. By taking advantage of the options available, individuals may be able to maximize their income from Social Security (essentially an annuity) and help provide more guaranteed income during volatile market times.

Beyond 401(k) and IRA

beyondYou’re contributing as much as you’re allowed to a 401(k) or other employer-sponsored retirement plan. If your income allows it, you’re also contributing the maximum annual amount to your Roth or traditional IRA. But you still want to set aside more money beyond 401(k) and IRA, to make sure your retirement is everything you hoped for. What options do you have? Here are some things to consider…

Before moving beyond – are you really maxing our your 401(k) and IRA?

IRAs and employer-sponsored retirement plans like 401(k)s have some real advantages when it comes to saving for your retirement. So, before you go any further, make sure you’re really contributing all you can.

In 2015, most individuals can contribute up to $18,000 to a 401(k) plan, and up to $5,500 to a traditional or Roth IRA. If you’re age 50 or better, though, you can make up to an additional $6,000 in “catch-up” contributions to your 401(k) in 2015, and an additional $1,000 to your traditional or Roth IRA. What’s more, if you file a joint tax return with your spouse, your spouse may be able to make a full IRA contribution, even if he or she has little or no taxable compensation. (See Spousal IRAs for Stay at Home Parents for more details.)

Taxable investment accounts

Your other primary option is to invest through a taxable investment account. The lower federal income tax rates that apply to long-term capital gains and qualifying dividends go a long way toward taking the bite out of holding investments outside of a tax-advantaged retirement account like a 401(k) or IRA. And, a taxable investment account offers one enormous advantage: You have a tremendous amount of flexibility. You can choose from a virtually unlimited selection of investments, and there’s no federal penalty for withdrawing funds before age 59 1/2.

Investment options worth mentioning:

  • Mutual funds or separately managed accounts (SMAs) managed for tax efficiency intentionally minimize current taxable distributions
  • Indexed mutual funds and exchange-traded funds (ETFs) trade infrequently and therefore tend to have low annual taxable distributions
  • Tax-free municipal bonds and municipal bond funds generate income that is free from federal and/or state income tax

Always keep the big picture in mind

Your investment decisions should be based on your individual goals, time frame, risk tolerance, and investment knowledge. You should evaluate every investment decision with an eye toward how the investment will fit into your overall investment portfolio, and whether it will meet your general asset allocation needs. A financial professional can be invaluable in helping you evaluate your options.

For many, it can be useful to have some of your money invested in the three different types of tax-treated accounts: tax-deferred, such as a 401(k) or traditional IRA; ultimately tax-free, such as Roth IRAs; and taxable investment accounts, which take advantage of the flexibility of withdrawal and low capital gains rates. With a three-pronged approach you can plan your tax impact when you need to withdraw money. Instead of only having purely taxable withdrawals from a 401(k) plan, you might take only a portion of the withdrawal to be taxed in that fashion, and a portion to be taxed at capital gains from your non-deferred account. This provides you with the best of all worlds!

Am I Saving Too Much?

350px-spuerschwainThis post is in response to a question an individual had for me when I was meeting with her a few months ago. The question she had for me and the title of the post was if she was saving too much money.

The reason she asked is that after a conversation with friends of hers, they had collectively told her that she was saving too much money for retirement. Currently, this 25 year old was saving 26% of her income for retirement! My verbal response was a firm, “Well done!” My internal response was, “Get some new friends.”

Her friends were trying to convince her that 10% was more than enough to save for retirement at such a young age. While 10% is a decent amount to put away, 26% is even better. In addition, this young lady was already used to saving 26% of her income. It wasn’t straining her financially.

This is what I told her. I recommended that she keep saving the same amount and gave her some reasons why. The first reason is that once she reduced the amount to say, 10% of her income, she would have an extremely difficult time increasing it in the future. Psychologically, she would be used to spending that money on something else and would see an increase as a “sacrifice” that would put strain on her income.

Second, we discussed the time value of money. Like any finance nerd I grabbed my financial calculator and went to work. Based on her income of $50,000 and current investment of $25,000 already in her plan, I took 26% of her income ($13,000) and invested that annual payment at 6% for 30 years. This turns out to be just over 1.17 million dollars (not accounting for any annual raises). Next, I reduced the annual contribution to just $5,000 (10%) of her income (again, not accounting for raises). In 30 years her nest egg dropped to just under $539,000 – less than half of what she’s currently on track to have.

Finally, and respectfully, I asked if her friends were willing to hand her a check at retirement for the difference. In other words, I asked if she was confident her friends would hand her a check in 30 years for $631,000 as congratulations for taking their advice.

She simply smiled and shook her head.

Identity Theft Protection

thiefWhether they’re snatching your purse, diving into your dumpster, stealing your mail, or hacking into your computer, they’re out to get you. Who are they? Identity thieves.

Identity thieves can empty your bank account, max out your credit cards, open new accounts in your name, and purchase furniture, cars, and even homes on the basis of your credit history. What if they give your personal information to the police during an arrest and then don’t show up for a court date? You could be arrested and jailed.

And what will you get for their efforts? You’ll get the headache and expense of cleaning up the mess they leave behind. Not to mention the potential loss of money, even jobs, that goes along with this problem.

You may never be able to completely prevent your identity from being stolen, but here are some steps you can take to help protect yourself from becoming a victim.

Check Yourself Out

It’s important to review your credit report periodically. Check to make sure that all the information contained in it is correct, and be on the lookout for any fraudulent activity.

You may get your credit report for free once a year, from each of the three national credit reporting agencies. To do so, contact the Annual Credit Report Request Service online at or call (877) 322-8228.

It’s important to use – this is the FREE service that allows you to get your report(s) once per year from each agency. Other services claim to provide this service for free but you usually wind up paying something for it, possibly without even knowing. Be careful as you use these services – they offer many “pay” options such as credit monitoring, credit scores, and the like. Most of this you can live without. Just stick with the free report and review it carefully for any incorrect information or entries that appear to be fraudulent.

If you need to correct any information or dispute any entries, contact the three national credit reporting agencies:

Secure Your Number

Your most critical personal identifier is your Social Security number (SSN). Guard it carefully. Never carry your Social Security card with you unless you need it for a specific purpose (such as applying for a passport or driver’s license). The same goes for other forms of identification (such as health insurance cards) that include your SSN. Don’t have your SSN pre-printed on your checks, and don’t let merchants write it on your checks. Don’t give it out over the phone unless you initiated the call and it is to an organization that you trust. Ask the three major credit reporting agencies to truncate your SSN on your credit reports. Try to avoid listing it (where possible) on employment applications; offer instead to provide it during your interview.

Don’t Leave Home With It

Many of us carry our checkbooks and all of our credit cards, debit cards, and other cards with us all the time. That’s a bad idea – if your wallet or purse is stolen, the thief will have a treasure chest of new toys to play with.

Carry only the cards and/or checks you’ll need for any one trip. And keep a written record of all your account numbers, credit card expiration dates, and the telephone numbers of the customer service and fraud departments in a secure place – at home. It may be useful to make a photocopy (or as I do, a computer-scanned image) of all of your credit cards, driver’s license, insurance cards, etc., and keep those images in a safe place where you can get to them quickly in the event that your cards are stolen.

In addition, using a smart-phone application may be handy, but make sure that you have good security on your phone – no using “1234” as your passcode, for example.

Keep Your Receipts

When you make a purchase with a credit or debit card, you’re given a receipt. Don’t throw it away or leave it behind – it may contain your credit card number (this is much more rare these days), plus it is your sole defense in the event of fraud within the store. And don’t leave it in the shopping bag inside your car while you continue shopping either; if your car is broken into and the item you bought is stolen, your identity could be stolen as well.

Save your receipts until you can check them against your monthly statements, and watch your statements for purchases you didn’t make, or for amounts that don’t match. When you’re finished matching them, shred them!

When You Toss It, Shred It

Before you throw out any financial records such as credit or debit card receipts and statements, canceled checks, or even offers for credit cards you receive in the mail – shred the documents, preferably in a cross-cut shredder. If you don’t, you may find that the panhandler going through your dumpster was looking for more than just discarded leftovers. These cross-cut shredders are very affordable (starting around $50) and available at most discount stores and office supply outlets.

Keep A Low Profile

The more your personal information is available to others, the more likely you are to be victimized by identity theft. While you don’t need to become a hermit in a cave, there are steps you can take to help minimize your exposure:

  • to stop telephone calls from national telemarketers, list your telephone number with the FTC’s National Do Not Call Registry by registering online at
  • to remove your name from most national mailing and e-mailing lists, as well as most telemarketing lists involving credit or insurance, register online at
  • when given the opportunity to do so by your bank, investment firm, insurance company, and credit card companies, opt out of allowing them to share your financial information with other organizations.
  • You may even want to consider having your name and address removed from the telephone book and reverse directories. This is becoming more of a reality for everyone these days as landlines go the way of the buggy-whip.

Take a Bite Out Of Crime

Whatever else you may want your computer to do, you don’t want it to inadvertently reveal your personal information to others. Take steps to help assure that this won’t happen.

Install a firewall to prevent hackers from obtaining information from your hard drive or hijacking your computer to use it for committing other crimes. This is especially important any more since we nearly all use a high-speed connection that leaves you continuously connected to the internet, such as cable or DSL. Moreover, install virus protection software and update it on a regular basis as well.

Try to avoid storing personal and financial information on a laptop; if it’s stolen, the thief may obtain much more than the value of your computer. If you must store such information on your laptop, make things as difficult as possible for a thief by protecting these files with a strong password – one that’s at least eight characters long, and that contains uppercase and lowercase letters, as well as numbers and symbols.

“If a stranger calls, don’t answer.” Opening emails from people you don’t know, especially if you download attached files or click on hyperlinks in the message, can expose you to viruses, infect your computer with “spyware” or “malware” – software that captures information by recording your keystrokes – or lead you to “spoof” websites (websites that impersonate legitimate business sites) designed to trick you into revealing personal information that can be used to steal your identity.

If you wish to visit a business’s legitimate website, use your stored bookmark or type the URL address directly into your browser. If you provide personal or financial information about yourself over the internet, do so only at secure websites – to determine if a website is secure, look for a URL that begins with “https” instead of “http” or a padlock icon in the bottom of the browser’s status bar.

And when it comes time to upgrade to a new computer, remove all your personal information from the old one before you dispose of it. Using the “delete” function isn’t sufficient to do the job; overwrite the hard drive using a “wipe” utility program (several are available on the market). The minimal cost of investing in this software may save you from being wiped out later by an identity thief. There are also services that will take your old computer and recycle it, giving you a certification that the data is being wiped from the device before redeployment.

Lastly, Be Diligent

As the grizzled old duty sergeant used to say on the television show “Hill Street Blues” – Be careful out there. The identity you save may be your own!

A Brief Explanation of the Thrift Savings Plan (TSP)

TSPI love the TSP and the fund options it offers. Participants (generally government employees and military) have access to very low cost index fund options and a handful of target date funds (L Funds) that incorporate different combinations of the individual index fund options depending on what stage you’re at in your retirement savings journey. I wish more employer sponsored plans mirrored the TSP’s simplicity, low costs and efficiency. Employees may or may not have access to a match on deferrals, depending on their employment class.

The TSP has a number of different fund choices available. The G Fund invests in short-term Treasury securities that are specifically issued for the TSP. The principal and interest are guaranteed by the US Government but they are not inflation protected. That is, these funds may have returns below the inflation rate.

The C Fund is the common stock fund designed to replicate the returns of the S&P 500. The S Fund doesn’t follow the Dow Jones Industrial Average but rather the Dow Jones Completion Index. This means that it essentially includes small and mid-sized US companies not included in the C Fund. Owning the C Fund and S Fund together essentially gives you coverage of the entire US stock market.

The TSP also offers the F Fund that is a broad bond market index fund and the I Fund that invests in an international stock index. All of the TSP funds are exclusive only to the TSP. Non-governmental employees do not have access to them; hence why they don’t have ticker symbols.

Participants may consider choosing one of the L Funds. Currently the TSP offers an L Income Fund, L 2020, L 2030, L 2040, and L 2050. The funds move from conservative (L Income) to aggressive (L 2050) depending on your retirement horizon and risk tolerance. They also offer excellent diversification among a broader range of asset classes versus only the three funds you hold individually. Over time, these funds gradually become more conservative the closer you get to your retirement date.

One potential downside to the L Funds (or any target date fund) is that you run the risk of the fund becoming too conservative (investing more heavily in bonds) as the fund progresses toward the retirement target date. In other words, the conservative returns from the fund aren’t able to keep pace with the retiree’s withdrawal rates. Dr. Wade Pfau and Michael Kitces have written that actually increasing equity exposure may reduce the probability of running out of money in retirement (portfolio failure) and the magnitude of failure.

If you’re on of the lucky ones that has access to the TSP and not utilizing it, start. If you are utilizing it, it never hurts to revisit your allocations, fund choices and contributions. If you have question, connect with competent professional that understands the TSP.

Diversification: I Know I Should, But Why?

diverse cups of somethingAny discussion of the tenets of long-term investing includes the recommendation for diversification. This concept is delivered almost without thought – after all, as children we are taught “Don’t put all your eggs in one basket!”. But have you ever stopped to consider just why we should diversify?

Of course, in the example of the saying about the eggs, it’s simple spreading of risk: if you have all your eggs in one basket and you drop that basket… all your eggs have broken! By spreading your eggs into a second basket, if one basket is dropped, only those eggs in that basket will break, and you’ve still got one basket of good, unbroken eggs.

What if we add a third basket? A fourth? As you might imagine, it soon becomes too clumsy to carry so many baskets (potentially one for each egg). One person couldn’t possibly manage twelve baskets effectively just to harvest a dozen eggs. So, while diversification makes sense to a degree, you always must keep in mind that it can be applied to an extreme and you lose the efficiency of the basket, plus your costs increase.

Enough about eggs for now though. Why do we preach diversification in investing? The root of this concept (at least in the modern age) come from something called “Modern Portfolio Theory”, which was developed by a fellow named Harry Markowitz. The overall theory is pretty weighty so we won’t cover it completely here (although I’d be happy to discuss it with you if you wish). The gist of the benefit of diversification follows.

Decisions about investments are always made in an environment of uncertainty. This is because, even though we have a belief that our investments will hold their value and will increase in value over time, there is no certainty that this will be the case. We can study the past performance, the present activity, and many pieces of information about the particular security – but we have no surety that the increase we hope for will occur.

This uncertainty is due to the continuous up and down volatility in investment prices. As an example, if a stock is worth $20 now and was worth $15 last week, we have no idea if it will be worth $30 tomorrow or possibly even $10. This shouldn’t be a surprise: how many times have you seen something in the news that seems like a good thing for the economy, like an interest rate cut – only to see the market drop like a stone at the release of the news? The opposite happens just as often.

So – what’s a guy to do? Enter diversification.

Diversification – Your Key to Reduce Volatility

It’s not hard to understand that every dollar you save in taxes and overall costs of investments equates to an increase in your bottom line total return. What may be difficult to follow though, is that diversification of risk can reduce volatility, and therefore reduce loss. An example may be the best way to get this point across.

Let’s say you have $1,000 in your overall portfolio, and through the year you have achieved a 20% gain. Shortly thereafter, your investment experiences a correction, amounting to a 20% loss. Most folks would think that you’ve just held ground and broke even in your account – but most folks would be wrong to think so. What happened is that your account gained 20% to a value of $1,200, and then the account lost 20% or $240 (.20 times $1,200), so in the end you have actually lost a net amount of $40. Just for grins, the result is the same if you work things in the reverse as well: a 20% loss gives you a balance of $800, and then a 20% gain ($160) gives you a final balance of $960, for a loss of the same $40.

For purposes of comparison, let’s look at another situation: a 10% gain followed by a 10% loss. From our previous example, we know that this isn’t just “holding ground” – we have lost a total of $10 in the process. We started with $1,000 and gained 10% to a value of $1,100, and then experienced a 10% loss ($110), for a final balance of $990.

What’s truly important to note about these two examples is the relationship of the volatility (the percentage size of the gains and losses) to the actual dollar loss realized. In the first case, the volatility was double that of the second (20% versus 10%), but the resulting loss was quadrupled!

If we took the first example and changed the volatility to a 40% swing in either direction, the resulting loss is even greater – a gain of 40% gives us $1,400, and the following loss of 40% ($560) brings us to a final balance of $840, for a loss of $160, which is sixteen times the loss we suffered in the 10% example. If you’re a mathematician, you’ll notice the relationship here: the level of volatility that we experience results in an exponential loss in the account. If we had a 50% gain followed by a 50% loss, our overall loss would be twenty-five times the loss in the 10% example, and so on.

It doesn’t take long to understand why it is important to keep volatility in your portfolio low: the smaller the “swings” of volatility, the lower your potential loss. When you increase the “swings” of volatility by a factor of one, your potential losses increase exponentially.

So – if I’ve done my job and explained this properly, the question on your mind at this point should be: “How do I get myself some of this low volatility?” And if you’ve been reading carefully up to this point, the answer should be obvious: diversify.

And how do we do that? Much the same as the eggsample from earlier, you want to find a place (or group of places) to invest your money that will result in less volatility. All investments are affected by various things around them – oil and gas companies are impacted by the cost of crude oil, banks are impacted by interest rates and the credit crunch, department stores are impacted by inflation, employment, and the seasons. What we look for are investment vehicles that are diverse enough to not all be impacted by the same kinds of things in the same magnitude at the same time. Therefore we diversify into different capitalization-weightings, different countries, and different sectors, all in an effort to reduce the overall risk of loss (volatility) in our portfolio.

For example – by investing in the S&P 500 index, we are diversifying across many different companies, sectors, and industries in the US marketplace. In addition to this investment, we might add a holding in the EAFE index (Europe, AustralAsia and Far East), further diversifying across different countries, companies, sectors and industries. By doing so, if something happens that makes United States Steel’s stock to lose 20% in value, the impact on our portfolio is minimized, since US Steel is only a very small portion of our portfolio. By the same token, if an event should occur that caused the stock market in Singapore to suddenly crash, and this event was limited in its exposure to just Singapore, then as before, since we’re diversified among many countries, our exposure to volatility is minimized.

I hope this explanation helps you to understand one of the very basic pillars of investing discipline. I would be remiss, though, if I didn’t point out that diversification can also have a negative impact on your gains. When you reduce the volatility in your investments, you’re not only reducing the downside swing, but the upside swing as well. What we give up is the “once in a lifetime” homerun-type of investments.

For example, if you happened to put all of your money in Google at it’s initial offering in August of 2004, by the end of that year you could have doubled your money. In the diversification example using the S&P 500, you would have had a small percentage of your portfolio in Google, and your overall return from August to December in 2004 would have been 10.8%. For an example on the other side of the coin, if you had placed your nest egg in Enron stock in late 2000, by mid 2001, you could have virtually nothing left, while the S&P 500 had fallen by a mere 17% during the same period. Reducing volatility, while it causes you to give up the spectacular gains, will also save you from the spectacular crashes. And we all know which one happens more often.

Do You Have The Will?

chaplain making out willsStatistics show us that approximately 70% of all Americans don’t have a valid will. Are you one of them? With that statistic, chances are that you don’t. This means that in a circle of four people, three probably don’t have a will.

This situation begs an obvious question: Do I need a will? One simple way to determine if you need a will is if you can’t truthfully answer “No” to both of the following questions:

Do you care who gets your money and property when you die?
Do you care who is appointed guardian of your minor children if you die?

If you answered “Yes” to either or both of those questions, you need a will! Otherwise, state laws will determine the outcome of those situations – and it’s not likely that you would have made the same decisions that the state would.

Why should you have a will?

A will is appropriate for anyone, not just the rich, no matter how much money or property you have. A will is your instructions for how you’d like your belongings and assets distributed at your passing. Without a will, the courts will decide to whom your property will go – without regard to your wishes. The courts, according to state law, have a specific succession path that they will follow in distributing your assets. They won’t account for the fact that you loaned some money to your first child when they purchased their home, and as such you had intended to “equal things out” with the other two kids at your passing, for example.

In addition, anyone with minor children should definitely have a will. Only you (and presumably your spouse) should be making the decisions about who will care for the children as their guardian in the event of your untimely death. No one wants to think about death as a near-term event – but it happens every day. If it should happen to you and you don’t have a will in effect, your family and loved ones will be thrown into a confusing world of decisions that they aren’t prepared to make, on top of the very difficult situation that they already have in dealing with your death.

A third reason to have a will is for tax benefits. By utilizing your will to pass along your assets that have grown in value through the years (as opposed to making gifts during your lifetime), your heirs will receive the property at a “stepped up” value as of the date of your death (in most cases). For example, let’s say you own a piece of farmland that you purchased for $100,000 many years ago. Today, the land is actually worth something like $1,500,000 due to appreciation in land values. If you were to give this land to your son as a gift during your lifetime, and the son sold the land, he would owe capital gains tax on $1,400,000 (the growth of the value of the land), which would amount to something like $210,000 at a 15% rate. On the other hand, if you bequeathed the property to your son via your will (assuming that your overall estate was worth something south of $5.45 million), then there would be no tax owed, either on the transfer of the property or when your son sells it, if he sells immediately. This is because the act of inheriting property causes a “step up” in the value of the property, and so the tax basis of the property is $1,500,000, leaving no capital gain to tax (assuming again that the son sells the property for $1,500,000).

So – how do you get started? As mentioned above, there are a few things you need to consider when setting up a will. Some of the most difficult decisions generally surround the idea of guardianship for the children. Think through this decision carefully, along with your spouse (if you have one), and then talk to the person or persons you’ve chosen to be guardians. I generally recommend that you choose a guardian for the children and a trustee to manage funds that have been set aside for the children’s care (two different people). This way you have a separation of powers, and two heads working together for the benefit of the kids. In addition, many times if there is only a guardian who has the additional duty of administering funds, the guardian may tend to over- or under-utilize the funds on the children’s behalf. Having a separate trustee to help with this process can make sure that the funds are used as you intended.

The second person that you need to name in your will is an executor. This individual will be responsible for administering your will and your estate when you pass. Depending upon the circumstances, this person may need to be very skilled in working with others (your beneficiaries) to ensure that your instructions are properly enacted.

The specific instructions that you wish to have carried out completes the picture. In some cases, especially those including children, you’ll want the will to establish one or more trusts, requiring the naming of a trustee or trustees. This will help to ensure that your funds are used as you intended. You’ll also need to think about how the rest of your assets, money, and property might be distributed.

Start by gathering the names, addressses and dates of birth for you, your spouse, your children, other beneficiaries, your proposed guardian(s), and your proposed executor(s). I used plurals for guardian(s) and executor(s) because it can be very helpful to have “backup” people named for the event your original choice predeceases you.

Next, gather together your debt information – mortgages, car loans, credit cards, student loans, and any other loans you might have. Then list your assets – property, stocks, bonds, accounts, homes, personal property, etc.. Take pains to specifically identify each item of debt and assets, so that it is very clear which item you are referring to.

Lastly, gather copies of other existing legal documents, including divorce decrees, prior wills, trusts, prenuptual agreements, and any other document that might affect the legal distribution of your assets.

When you talk to your attorney, he or she will likely have other items that you need to gather, but this should head you in the right direction. And I do advocate using a lawyer – this is much too important for a “do-it-yourself” job. When you think about the consequences of doing it incorrectly, the cost for the attorney is a pretty small sum by comparison.

So – if you happen to be “one of the other three” in the circle of four, don’t delay. There’s no sense in putting your family and beneficiaries through the hassle of probate if you can help it – and you can. If you have the will.

Are You Biased? (Hint: Yes, You Are!)

3503494291_651161974f_nThere are several behavioral heuristics and biases that can lead to poor financial decisions. For brevity, we will focus on a few; mental accounting, the endowment effect, loss aversion and status quo bias. For each bias, we will provide a definition and then provide examples of how the biases can lead to poor financial decisions. Mental accounting is the way individuals code and evaluate transactions, investments and other financial outcomes.

An example is when employees with access to company stock have 50 percent of company stock in their retirement plan and the remaining money split evenly between stock and bond funds. These employees make the mistake of owning too much company stock (not enough diversification). Mental accounting puts company stock into its own “asset class.”

The endowment effect, developed by Richard Thaler is the tendency to place more value on an object once an individual owns it; especially if it’s a good not regularly traded. Poor financial decisions arise when individuals hold on to losing stocks (or mutual funds) as the endowment effect places more value on these securities than they’re worth. An individual then holds onto an asset they should otherwise sell.

This same example can also explain loss aversion. In loss aversion, losses hurt more than gains feel good – about twice as much. This was a monumental discovery made by Daniel Kahneman and Amos Tversky and their famous “S” curve. In the prior example, the individual may hang onto the losing security since it hurts much more to realize that loss. For now, his losses are only “paper losses”. He can avoid the pain of losing by not selling. This of course, can be detrimental to his portfolio. In other words, due to loss aversion, individuals take more risk to avoid losses.

Status quo bias refers to the bias in favor of remaining in the current economic state. Poor financial decisions may arise from status quo bias where it’s in an investor’s best interest to switch companies and investment portfolios (due to high commissions and expense ratios) yet the individual remains with the poorer economic choice of the more expensive portfolio. Yet they know they should move.

Another example, in retirement savings plans, there is less participation for employees that have to “opt-in” versus plans requiring them to “opt-out.” In other words, more employees are likely to go with the status quo (that is, they are likely to stay with the option requiring the least amount of effort) in retirement plans that require “opt-in” versus “opt-out.”

There are many biases that affect the finances of individuals. These are just a few. By learning about these different biases individuals can have a better understanding of why they act the way they do regarding their financial decisions and whom to seek out to receive objective advice to resist the urge to give in to biases.

Exception to the Divorced Spouse Remarriage Rule

remarriedGenerally speaking, when a divorcee is receiving a Social Security spousal benefit based on an ex-spouse’s record, the recipient must remain unmarried in order to continue receiving the ex-spouse benefit. (For more details on this, see Coordinating Social Security Benefits in Matters of Divorce and Remarriage.) In many cases,when a divorcee remarries, the spousal benefit based on his or her ex-spouse’s record will end.

However, there is an exception to this rule that I recently became aware of. It’s in part because the circumstances surrounding this exception have recently become more common – so let’s get to the exception.

The Exception

If the person who is receiving a spousal benefit based on an ex-spouse’s record marries someone who is currently receiving widow(er)’s, mother’s, father’s, divorced spouse’s, or parents’ benefits, the spousal benefit will continue. That’s a mouthful! Let’s play out an example:

Jane is divorced from Gerald. Jane has been receiving spousal benefits based on Gerald’s record for the past couple of years. Jane is engaged to marry Sheryl.  Sheryl’s husband Ed died several years ago, and she has been collecting a widow’s benefit (survivor benefit) based on Ed’s record for a couple of years now.

Since Sheryl is receiving the survivor benefit based on Ed’s record, the exception applies for Jane’s ex-spouse benefit, and Jane will be eligible to continue receiving this benefit after the marriage. If Sheryl was not currently collecting the survivor’s benefit (or one of the other excepted benefits), Jane’s ex-spouse benefit would end upon their marriage.

One important factor here is that Jane and Sheryl are both currently receiving the benefits (in Social Security parlance, they are entitled to the benefits). If Jane is not currently receiving the ex-spouse benefit when she and Sheryl get married, she would not be allowed to begin receiving the ex-spouse benefit based on Gerald’s record while she and Sheryl are married.

Likewise, if Sheryl was not receiving the survivor benefit or one of the other excepted benefits on the date of the marriage, Jane’s ex-spouse benefit would end upon their marriage.

RMDs From IRAs

distribution-centre-by-nick-saltmarsh1I’ve made the observation before – IRAs are like belly-buttons: just about everyone has one these days, and quite often they have more than one.

Wait a second, maybe they’re not quite like belly-buttons after all.

Oh well, you get the point – just about everyone has at least one IRA in their various retirement savings plans, and these accounts will eventually be subjected to Required Minimum Distributions (RMDs) when the owner of the account reaches age 70 1/2.

So what are RMDs, you might ask? When the IRA was developed, it was determined that there must be a requirement for the account owner to withdraw the funds that have been hidden from taxes over the lifetime of the account, in order for the IRS to begin benefiting by the taxes that are levied against the account withdrawals. A schedule was prepared which approximates the life span of the account owner.  This schedule prescribes a minimum amount to be withdrawn each year that the account owner is alive, until the account is exhausted.

A participant in a traditional IRA (Roth IRAs are not subject to RMD rules by the original owner) must begin receiving distributions from the IRA by April 1 of the year following the year that the participant reaches age 70 1/2. In other words, assuming that the participant reaches age 70 during the months of January through June of 2015,  the participant reaches age 70 1/2 during the 2015 calendar year.  Therefore RMD must be withdrawn by April 1, 2016. On the other hand, an individual who reaches age 70 during the latter half (July through December) of 2015 does not reach age 70 1/2 until the 2016 calendar year.  As such, RMD must be withdrawn by April 1, 2017.

After that first year’s RMD is withdrawn, the second year’s RMD must be taken by December 31 of the same year. In our examples above, the first participant must make a RMD withdrawal by April 1, 2016, and another by December 31, 2016. The second participant must make a RMD withdrawal by April 1, 2017 and another by December 31, 2017. For all subsequent years, the RMD must simply be withdrawn by December 31 in order to be credited for that year. If you don’t want to double up the distributions for your first and second RMDs, you can take the first RMD by December 31 of the year you reach age 70 1/2. By taking your first and second RMDs as originally described, you will be taxed on both distributions in that second year. This might result in adverse taxes to you.

Calculation of the RMD is fairly straightforward, although there is some math involved. For the first year of RMD, the participant could be age 70 or 71, depending on when the birthday falls. IRS determines your applicable age based on your age at the end of the year. According to the Uniform Lifetime Table (See IRS Publication 590 for more detail on other tables), the distribution period for a 70-year-old is 27.4, and 26.5 for a 71-year-old.

So if an individual participant has IRAs worth $100,000 at the end of the previous year and will be 70 at the end of the current year, dividing that balance of $100,000 by 27.4 produces the result of $3,649.64 – the RMD for that first year. For a 71-year-old, you would divide the $100,000 balance by 26.5 to render a RMD of $3,773.58.

Each subsequent year, you would take the balance of the accounts on December 31 of the previous year and divide by the distribution period from the Uniform Lifetime Table for your attained age for the current year, and make sure that you take a distribution of at least that amount during the calendar year.

Now, I made a point of indicating that you calculate your RMD based on the balance of all of your IRAs. This is because the IRS considers all of your traditional IRAs as one single account for the purpose of RMDs. You are required to take RMD withdrawals based on the overall total of all accounts. This withdrawal can be from one account, evenly from all accounts, or in whatever combination you wish as long as you meet the minimum distribution for all accounts that you own.

Another point that is extremely important to note: taking these distributions is a requirement. Failing to take the appropriate distribution will result in a penalty of 50% (yes, half!) of the RMD that was not taken. As you can see, it really pays to know how to take the proper RMD withdrawals – the IRS has very little sense of humor about it.

Understand that the examples I’ve given are for simple situations, involving the original owner of the account and no other complications. In the case of an inherited IRA or other complicating factors, or if the account is an employer’s qualified plan rather than an IRA, many other factors come into play that will change the circumstances considerably. If you need help on one of these more complicated situations, it probably would pay off in the long run to have a professional help you with the calculations.

Spousal IRAs for Stay at Home Parents

11431851765_6ccd5e459a_nMany parents make the decision that after their child is born one parent will stay at home to be with the child. Some of the reasons include saving on daycare expenses, and wanting at least one parent to bond and be with the child during those precious first few years of development.

Whatever the reason, the stay at home parent may leave a job and lose access to certain benefits – mainly their employer sponsored retirement savings plan. Although the stay at home parent has lost this benefit, it doesn’t mean that they have to stop saving for retirement.

One benefit the stay at home parent can take advantage of is the spousal IRA. Spousal IRAs aren’t a specifically titled IRA. In other words, the IRA needn’t be titled “Spousal IRA”. It’s simply an IRA in the stay at home parent’s name – no different than if they had an IRA and were currently working.

Generally, in order to contribute to an IRA a person needs to have earned income. This means W2 wages from employment. Since the stay at home parent is no longer working, this may seem like an insurmountable obstacle. The solution however is pretty easy.

The stay at home parent can still contribute to the Traditional IRA or Roth IRA as long as the working spouse has enough earned income for the stay at home spouse to make a contribution. For example, let’s assume that Mary is a stay at home parent and her husband Hank works a full time job earning $60,000 per year. For 2015, both Mary and Hank can make maximum IRA contributions of $5,500 to each of their IRAs (we’re assuming they’re under age 50). Hank is able to contribute off of his earnings and Mary is allowed to contribute since Hank has enough earned income and Mary takes advantage of this as his spouse.

Although Mary may have lost access to her prior company’s 401k plan, she can still save for her retirement as long as Hank has enough earned income. Finally, Hank and Mary’s contributions are limited to Hank’s earned income for the year. In other words, if Hank only had earned income of $8,000 for the year, he could put $5,500 in his IRA and only $2,500 in Mary’s IRA for a total of $8,000 – his maximum earned income for the year.

More information on IRAs and spousal IRAs can be found here. Or check out Jim’s book, An IRA Owner’s Manual.

Timing of Delay Credits

credit for delayingWhen you delay filing for your Social Security benefits past Full Retirement Age (FRA – age 66 if you were born between 1943 and 1954) you earn Delay Credits for each month that you delay. The credit amount is 2/3% per month, or a total of 8% for every 12 months of delay.

When you file for benefits after delaying, these credits are applied to your PIA. The timing of the application of your credits is not immediate, though. Delay credits are added to your benefit only at the beginning of a new year, so this can cause a bit of confusion as you begin receiving benefits.


For example, Janice was born on September 14, 1949, so she will turn age 66 on September 14, 2015. Janice’s PIA is $1,000. If you’ll remember from this post (When is Your Social Security Birthday), Social Security considers Janice to have reached FRA on October 1, 2015. Janice intends to delay filing for her Social Security benefits until her 68th birthday in order to accrue 16% increase to her benefits.

So upon reaching her 68th birthday, Janice contacts SSA and files for her benefit to begin in October, 2017. Beginning in October, Janice will receive a benefit that is equal to her PIA plus 10%, a total of $1,100 per month. She will receive this benefit for October, November, and December of that year.

Then beginning in January, Janice will receive an increase up to the full amount of delay credits, 16%, for a total benefit of $1,160 per month. Janice will continue to receive this benefit for the remainder of her life, unless at some point in the future she becomes eligible for a Spousal or Survivor Benefit that is greater than her own benefit.


There are two exceptions to the way that delay credits are applied: upon reaching age 70 or at your death. If you start your benefits at age 70, no matter what month of the year it is your full delay credits are applied to your benefit on the first month. Likewise, upon your death all delay credits are applied to your survivor’s available benefit no matter what month the survivor begins to receive the benefit.

Vacation Home Rentals and Your Income Taxes

vacation homeYou may have a vacation home that you only spend a small amount of time at each year, and the rest of the time you rent the home out to other folks who wish to vacation in your little slice of heaven. The rents that you receive is considered taxable income, to the extent that it exceeds the applicable expenses. Plus, if the vacation home is partly used for your own purposes, the expenses (allocated to the time the property is rented) cannot exceed the amount of rent income from the property (you can’t claim a loss).

Recently the IRS issued their Summertime Tax Tip 2015-03 which details some tips you should know about Vacation Home Rentals for your tax reporting purposes.

IRS Tips about Vacation Home Rentals

If you rent a home to others, you usually must report the rental income on your tax return. However, you may not have to report the rent you get if the rental period is short and you also use the property as your home. In most cases, you can deduct your rental expenses. When you also use the rental as your home, your deduction may be limited. Here are some basic tax tips that you should know if you rent out a vacation home:

  • Vacation Home.  A vacation home can be a house, apartment, condominium, mobile home, boat or similar property.
  • Schedule E.  You usually report rental income and rental expenses on Schedule E, Supplemental Income and Loss. Your rental income may also be subject to Net Investment Income Tax.
  • Used as a Home.  If the property is “used as a home,” your rental expense deduction is limited. This means your deduction for rental expenses can’t be more than the rent you received. For more about these rules, see Publication 527, Residential Rental Property (Including Rental of Vacation Homes).
  • Divide Expenses.  If you personally use your property and also rent it to others, special rules apply. You must divide your expenses between the rental use and the personal use. To figure how to divide your costs, you must compare the number of days for each type of use with the total days of use.
  • Personal Use.  Personal use may include use by your family. It may also include use by any other property owners or their family. Use by anyone who pays less than a fair rental price is also personal use.
  • Schedule A.  Report deductible expenses for personal use on Schedule A, Itemized Deductions. These may include costs such as mortgage interest, property taxes and casualty losses.
  • Rented Less than 15 Days.  If the property is “used as a home” and you rent it out fewer than 15 days per year, you do not have to report the rental income. In this case you deduct your qualified expenses on schedule A.
  • Use IRS Free File.  If you still need to file your 2014 tax return, you can use IRS Free File to make filing easier. Free File is available untilOct. 15. If you make $60,000 or less, you can use brand-name tax software. If you earn more, you can use Free File Fillable Forms, an electronic version of IRS paper forms. Free File is available only through the website.

You can get forms and publications on at any time.

Additional IRS Resources:

Advice to the Masses May Not Apply to Individuals

5bnlOa3Last week on my ride home from a meeting I had the opportunity to tune into a nationally syndicated talk show regarding personal finance. The host is very popular among listeners and has written several best sellers. Many churches and schools follow the financial program designed to educate individuals on how to set a budget, get out of debt and save for retirement. Generally, the advice given is applicable to many individuals.

Sometimes it’s not.

A listener called into the show and explained that she had approximately $100,000 in an annuity in an IRA. The annuity paid an interest rate of 2% and had a current surrender charge of 4% – just over $4,000. The caller was asking the host whether or not she should surrender the annuity and roll it over to a non-annuity IRA invested in mutual funds.

In a matter of seconds the recommendation was to surrender the annuity, pay the surrender charges of over $4,000 and find one of the host’s endorsed providers and find a mutual fund that pays 6%. The reasoning was that if the annuity was paying 2% and the surrender charge was 4%, the caller would need to find a fund that makes 6% to “break even.”

There are a few things not necessarily ideal in this situation. First, why wouldn’t the advice be to wait out the surrender period and still receive 2% interest? This was a guaranteed 2% rate! Second, why pay 4% in surrender charges to move from a guaranteed rate to a vehicle (mutual fund) that is not guaranteed? Admittedly, if the caller was looking for a higher potential rate of return, moving to a riskier investment makes sense. However, the host could have advised the caller to wait until the surrender period was over to make the move.

Finally, the caller doesn’t realize that moving their money to one of the endorsed providers ensures they’ll get a commissioned salesperson offering them front-loaded mutual funds. For many popular mutual fund companies a common break point (the point at which front end loads are reduced) for $100,000 in assets is 3.5%. This means that when the investor moves out of her annuity, they’re losing the 2% guarantee, 4% in surrender charges and another 3.5% in front end loads (commissions).

In other words, the investor would need to find a fund that would make them 9.5% in the first year just to break even. The advice on finding a mutual fund that pays 6% was not only inaccurate (mutual funds don’t have guaranteed rates) but the advice on only needing 6% to break even was erroneous!

I do agree that the annuity should be rolled over to a non-annuity IRA. Generally, an IRA annuity is overkill. You have a tax-deferred vehicle (the IRA) in a tax-deferred wrapper (the annuity)*. However, perhaps the advice would have been better if the host would have told the client to wait until the surrender charges were done (about a year or two) and then roll it over. On the host’s recommendation she’ll be out approximately $9,400 (9.5% based off of 6% lost in total from surrendering the annuity, and another 3.5% on the approximately $96,000 rolled over to the endorsed provider) and will need to make that in 1 year just to get into the black.

Generally, the advice on the host’s radio show is good for individuals needing to get out from under credit card debt or get control of their personal finances. However, this particular situation identifies an area of concern for listeners who otherwise wouldn’t know the true cost of the advice they’re receiving.


*Special thank you to David Hultstrom at Financial Architects for this terminology.

Traveling for Charitable Purposes

a horse named charitySometimes charitable work involves travel – such as for the Red Cross, for example. Did you know that your travel expenses for charitable work can be a tax deduction? Recently the IRS sent out a Summertime Tax Tip (2015-12) that outlines some valuable information about this deduction.

Tips on Travel While Giving Your Services to Charity

Do you plan to donate your services to charity this summer? Will you travel as part of the service? If so, some travel expenses may help lower your taxes when you file your tax return next year. Here are several tax tips that you should know if you travel while giving your services to charity:

  • Qualified Charities.  In order to deduct your costs, your volunteer work must be for a qualified charity. Most groups must apply to the IRS to become qualified. Churches and governments are qualified, and do not need to apply to the IRS. Ask the group about its IRS status before you donate. You can also use the Select Check tool on to check the group’s status.
  • Out-of-Pocket Expenses.  You may be able to deduct some costs you pay to give your services. This can include the cost of travel. The costs must be necessary while you are away from home giving your services for a qualified charity. All  costs must be:
    • Unreimbursed,
    • Directly connected with the services,
    • Expenses you had only because of the services you gave, and
    • Not personal, living or family expenses.
  • Genuine and Substantial Duty.  Your charity work has to be real and substantial throughout the trip. You can’t deduct expenses if you only have nominal duties or do not have any duties for significant parts of the trip.
  • Value of Time or Service.  You can’t deduct the value of your services that you give to charity. This includes income lost while you work as an unpaid volunteer for a qualified charity.
  • Deductible travel.  The types of expenses that you may be able to deduct include:
    • Air, rail and bus transportation,
    • Car expenses,
    • Lodging costs,
    • The cost of meals, and
    • Taxi or other transportation costs between the airport or station and your hotel.
  • Nondeductible Travel.  Some types of travel do not qualify for a tax deduction. For example, you can’t deduct your costs if a significant part of the trip involves recreation or a vacation.

For more on these rules, see Publication 526, Charitable Contributions. You can get it on at any time.

IRS YouTube Videos:

IRS Podcasts:

Personality Influences Financial Decisions

The recent volatility in the stock market has everyone a bit uneasy – even folks who have worked with a trusted financial adviser for years. But if you’ve never worked with an adviser before, you may be surprised to find that one of the first things he or she will do is ask you to fill out a risk analysis questionnaire. This questionnaire is designed to help you understand your financial decisionsdecisions and the process of making decisions. It’s all tied to your personality, your own unique world-view.

Why is risk analysis important before you make decisions with your money? Risk tolerance is an important part of investing – that should be understood at the outset. But the real value of answering a lot of questions about your risk tolerance is to tell you what you don’t know – how the sources of your money, the way you made it, how outside forces have shaped your view of it and how you’re handling it now will help shape every decision you make about money now and in the future.

The most important thing a risk analysis questionnaire can tell is what’s important about money to you. Trained financial advisers can determine your money personality through a process of questioning discovery. Planners can then guide investors within their money personality. Do you want certainty? Are you willing to take a little risk or let it roll because long-term results are more important than short-term volatility? Or will you take more risks with your money because you can always make more of it?

A financial planner tries to see through the static to find out what you really need to create a solid financial life. But it might make sense to ask yourself a few questions before you and your planner sit down:

  1. What’s important about money to me?
  2. What do I do with my money? What do I plan to do with my savings?
  3. If money was absolutely not an issue, what would I do with my life?
  4. Has the way I’ve made my money – through work, marriage, windfall – affected the way I think about money in a particular way?
  5. How much debt do I have, what kinds of debt, and how do I feel about it?
  6. Am I more concerned about maintaining the value of my initial investment or making a profit from it?
  7. Am I willing to give up that stability for the chance at long-term growth?
  8. What am I most likely to enjoy spending money on?
  9. How would I feel if the value of my investment dropped minimally for several months? How about significantly over several months? What is a significant drop in value to me?
  10. How would I feel if the value of my investment dropped minimally or stayed constant (no growth) for several years?
  11. If I had to list three things I really wanted to do with my money, what would they be?
  12. What does retirement mean to me? Does it mean quitting work entirely and doing whatever I want to do or working in a new career full- or part-time? Or would I take on volunteer work in retirement?
  13. Do I want kids? Do I understand the financial commitment?
  14. If I have kids, do I expect them to pay their own way through college or will I pay all or part of it? What kind of shape am I in to help with paying for their college education?
  15. How’s my health and my health insurance coverage?
  16. What kind of physical and financial shape are my parents in? Are they enjoying retirement, and what does retirement look like for them?

One of the toughest aspects of getting a financial plan going is recognizing how your personal style, mindset, and life situation affect your investment decisions. A financial professional will understand this challenge and can help you think through your choices. Your resulting plan – from investments to insurance, savings to estate plans – should feel like a perfect fit for you.

Everything But The Retirement Plan!

drawing retirementConventional wisdom says that when you leave a job, whether you’ve been “downsized” or you’ve just decided to take the leap, you should always move your retirement plan to a self-directed IRA. (Note: when referring to retirement plans in this article, this could be a 401(k) plan, a 403(b), a 457, or any other qualified savings deferral-type plan).

But there are a few instances when it makes sense to leave the money in the former employer’s plan.  You have several options of what to do with the money in your former employer’s plan, such as leaving it, rolling it over into a new employer’s plan, rolling it over to an IRA, or just taking the cash.

The last option is usually the worst. If you’re under age 55 you’ll automatically lose 10% via penalty from the IRS (unless you meet one of the exceptions, including first home purchase, healthcare costs, and a few others), plus you’re taxed on the funds as if it were ordinary income. For the highest bracket, this can amount to losing nearly 50% or more of the account balance to taxes and penalties.

In addition, by cashing out you’re derailing the retirement fund that you’ve put so much effort into setting aside. If you cash it out, you’ve got to start over from scratch and you’ve got less time to build the account back up. A 2005 change in the tax law requires your old employer to automatically roll over your account into an IRA if it is between $1,000 and $5,000 (if you don’t choose another option), to keep folks from cashing out. If your account balance is more than $5,000, the old employer is required to maintain your account in the old plan until you choose what you’re going to do with it.

Another option has become available for your old account: you can roll these funds over into a new employer’s retirement plan, as long as the new plan allows it. In many cases this may make good sense, especially if the new plan has good investment choices and is cost-effective.

If the new plan doesn’t suit you or you’d like more control over your investment choices, you can always roll the funds from your old employer’s plan into an IRA. You’ll then be able to decide just how you want to allocate the investments, choosing from the entire universe of available investment options, rather than the limited list that many plans have available. Caution is necessary when doing this type of rollover, as a misstep could cause the IRS to treat your attempted rollover as a complete distribution, having the same tax effect as cashing out. Always choose a direct transfer to the IRA (rather than a 60-day rollover) and seek the help of a professional if you are unsure about how to deal with this situation.

But when would you leave the funds at the old employer? If the old employer’s plan is a well-managed, low-cost plan, and you’re happy with how your investments have done, then you might just want to leave it where it is. In addition, if you happen to be over age 55, you have the option available to access the funds immediately without penalty, rather than waiting until age 59 1/2 – but only if you leave the funds in the original employer’s plan. Plus, if your plan is a 457 plan (generally only available to governmental employees, such as with a state or local government), you may be able to tap the plan upon your ending employment without penalty as well.

Another good reason to leave the fund at the old employer is if you believe that there is a high probability that you may return to employment with this same employer. Especially in the case of working for a governmental unit, it probably makes sense to leave those funds in the old plan when you think there is a better than average possibility that you may return to work with the government (even another agency). This is because there are benefits available in some governmental plans that you would be giving up if you moved your account to an IRA, and you’re not likely to be able to move those funds back when you return.

So – hopefully this quick conversation has helped to clear up some questions, and perhaps it has brought up some new questions for you.