At some point in almost everyone’s lifetime they have gone through the process of changing jobs. Many times those jobs offered retirement plans such as 401(k)s 403(b)s, etc. Conventional wisdom would say that for most employees it may make sense to roll their employer sponsored plan into an IRA. Based on a request from a reader (thanks David!), I thought I would go over some of the issues to consider before rolling your employer sponsored plan to an IRA.
The IRS recently published the new contribution limits for various retirement plans for 2015. These limits are indexed to inflation, and as such sometimes they do not increase much year over year, and sometimes they don’t increase at all. This year we saw a few increases for some contribution amounts, and the income limits increased for most types of accounts after virtually no changes to the contribution amounts in 2014.
Long term care insurance is insurance that will pay in the event that an individual needs caregiving due to a number of afflictions or diseases. For example, if an individual is suffering from Alzheimer’s disease or dementia they made needs round the clock care. Generally, that care is provided by family members, with the majority of caregivers being daughters and spouses of caregiver.
The costs for needing long term care can be expensive. Depending on the area of the country, care can range from $50,000 to $80,000 per year to stay in a nursing home and may run in the range of $20 to $30 per hour for care outside of the home. Based on the numbers above, long term care expenses can quickly drain an individual’s retirement savings, or other assets that were planned for other uses.
If you’re wondering about whether or not you need to do some financial planning, either on your own, using resources on the internet, or by hiring a financial planner, you might want to know what the benefits of financial planning are.
From my perspective of many years providing financial planning and advice to folks, there are three primary benefits of financial planning: Organization, Efficiency, and Discipline. We’ll talk about each of these in order.
One of the most important benefits of financial planning is ORGANIZATION. Statistics tell us that fewer than 25% of Americans know their financial net worth. In addition, (prepare to be astounded) the average individual’s credit card debt is over $8,000. Think about that for a moment…
We knew when Obamacare went into place that there would be new requirements for income tax filing, and one of the first to deal with is the health premium tax credit. This will require the use of a new form, Form 8962.
Health Premium Tax Credit
For this tax credit you will need to reconcile your advance credits that you have received in the form of reduced subsidized healthcare premiums.
The last few weeks have shown that the market is certainly volatile. Once at a peak of over 17,000 the market has pulled back to just over 16,000. While this certainly makes for news (notice how I didn’t say interesting news) I wanted to give our readers a little perspective on why I (nor they) shouldn’t care.
Recently a colleague told me that he’d “give that a try”. I responded (tongue in cheek of course) “Try not. Do or do not. There is no try.” In case you don’t recognize it, that’s a line that Yoda gives to Luke Skywalker in the Star Wars “Empire Strikes Back” movie. Yoda was pointing out to Luke that if he simply “tries” to undertake the action, he will not succeed. I think it shows that Yoda would also suggest a low-cost index mutual fund for investing.
If you think back to the excellent article that Sterling wrote a few weeks ago, “Not All Index Funds are Created Equal”, Sterling used a particular load mutual fund as an example. The objective of the fund (paraphrasing here):
Seeks to match the performance of the benchmark…
Let’s analyze that objective. The “benchmark” in question is an index, in particular the S&P 500 index. And the term “seeks” can be interpreted as “tries”. So the fund tries to match the performance of the S&P 500 index. It is the act of “trying” that causes costs to go up. All that “trying” by the fund manager(s) costs money after all – there are yachts to buy don’t you know?
So anyhow, if our objective as investors is to match the performance of the benchmark, why not invest in the benchmark via a low-cost index fund rather than in a fund that wastes a lot of effort (and money) “trying” to match the benchmark?
I think Yoda would heartily approve.
M. Barton Waring does an excellent job in his book Pension Finance. The book essentially covers what’s wrong with the way conventional accountants and actuaries think using conventional math and accounting practices to justify the payments (or lack thereof) funding corporate and municipal pensions.
A concept talked about at length in the book is the idea of long-term average returns and how many pension actuaries rely on them to determine funding. Mr. Waring would argue that there is too much reliance on the long term average returns thus allowing pension actuaries to fund their pensions with less money due to assuming higher rates of return.
Instead, one of the areas that may help the crippling pension system in the US is to get realistic about long term returns and use a combination of a smaller returns, and bigger contributions (among others).
The book is heavy on the analytic side (great for our quant readers) but offers substantial insight in plain English on what led to the current pension crisis while offering a mathematically possible solution that relies on real numbers and not hypothetical long term average returns.
- See a lawyer and make a Will. If you have a Will make sure it is current and valid in your home state. Make sure that you and your spouse have reviewed each other’s Will – ensuring that both of your wishes will be carried out. Provide for guardianship of minor children, and education and maintenance trusts. If you have divorced and remarried, make sure that your retirement account beneficiary designations are up-to-date reflecting your current situation.
- Pay off your credit cards. Forty percent of Americans carry an account balance on their credit cards or other personal credit – this is not good for your financial future. Create a systematic plan to pay down your balances. Don’t fall into the “0% balance transfer game” as it will hurt your FICO score. Credit scores matter not only to credit card companies but to insurance companies and future employers as well; you can avoid an unpleasant increase in your insurance rates by managing your credit wisely.
- Buy term life insurance equal to 6-8 times your annual income. This is primarily true for younger folks who have financial obligations to cover with future income. Most consumers don’t need a permanent policy (such as whole life or universal life). Also consider purchasing disability insurance; think of it as “paycheck insurance.” Stay-at-home spouses need life insurance, too! Note: Each family’s needs are different. Some families have a need for other kinds of life insurance, so you should review your situation carefully with an insurance professional (preferably two or more) before making decisions in this area.
- Build a 3 to 6 month emergency fund. This helps you to keep from having to charge up your credit cards when life’s emergencies strike. In the interim, before you’ve built up your fund, you can establish a home equity line of credit before you need it – this can take the place of part of your emergency fund.
- Don’t count on Social Security too much. Since the projections show that in the future the most that can be paid out for Social Security obligations is around 77%, you should adjust what you expect to receive – especially if you are age 50 or younger. Make up for this by funding your IRA each and every year. If you don’t fund these accounts annually, you lose the opportunity to increase your tax-deferred savings. Fund a Roth IRA over a traditional IRA if you qualify.
- If offered, contribute to your 401(k), 403(b) or other employer-sponsored saving plan. Just the same as with your IRA, if you don’t take advantage of the opportunity to defer funds into these savings vehicles, you lose the opportunity. In addition, if you don’t participate in the plan, you lose the chance to receive the matching funds from your employer.
- Use your company’s flex spending plan to leverage tax advantages. If you don’t use your flex plan annually, you lose the opportunity – and the tax advantages – for that year.
- Buy a home if you can afford it. Maintain it properly. Build equity in your property. You’ll have much more to show for your money spent than a box full of rental receipts! This is also about more than your financial future – studies show that home ownership adds to peace of mind and improved quality of life.
- Use broad market stock index funds to reduce risk and minimize costs. Indexes are a simple way to diversify, and they can have very low costs but you have to pay attention to make sure you’re getting a low-cost index. Diversification reduces risk of single securities (see #10) and reducing costs is one of the best things you can do to improve your overall investment results. If you have limited options, for example in your 401(k) plan, make sure that you diversify across a broad spectrum of options.
- Don’t over-weight in any one security, especially your employer’s stock. As a rule of thumb, keep exposure to any single stock to less than 5% of your overall portfolio. If you over-expose to a single stock and that company goes bankrupt, you’ve lost a significant portion of your portfolio. It can happen easily, history is littered with good companies that went bad.
I have two daughters and it has given me the pleasure of seeing them grow up and get excited about even the little things like chasing butterflies or finding a lucky penny. My kids find lucky pennies all the time. In fact, they find lucky coins all over the place. Some are by chance as we’re walking down the sidewalk and other times it’s a lucky coin that I may place in an inconspicuous place so they stumble upon it and find it (sometimes it’s fun creating luck for my kids).
Whether they find the coin by luck or otherwise, it gives me a great opportunity to teach them. After the excitement of the find goes away, they get even more excited when I ask, “Where should we put that lucky coin?” With glee they almost always reply, “In the piggy bank!”
I feel parents can teach their kids about money even if it’s starting with something as small as a penny. From lucky coins to birthday money it’s OK to teach your kids about saving a little bit, giving a little bit and spending some as well. I don’t think there’s too-young an age to start doing this. And by starting early, your kids will get excited about saving and this can potentially be less burdensome if they were to try at say – age 21.
Some readers may question how they can teach their kids about money or even feel that they can’t be effective teachers since they may not be as financially stable or literate as they would like. They needn’t worry. It’s an excellent way for parents to learn with their kids and they can both enjoy the benefits of working together. Parents can learn and then teach by example and simultaneously show their kids how to save.
As kids grow up, parents can then teach them how to save from the piggy bank to the savings account and even investments such as stocks, bonds and IRAs. Having been taught the basic fundamentals of just saving and not spending all their money, kids can learn the value of investing, and the miracle of compound interest.
Finally, teaching your kids about money ultimately empowers them to control their money, and not have their money control them. They’ll grow up seeing money as a tool, as a currency, and as an asset they can accomplish great things with – not as a conundrum, enigma, or something to worry or argue about – or worse, something they fear.
Recently the IRS issued a Notice, 2014-54, which details some information regarding the allocation of pre-tax funds from a qualified plan (such as a 401(k) plan) into a Roth IRA. This is a clarification of a question that has been on the minds of folks in the financial services industry for some time, and it’s a good result. Now the question becomes: does this help to clarify NUA basis allocation strategies?
What I find interesting about this Notice is that this is the first time that the IRS has used this interpretation of the rules referenced specifically in IRC Section 402(c)(2), which is the code section I’ve referenced before regarding allocation of basis for Net Unrealized Appreciation (NUA) treatment for employer stock. (See more information in this most recent article NUA Allocation Twist – Not as Easy as it Looks.) The problem (outlined in the article) has been that plan administrators are unwilling to attempt applying the allocation of basis in an NUA transaction because there has never been any guidance from the IRS on such an allocation of basis. Notice 2014-54 may be the first step toward such guidance.
I’ve sent queries to the best minds I know in the retirement plan law universe to get additional insights into this concept – and as yet have not received a confirmation either way. I think this is a step in the right direction, but don’t get too excited yet.
I’ll keep you posted.
When saving and investing for retirement many folks as well as advisors helping those folks plan save and invest for retirement generally will have the conversation that includes how much they can save per month or year, how much they need at retirement and how long they have to save until retirement.
Essentially, all of the ingredients in the previous paragraph boil down to a phrase mentioned many times in financial planning classes as well as courses in finance, investing and business: the time value of money.
The time value of money helps individuals and businesses figure out how much they need to save, earn, and spend in order to achieve certain financial goals. What it boils down to is what is a dollar worth, if not spent today, and instead invested and allowed to grow for tomorrow (the future).
Since there’s been an appreciable run-up in stocks over the recent past, now may be a good time to reallocate your investment allocations in your retirement plans and other accounts. You’ve probably heard of reallocation before – but what does it really mean?
Reallocating is the process of changing your current mix of investments to a different mix. It could be that you’ve changed your risk assessment and wish to have more stock and fewer bonds, vice versa, or your investments have grown in some categories from your original allocation and you need to get the mix back to where you started.
At any rate, reallocation is a relatively simple operation, and research tells us that it is important to reallocate regularly, such as on an annual basis. Below are five steps that you can use for a simple reallocation in your accounts.