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TWO 5-year Rules for Roth IRAs

Feb 27th, 2019
by Jim.
5 comments

In case the rules surrounding Roth IRAs weren’t confusing enough so far, there are actually TWO 5-year rules that can apply to your Roth IRA account.

5-Year Rule #1: The Account’s Age

mollys-5-year-rule

Photo credit: diedoe

The first 5-year period begins on January 1 of the tax year when you established and first funded the account. This 5-year rule is important in determining if any distributions you receive from the account are qualified. In order to be qualified, a withdrawal must occur at least 5 years after the account establishment date (January 1 of the year you first funded the account). In addition to the 5-year rule, one of the following conditions must also apply in order for your distribution to be considered qualified:

See the IRS’ flowchart in Figure 2-1 (page 30) at this link in order to determine if your distribution is qualified.

5-Year Rule #2: Age of a Conversion

The second 5-year rule applies to a 5-year period beginning on January 1 of the year of a conversion to a Roth IRA from a traditional IRA or from a qualified retirement plan such as a 401k. If any amount that was subject to taxation during the conversion is distributed before the 5-year period is complete will be subject to an additional 10% penalty applied to the distribution. This would also include post-conversion earnings on all amounts converted within the prior 5 years.

There are several exceptions to this rule, listed here:

  • You have reached age 59½
  • You are disabled
  • You are the beneficiary of a deceased IRA owner
  • You use the distribution to pay certain qualified first-time homebuyer amounts
  • The distributions are part of a series of substantially equal payments (SOSEPP)
  • You have significant unreimbursed medical expenses
  • You are paying medical insurance premiums after losing your job
  • The distributions are not more than your qualified higher education expenses
  • The distribution is due to an IRS levy of the qualified plan
  • The distribution is a qualified reservist distribution
  • The distribution is a qualified disaster recovery assistance distribution
  • The distribution is a qualified recovery assistance distribution

Why These Rules Are Important: Distribution Ordering Rules

The two 5-year rules come into play when considering the order in which distributions are attributed. The IRS has specific rules determining which money is coming out of your account based on the source. The distribution ordering rules determine how each distribution is to be treated, depending on if it’s qualified or not. The order of distribution is as follows:

  1. Regular contributions (this is your annual contribution amount to the account, not rollovers or conversions)
  2. Conversion and rollover contributions, on a first-in, first-out basis. This means that the total of conversions and rollovers from the earliest year are distributed first. These conversions and rollovers are further sorted as follows:
    1. Taxable portion (that portion that was taxed during the conversion or rollover) is distributed first, followed by the
    2. Non-taxable portion (any amounts that were not taxed during the conversion)
  3. Earnings on all contributions

It should be noted that, in determining the amounts for #2 (conversion and rollover contributions) that certain aggregation rules apply:

  • Add all distributions from all your Roth IRAs during the year together.
  • Add all regular contributions made for the year (including contributions made after the close of the year, but before the due date of your return) together. Add this total to the total undistributed regular contributions made in prior years.
  • Add all conversion and rollover contributions made during the year together. For purposes of the ordering rules, in the case of any conversion or rollover in which the conversion or rollover distribution is made in 2018 and the conversion or rollover contribution is made in 2019, treat the conversion or rollover contribution as contributed before any other conversion or rollover contributions made in 2019.

Of course, the regular contributions can always be taken out of the account tax free (no 5-year rule applies). After that, the two 5-year rules kick in on the rest of the types of funds in your account.

Posted on Feb 27th, 2019
by author: Jim.

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Posted in: Early Distribution, IRA, tax.
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Hidden Costs to 401k Plans and Who Pays These Fees

Feb 25th, 2019
by Jim.
2 comments
hidden fees

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It should not come as a shock that there are certain fees involved in maintaining a 401k plan – there is a degree of back office activity, such as signing up participants, tracking accounts, maintaining changes to accounts, distributing statements, and the like.  In addition, the plan administrator must provide certain reports to the government, along with required annual reports for participants (that annual Summary Report, written on cigarette paper, that you get in the mail once a year and promptly toss in the trash), as well as reports to the management of the sponsoring company on plan participation rates and such.

You would likely expect to share in the cost – after all, it’s benefiting your account, right? – and it seems like that sharing should be based on your account balance or at worst evenly distributed among all participants.  However (and there’s always a however in life)… depending upon your fund choices, you may be paying more toward those back office activities than the guy in the cubicle next to you.

Turns out, the more inherent fees in an investment choice, the greater portion of the overhead you’ll be taking on (in general).  If you’re in a money market account or (shockingly) the company stock, you might not pay any overhead.  If you are in a managed mutual fund, you could be paying as much as 0.6% in annualized overhead fees.  As with most things surrounding 401(k) fees, it’s not very clear just how these costs are allocated – and quite likely not very fair in the long run.

These fees are disclosed to you, by law, ever since the fee-disclosure rule went into effect in 2012. Under that rule, plan administrators are required to mail you a quarterly statement showing your investments’ rates of returns, investment-related fees, and expenses, including any amounts the plan deducted from your account to cover administrative expenses.

Like many documents surrounding your 401k plan, these are long-winded and confusing. Most participants in 401k plans don’t even know that this information is disclosed to them, and among the ones that are aware, a paltry few actually take action based on the disclosed information.

Three types of fees

There are three different categories of fees in the typical 401k plan:

  • Administrative fees
  • Investment fees
  • Individual service fees

Of these fees, the Administrative fee is typically a per-account fee, such as $30 per year. This covers all of the back-end paperwork that each account, no matter the size, has to shoulder.

Investment fees are specific to the investments you’ve chosen, and can range quite wide. Depending upon the share class of the investments you have in your portfolio (in your 401k), you might be paying 1-2% annually in marketing and fund management fees. This one is the hardest to find (because it’s buried in a prospectus), but it is also likely the fee that causes the most drag on your account’s returns over time.

Individual service fees are based on actions you’ve taken with your account, such as taking out a loan against your 401k plan balance.

All of these fees cause a drag against your returns, but as mentioned previously, the investment fees are (potentially) the most harmful. Looking into these fees and adjusting your holdings to avoid the highest investment fees can make a huge difference in the long-term results.

For example, if you put $200 every payday ($5,200 a year) into your 401k, with an average return of 8%, you’d anticipate a balance of approximately $324,000 after 30 years. With an expense ratio of 1.2% on your mutual fund, however, the resulting balance would only be approximately $255,000. Changing from a mutual fund with a 1.20% expense ratio (another term for the investment fees) to one with a 0.30% expense ratio could bolster that result up to approximately $305,000 – an increase of $50,000!

You can look up the expense ratios for your 401k holdings pretty readily, most often by going to the plan administrator’s website. There, you should be able to find each offering’s expense ratio with a bit of searching. Swapping out the expensive fund for a less expensive alternative (but keeping the same asset class!) should be a relatively simple activity. It takes some time, but look at it this way: if you spend an hour doing this and the results are similar to the example above, you could be making $50,000 an hour for your work!

Posted on Feb 25th, 2019
by author: Jim.

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Posted in: fiduciary, financial planning, investing.
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The Granddaddy of ’em All: Keogh Plans

Feb 20th, 2019
by Jim.
2 comments

Ah, the poor, misunderstood and neglected Keogh (KEE-og) Plan. You don’t get the press that your fancy relatives 401(k), IRA and Roth, or even SIMPLE achieve… it seems as if the investment discussion world is completely abandoning you.

keogh angels

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First brought into existence in 1962 (yes, it’s a late-boomer like me!) the Keogh or HR10 plan is essentially a vehicle that allows the self-employed to establish pension plans just like the big companies can. A Keogh plan can be either a defined benefit (traditional pension) or a defined contribution (such as a 401(k)) plan.

The Keogh plan has the same attributes as many other qualified plans, including the age 59½ limit for qualified withdrawals, as well as the age 70½ required minimum distribution rules. Depending upon the type of plan established, you can invest in most common investment vehicles within a Keogh plan.

The real benefit of a Keogh plan over a SIMPLE or other types of plans available to small employers is in the higher limit for contributions. In the Keogh plan, up to $56,000 (for 2019) can be contributed and deducted, limited to 25% of the overall compensation of the employee.

Alternative retirement plan vehicles such as the solo 401(k) plan have lessened the need for the Keogh plans in the defined contribution arena. However, for establishment of a defined benefit pension plan or a money purchase pension plan, the Keogh remains a very important piece of the puzzle for sole proprietorships and other unincorporated businesses.

One particular downside to the Keogh plan: If you have no employees, your Keogh plan is not necessarily protected from creditors. If there are employees in the plan (other than owner/partners) then ERISA law protects the accounts from creditors, but without employees, ERISA has no jurisdiction over these accounts, and your assets may be subject to creditor claims, depending upon applicable state laws. Just something to keep in mind with the Keogh.

You’re eligible to participate in a Keogh retirement plan if you are:

  • self-employed, a small business owner, or an active partner in an unincorporated business who performs personal services for the company
  • a sole proprietor who files Schedule C
  • in a partnership whose members file Schedule E (in this case, the partnership, not you, must establish the Keogh plan)
  • working for another company, but working for your own business as well (for example, if you’re a writer with a day job and you’re earning royalties on your first book, the royalties count as self-employment income)

You are not eligible to participate if you are:

  • a salaried worker for an incorporated business, with no other source of income
  • retired and not receiving compensation from a business
  • a volunteer at the business that offers the plan
Posted on Feb 20th, 2019
by author: Jim.

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Posted in: financial planning, investing, retirement plan.
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Why We Include Real Estate in Investment Portfolios

Feb 18th, 2019
by jblankenship.
2 comments

We construct portfolios out of various asset types in order to diversify, or spread out our risk. To spread risk we choose multiple asset types of differing profiles. Most often these asset types include domestic equities (US-based stocks) and domestic fixed income (US-based bonds), which provide for basic diversification. Then, we include additional asset types in order to achieve further diversification. Examples of additional asset types include commodities, foreign equities, foreign-denominated bonds, and real estate.

It is important to keep in mind as we review various asset classes for inclusion in our portfolio, that we must achieve appropriate return for the inherent risk associated with the specific asset class in question.

Why Include Real Estate?

real estate

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It is for that very reason that we choose to include real estate as a component of the well-rounded portfolio: due to real estate’s ability as an asset class to deliver a greater reward-to-risk ratio than most any other asset class. This goes, in general, for both personally-owned real estate and real estate owned via Real Estate Investment Trusts (REITs). REITs are like a mutual fund of real estate holdings, primarily commercial real estate holdings.

During periods of high inflation (as we may experience again soon), residential real estate has always provided a good hedge against rising inflation – even in times when some residential real estate loses value.  The fact remains that, although at times many folks have been hit and hit hard devaluation of real estate, present value of real estate is generally expected to appreciate at a greater pace than inflation in the long run.  On the downside, commercial real estate doesn’t always share residential real estate’s inflation-hedge benefits.

Global commercial real estate tends to provide the opportunity to benefit from currency gains when domestic inflation is higher than that of the countries that you (or your REIT) hold property in.  This is a similar benefit to owning foreign-currency bonds.

In a period of deflation, another similar benefit is found, although it is more related to the appreciation of foreign currencies due to appreciating yields. The greater benefit during deflationary periods is found because commercial property rental rates tend to lag the market, which in turn produces real gains to the owner of commercial property.

As we know, during a normal (not overly inflationary or deflationary) economic period, residential property (directly owned, as in “your own home”) provides both an economic benefit and many emotional ones. Commercial property provides not only a generally more stable return with generally less risk than equities, with generally a higher return than can be found with bonds. In other words, the reward-to-risk ratio that you achieve with real estate is greater than with bonds or real estate, although the risk is different.

Correlation

We use a term – correlation – when describing how various asset types are affected by similar circumstances. If, for example, when one asset increased in value by 10% and a second asset class always increased by the same amount, 10%, then we would indicate that the two asset classes are perfectly correlated. If another asset class only followed the first asset class about half the time, sometimes increasing more, sometimes less, or even decreasing when the first increases (or vice versa), then we might indicate that this third asset class is 50% correlated to the first asset class. (The math is much more complex than this, but I wanted to give you an easy-to-follow example.)

By investing in the first and third asset classes in equal amounts, it stands to reason that we’d benefit by having different sorts and degrees of risk that affect our investments, and not all of our funds would be negatively impacted at any one time. Real estate is just such an asset class, when related to equity or stock investments. Historically speaking, real estate in general is only about 40% correlated with equities, making it a very good diversifier.

Bottom Line

I realize that you may not necessarily agree with all of this in light of what we’ve seen happen not so long ago in the real estate world, but there is reason to believe that the same sorts of returns will continue in the future for commercial real estate. Plus, it is very important to keep in mind that real estate should be only a small part of your overall allocation – in no case have I recommended more than a 5% to 10% allocation to this investment class.

Posted on Feb 18th, 2019
by author: jblankenship.

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Posted in: investing, real estate investment.
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Roth or Pre-Tax 401(k)?

Feb 15th, 2019
by sraskie.
2 comments

delaying_social_security

As an employee of a company you may have access to a 401(k). A 401(k) is an employer-sponsored (offered) retirement plan that allows you to save money for retirement. Sometimes your employer may provide a match based on a percentage of your contributions.

Your employer may give you the option of saving to a pre-tax account or a Roth account. A pre-tax contribution means that your contributions are made to your account before federal and state taxes are applied to your paycheck. A Roth contribution means that taxes are taken first, then the contribution goes to your account. This is also known as an after-tax contribution.

If you make pre-tax contributions, you avoid tax now, but then are taxed when withdrawals are made in retirement. If you make Roth contributions now, you’re taxed today, but withdrawals in retirement are tax-free.

It can make a lot of sense to contribute to your Roth 401(k) for a few reasons.

  1. If you’re in a lower tax bracket now, you’ll pay less tax on your contributions today, and avoid taxes in retirement when taxes rate may be higher, or your income is higher and taxed at a higher rate. This is especially true for young college grads in their first job.
  2. The bulk of your money in your account will eventually be growth of your investments and reinvested dividends. With a Roth account, this will be tax-free when withdrawn at retirement.
  3. Having tax-free income in retirement means that your Social Security benefits may not be subject to taxation; since qualified Roth distributions are not taxable income.
  4. Mentally, not having to pay any (or very little) tax in retirement can be reassuring when it comes to planning for expenses, distributions, and bequeathing.
  5. It may mean that since your Roth distributions are not being taxed, any long-term capital gains may be subject to zero tax.
  6. You may not be able to make Roth IRA contributions (your income may be too high). A Roth 401(k) doesn’t have income restrictions.

Personally, I favor Roth contributions. I like the tax-free benefit of qualified distributions in retirement. It should be noted however, that any employer match to a Roth 401(k) will be made to a pre-tax account (as the employer is allowed a tax deduction for the matching contribution). Your employer match will not be Roth dollars.

This should not be a discouragement from saving to your Roth 401(k).

Posted on Feb 15th, 2019
by author: sraskie.

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Posted in: 401 k, 401k, after-tax, after-tax contributions, retirement, retirement accounts, roth 401 k, Roth 401(k), Roth 401k.

Doing All The Right Things

Feb 13th, 2019
by jblankenship.
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I am diabetic.

right things things right

Photo credit: jb

This is one of those situations we’re dealt in life that requires changes – and paying attention to a lot of stuff we never wanted to pay attention to. Like eating right, exercising, taking appropriate meds, and monitoring and adjusting. It’s a lifestyle change.

What I’ve continued to notice is that, even when I do most of the right things – I exercise regularly, walking for 45 minutes a day, stay away from sweets, take the right meds at the right times, and monitor things closely – I can still wind up with a high blood glucose level.

How can that be?  Well, it turns out that just staying away from sweets and sugars isn’t the whole answer – I also need to refrain from most starchy foods and have more proteins and vegetables in my diet.  Frustrating?  You bet.  Futile?  Not completely – I just need to do ALL of the right things.

So what does all this have to do with financial stuff?

Most folks are or have been in a similar position with their investing and savings activities.  We thought we were doing the right things.  Turns out it was only some of the right things.  We are putting money aside into our 401(k) and IRA plans, taking advantage of tax rules in our favor, spreading our money out among five, seven, nine different mutual funds, and well, keeping debt “in check”.

Unfortunately, saving and investing while just keeping debt in check isn’t the whole answer.  If we’re not prepared for a financial downturn with emergency funds, the debt situation can sneak up and cause lots of problems with our personal cash flow.  Lots of folks who work for the federal government experienced this problem recently. Lots of formerly “in check” debt is coming dangerously close to getting out of check.

Additionally, the idea of diversification needs to be better understood and applied.  Just because you’ve spread out your money among umpteen different funds, it won’t help a bit if all of those funds are subject to the same economic factors correlated in their reaction to changes.  To be properly diversified, a portfolio should include components that are not in any way related to one another. With this diversification, when an economic downturn affects the US domestic large-cap equity market, only that portion of our portfolio that is invested in large-caps is impacted.

The remainder of our portfolio, properly diversified into asset classes such as real estate, foreign and domestic bonds, foreign equity markets, commodities and other sized companies, will have reacted differently to the negative impact in the domestic large-cap equity market and the overall effect is lessened dramatically.

Granted, even the best diversification strategy would not have kept you from experiencing paper losses during the economic downturn we experienced late in 2018. Your overall result would have been much better than most folks (with concentrated positions) saw, and you would be much closer to “whole” at this stage. Frustrating?  You bet.  Futile?  Of course not – we just need to continue to do ALL the right things.

One last parallel with my health situation to our financial situations – continuous monitoring and adjusting is necessary, as is patience.  As I mentioned before, I need to check my blood glucose level regularly and make adjustments to my diet and such to help ensure that I’m staying within manageable levels.  Oftentimes it gets frustrating because I believe I’ve done all the right things and my level is still off.  Then I’ll realize that maybe I didn’t exercise quite as much that particular day or perhaps I ate something I shouldn’t have.  No matter, it’s passed by, the only thing that can be done is to resolve to do it right for the next day.

This is what we’ve got to do, now, in our financial lives.  Continue doing all of the right things we were doing before, and make those changes and adjustments that we need to make (diversify appropriately, eliminate debt, have emergency funds, don’t buy more than you can really afford – of anything), and monitor the outcome.  And be patient.  Too many folks nearing retirement are looking at their account balances and figuring now is the time to make aggressive investment choices in order to “catch up”.  There is another way to catch up, a much more assured way:  put more money into a properly-diversified portfolio.  Work a little longer than you expected.  It’s not fun, and it’s not what you had in mind, but it’s necessary for you to be able to face retirement with a healthy source of income.

If you have additional ideas on this subject, I’d be happy to hear from you – leave a comment!

 

Posted on Feb 13th, 2019
by author: jblankenship.

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Posted in: financial planning.
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Medigap Plan C and Plan F are going away

Feb 11th, 2019
by Jim.
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The following is an expansion of an excerpt from the book A Medicare Owner’s Manual. This book was published in January, 2019 and is available on Amazon.

decision Plan C Plan F

With the passage of the Medicare Access and CHIP Reauthorization Act of 2015 (MACRA), Medigap Plan C and Plan F will no longer be available beginning in the year 2020. This is due to the fact that these plans pay for the Medicare Part B deductible, and the MACRA law eliminates Medigap plans that provide this coverage.

If you have enrolled in a Medigap Plan C or Plan F prior to 2020 you may be able to keep the plan, but you will not be able to change to a new policy of Plan C or Plan F with a starting date of January 1, 2020 or later.

Plus, if you were eligible for Medicare, either by virtue of your age (65 before 2020) or by disability or end-stage renal disease (ESRD) before 2020, you can still purchase a Medigap Plan C or Plan F, even if you had another plan previous to 2020.

MACRA

The Medicare Access and CHIP Reauthorization Act had many facets. The primary provisions are:

  • changes to the way providers are reimbursed by Medicare
  • changes to funding provisions
  • an extension of the Children’s Health Insurance Program (CHIP)

So the provision we’re interested in was actually just an add-on, put in place to eliminate a class of benefit that Congress deemed was inappropriate to the way the Medicare system should work. Specifically, under Medigap Plan C and Plan F, even the first dollar of cost (of Medicare Part B) to the enrollee is covered. Plan C and Plan F both have complete coverage of the deductible for Medicare Part B. For 2019, the Medicare Part B deductible is $185.

If you request a Medigap Plan C or Plan F from your insurer and you first became eligible for Medicare in 2020 or later, you will instead get a Medigap Plan D or Plan G, respectively. Plan D is identical to Plan C, except for the Medicare Part B deductible coverage. The same applies for Plan G – it’s identical to Plan F except for the Medicare Part B deductible coverage.

In addition, since there is a high-deductible Medigap Plan F, there will be a new option, a high-deductible Medigap Plan G available in 2020 for new enrollees.

Posted on Feb 11th, 2019
by author: Jim.

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Posted in: Medicare, medicare part b, Medigap.

IRS Private Letter Rulings, Revenue Rulings and Revenue Procedures

Feb 4th, 2019
by Jim.
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private-letter-rulings

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The IRS has a couple of different ways to provide guidance, called Private Letter Rulings and Revenue Rulings.  These rulings can be very important when determining if a particular position is valid in the interpretation of the IRS.

Recently the costs for these items has increased – as of February 1, 2019. The information below reflects the new costs.

A Private Letter Ruling (PLR) is a written decision by the IRS in response to a specific individual’s request for guidance, as it relates to that individual’s specific situation.

Private letter rulings are only binding on the IRS and the requesting individual, and as such cannot be cited as precedent for other cases. They do give insight as to what the IRS’ position may be on a particular situation of similar circumstances.  Often, the IRS will take the information from a PLR and redact it for use as a Revenue Ruling, which is guidance for all taxpayers and which may be cited as a precedent.

PLR’s have significant costs associated with them:  generally you must have a tax attorney prepare the request for you, which may cost anywhere from $5,000 to $15,000 depending upon the complexity of your case, and then the IRS charges a fee for delivering the PLR.

The basic user fee from the IRS is $30,000 (up from $28,300), but can be as little as $2,800 if the taxpayer’s income is less than $250,000. If the taxpayer’s income is between $250,000 and $1 million, the fee is $7,600. More details on these user fees can be found in IRS Internal Revenue Bulletin 2019-01, Appendix A.

Revenue Rulings, on the other hand, are administrative rulings that explain how the IRS applies the law to specific factual situations.  As indicated previously, these rulings are for all taxpayers, and are published in the Internal Revenue Bulletin and the Federal Register.

Revenue Procedures are statements of procedure, rather than application of law (as in Rulings) – such as methods for filing and instructions.  An example of the difference between a Revenue Procedure and a Revenue Ruling would be:  A Revenue Ruling provides guidance on what items may be deducted as a part of your itemized deductions on Schedule A, such as the definition of state and local taxes. On the other hand, a Revenue Procedure explains how those deductions are treated, such as the $10,000 cap on state and local tax deductibility on your Schedule A.

Posted on Feb 4th, 2019
by author: Jim.

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Posted in: financial planning, IRA, tax.
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Mutual Funds and ETFs – A Great Choice for Your Portfolio

Feb 1st, 2019
by sraskie.
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Investing in individual stocks* is an option for your portfolio. However, investing in stocks involves a lot of diligence, research, and discipline. Many of us don’t have the time, money, or fortitude to carry through with an investment plan that includes individual stocks.

Additionally, stock picking can lead to additional stress if you find yourself constantly (daily) looking at your stocks and worrying if you should buy, sell, or hold. If you think you’re the type of person who could unemotionally buy and sell stocks for your portfolio and remain consistent in doing so, then you may be the rare investor where this could be a viable option.

Building a portfolio of stocks also means you must purchase enough stocks – and enough different types of stocks – to have adequate diversification to reduce your risk compared to owning just one or a few companies. This can be difficult to do if your money is limited or the prices of the companies you’ve researched are out of your budget (e.g. as of this writing, Berkshire Hathaway A shares are trading at just over $300,000 per share).

Here’s where investing in mutual funds and ETFs (exchange traded funds) can be beneficial. Some of the advantages of investing in mutual funds or ETFs include instant diversification, economies of scale, professional management, and (generally) lower expenses.

Instant Diversification – Unlike investing in several single stocks to achieve diversification, purchasing just one share of a mutual fund or ETF gives you expose to hundreds, if not thousands of different companies.

Depending on the goal of the fund (large, medium, or small company, US, international, bond, etc.) it will hold a sample of the companies that make up the investment allocation the fund is trying to achieve.

Let’s say you want to invest in the S&P 500 – an index of roughly 500 larger US companies. Purchasing a fund replicating the S&P 500 would get you access to over 500 companies with only one share! The same would be true for a bond fund, international fund; you get the point.

Economies of Scale – This means that by using mutual funds or ETFs allows you to have access to many companies for less than the cost of purchasing them separately. Looking at our S&P 500 example, an investor purchasing individual stocks would have to buy over 500 different stocks to replicate this index. Very expensive to do.

Buy purchasing a mutual fund or ETF replicating the S&P 500, the investor gets exposure to over 500 companies, with only 1 share of the fund, for substantially less money.

Professional Management – Investing in mutual funds or ETFs gives you access to professional money managers whose job it is to monitor the portfolio of stocks so you don’t have to. Often fund managers have extensive experience, education, and certifications that qualify them to manage the fund(s) they oversee. The alleviates you from the stress of constantly looking at your investments (which you shouldn’t do anyway).

Depending on the type of fund (actively versus passively managed), the fund may have more than one manager and may have more expenses due to the goal of the fund (e.g. funds that try to beat the market typically charge more).

Lower Expenses – In many cases investing in mutual funds or ETFs carries lower expenses. In additional to requiring less money to invest in more companies, choosing lower expense funds means that more of your money is working for you. You should consider looking for funds that have expense ratios of .5% (one-half of 1 percent) or less. This should be easy to do by choosing index mutual funds or ETFs.

*Or individual bonds

Posted on Feb 1st, 2019
by author: sraskie.

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Posted in: diversification, diversify, etf, expense ratio, mutual fund expenses, mutual funds.
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Fiduciary Standard for All Advisors?

Jan 28th, 2019
by Jim.
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dog-in-suit-by-matt512There has been a debate going on in the financial advisory world for many years.  You see, there are two primary governing bodies for folks in the financial services business:  the Securities Exchange Commission (SEC), which promotes a fiduciary standard, and the Financial Industry Regulatory Authority (FINRA), promoting a suitability standard.  These are the two primary governing bodies (but there are others).

The Players

The SEC, an arm of the US federal government, has regulatory authority over Registered Investment Advisors (RIA) and Investment Advisor Representatives (IAR) who provide investment advice pursuant to the Investment Advisors Act of 1940 (the ’40 Act).  These folks are advice-givers first and foremost, and are held to a fiduciary standard.

FINRA, on the other hand, is a Self-Regulatory Organization (SRO) which regulates Registered Representatives of brokerage companies, among others.  The people in this group are brokers, sellers of products first and foremost.  Members of FINRA are held to a suitability standard.

The SEC was  created in 1934 with the passage of the Securities Exchange Act (the ’34 Act) created in 1934 and FINRA’s predecessor, the National Association of Securities Dealers (NASD), was created in 1939 due to some amendments made to the ’34 Act.  The prime reason I’m giving you this history is to show you just how long the tail can be for legislation passed during times of national economic crisis – these organizations have been operating for 70 and 75 years following their creation in response to situations that developed prior to the (and some believe had direct cause for) the Great Depression.  Legislation that is being considered today could have similar monumental impact.

But enough history for now – there are literally tons of nuances to consider throughout the history of these two organizations, but the question at hand is the standard to which folks in the financial services sector are held.

Definitions

Fiduciary Standard – A fiduciary is someone who has undertaken to act for and on behalf of another in a particular matter in circumstances which give rise to a relationship of trust and confidence.  A fiduciary duty is the highest standard of care at either equity or law. A fiduciary is expected to be extremely loyal to the person to whom he owes the duty (the “principal”): he must not put his personal interests before the duty, and must not profit from his position as a fiduciary, unless the principal consents. Further, he must disclose any conflicts of interest, including potential conflicts of interest. The word itself comes originally from the Latin fides, meaning faith, and fiducia, trust. (from Wikipedia)

Suitability Standard – brokers are required to: 1) know their clients’ financial situations well enough to understand their financial needs, and 2) recommend investments that are suitable for them based on that knowledge. Brokers are not required to provide upfront disclosures of the type provided by investment advisers, including, but not limited to their conflicts of interest.

The Debate

Financial planners, financial advisors, etc. (for there are many names by which advisors call themselves) are not per se regulated by one standard or another, but rather it depends upon the situation.  Certified Financial Planner™ practicioners (CFP®) are held to a fiduciary standard by the Certified Financial Planner Board of Standards, while most other credentials do not carry such a standard requirement.

It is apparent that the suitability standard is a portion of the fiduciary standard: if a person is operating as a fiduciary, putting the client’s interests first, then investments recommended are by definition suitable to the client’s situation.  The industry recognizes that there is a lot of confusion in the way things are presently laid out, and are working toward a single standard for both types of advisors.

Folks presently held to the suitability standard argue that the fiduciary (often referring to this as the “f-word”) standard is aspirational in nature, where the suitability standard is very clear and direct.  On the other side of the spectrum, those held to the fiduciary standard believe that the inclusion of the FINRA brokers in this standard would serve to dilute the standard – that there would be “degrees” of fiduciary standard to which some folks would be held, while still claiming the mantle.

This is particularly newsworthy as recently the head of FINRA indicated that he thought there should be a single standard, and that he thought the fiduciary standard was the appropriate direction.

The Real Question

The burning question in my mind is this: from the consumer point of view, do you care?  Did you even know about these two standards in the first place?  Did you know that when you go to a brokerage and ask for advice, that the primary standard to which the advisor is held is to ensure that whatever they have for sale is in some way suitable to your situation even if it’s not necessarily in your best interest?  For example, it is entirely possible for a broker to consider a high-cost annuity suitable to your situation, even though it’s not necessarily in your best interest.

This debate means a lot to folks in this industry, and I think it’s pretty clear what you’d probably like, but I just wondered if you care enough to comment on it.

Posted on Jan 28th, 2019
by author: Jim.

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Posted in: #noTOP, fiduciary.
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Focus On The Future

Jan 25th, 2019
by sraskie.
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This post was inspired by a recent conversation I had with a former student. As is customary in my classes, I encourage students to contact me if they have questions while in the “real world” after graduation.

The student was contemplating contributing the maximum to a Roth IRA for 2018 – which is $5,500, and then potentially doing the same for 2019 – which would be $6,000.

His concern was market volatility. He was afraid of contributing to the IRA, then seeing is lump sums of $5,500 and $6,000 respectively plummeting if the market were to drop substantially.

I told him to look at it from this perspective. The middle letter in the acronym IRA stands for retirement. This young man is 22 years old, planning to retire in 30 to 40 years.

I told him that he could consider contributing the maximum to his Roth IRA every year, regardless of what he thoughts the market might do. In other words, if his retirement is 30 to 40 years away, why be concerned with what the market is going to do in 1, 2, or even 5 years.

To help ease his worries about the market volatility and subjecting the entire annual, lump sum IRA contribution to volatility all at once, I told him he could simply dollar cost average $500 monthly for his 2019 contribution. This seemed to put him at ease.

And that’s my advice to readers, particularly young readers, but even those with a long-time horizon for retirement. Focus on the future, stick to your savings plan, and let your investments and compound interest work for you.

Posted on Jan 25th, 2019
by author: sraskie.

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Posted in: financial planning.
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Problems and (proposed) Solutions for 401k Plan

Jan 21st, 2019
by Jim.
5 comments

The 401k plan has been under a great deal of scrutiny lately, with quite a few proposals being offered to “fix” the system.  Granted there are a few problems with the system that is in place, but the overall concept is still good.  What follows is strictly my opinion of some of the real “problems” followed by a look at the presently proposed solutions that are being dallied about.

solutions

Photo credit: Diedoe

The Problems With 401k Plan

Note: for the purpose of this discussion (and most discussions here) the term 401k is used to refer to all CODA (Cash Or Deferred Arrangements) such as 403b, 457, etc.. In my opinion all these plans should be treated equally.

Problem: To start with, it makes so very little sense to strictly tie the plan to the employer.  Of course, this made a lot of sense when employer matches could be solely in company stock (a la Enron), but these days the whole concept is outdated.

Solution: Do away with the present system of tying the plan to the employer.  Instead, simply increase the annual limits on IRAs to the same limits for 401ks – let all folks take part in these plans.  Employers could still have the tax benefit for matching funds, but the “portability” issue would be gone, as would the need for all these rollover activities.  Level the playing field, making the rules that are currently IRA- or 401k-specific apply to the new IRA plan.

Problem: 401k plans have limited investment choices, many of which are inappropriate or inadequate for the investor’s situation and goals.

Solution: Under the “new IRA” option I mentioned above, the field would be open to all investments available from your custodian.  Custodians would soon learn to allow investments in virtually all available securities, as the investor can easily “vote with his feet” and move elsewhere with better choices.

Problem: There is no “guaranteed income” choice available in the 401k. Since the original intent of the 401k plan was to replace the defined benefit pension plans – you know, the kind of pension where you’re guaranteed an income, often inflation-indexed, for life – it seems like you should be able to emulate that in a 401k plan.

Solution: There have been a few suggestions on the table in Congressional committee where annuity products would be made available for 401k plan investments.  The problem here is that, unless we’re talking about the lowest of low-cost providers (and there are a few out there), annuities are traditionally a very costly way to save and invest for the future.

I can’t argue with the sentiment, a guaranteed income choice would be perfect for a high percentage of folks – unfortunately this whole concept sounds too much like Social Security, and I don’t think we want to have two systems like that going in parallel. This option is still open for debate, in my opinion.

Problem: Most folks who have a 401k plan don’t have a clue about investing, and don’t have access to affordable, unbiased, professional advice.

Solution: This was actually addressed to a degree with the Pension Protection Act, but apparently the legislation’s carrot wasn’t enticing enough to get the ball rolling.  In addition, the previous legislation did not go far enough and label the advisor as a fiduciary – a step that I believe is critical to the long-term success of the investor.

Some of the proposals on the table now have taken the step to require fiduciary advisors.  The problem now is to get companies to implement this option.  Mandating is it probably going too far, but offering tax cuts or other benefits may be useful in giving this some traction.

Conclusion

This wasn’t intended to be an exhaustive list of the issues and solutions, just a list of the top things I’d been thinking about lately.  As I indicated before, I don’t think we need to toss out the baby with the bathwater; the 401k plan isn’t broken, it just needs a few adjustments.  Maybe you’ve got a few additional ideas, or suggestions to improve what I’ve tossed out here – I’d love to hear them.  Leave your ideas as comments below.  Thanks!

 

Posted on Jan 21st, 2019
by author: Jim.

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Posted in: 401k, fiduciary, investing, IRA, Social Security.
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Life Insurance: Protect Your Most Important Asset

Jan 18th, 2019
by sraskie.
2 comments

You may think that your most important asset is your home, your nest egg, your priceless collection of Etruscan snoods. Your most important asset is you – your human capital. Your human capital is your current and future economic contributions to your family.

Perhaps you’ve gone to college and majored in a profession to pursue a career. You may have earned advanced degrees and designations to increase your knowledge, professionalism, and income.

All of this increases your human capital – your ability to earn, substantially, over your lifetime.

Now that you have a family, a spouse and kids to support, you need to hedge your human capital, you need to protect it in the event it’s lost – should you die unexpectedly.

No one likes talking about death. Even writing these words, it’s hard to type them. But it’s necessary to convey the importance of life insurance. Life insurance protects your human capital, the income you receive because of your human capital, and the support your human capital provides for your family.

Without life insurance, should you die, so does the financial support you’re providing to your family. In other words, life insurance isn’t for you, it’s for those you leave behind.

Having life insurance, and enough if it, means your survivors, your family being able to continue paying the mortgage, bills, tuition, buying groceries, and continue saving for retirement and or college educations. It also allows them enough time to grieve without having to worry about financial obligations.

So how much life insurance should you have? A general rule of thumb is approximately 10 to 16 times your gross income. Of course, this is a general guideline. You may need more depending on your circumstances.

Posted on Jan 18th, 2019
by author: sraskie.

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Posted in: financial planning, life insurance.

The Equity-Indexed Annuity

Jan 14th, 2019
by Jim.
2 comments
annuity engine

Photo credit: jb

If you’re anywhere near retirement age, or if you’re in retirement, chances are you’ve had an Equity-Indexed Annuity (EIA) pitched to you.

Now, if for some reason you’ve missed out on these pitches (Maybe you’ve been out the country? Don’t have a phone? Don’t read your mail?) here’s the gist:  Insurance salesman tells you about this wonderful product that allows you to participate in the stock market’s upside, while not experiencing any of the market downside.  In today’s stock market climate, sounds pretty good, huh?

A couple of things come into play that the salesguy doesn’t highlight for you:

First, your “participation” in market upside is limited. Typically there is a cap on the amount of market upside that the account will pay out, and in this market climate, the upside potential is tremendous, which will primarily benefit the insurance company, not you.  In other words, given that the market has experienced a significant drop, there is high potential for significant increases in the coming months and years.  If there is a cap on your upside “participation” of say, 6% or 8%, the rest of the account’s upswing goes to the insurance company’s bottom line.

Now, you might say – that’s a small price to pay for not having to endure a downswing in the market like we have experienced recently.  And I would agree with you on that score. However: this is a hindsight statement, because again, the chance is quite small that the market will continue trending continually lower after its performance of late. There often are minimum guaranteed rates of return that can help on the downside as well, but the end result can be that you get back less from the contract than you originally deposited.

And so – the downside protection that you receive comes at the cost of limited upside. The limited upside throttles back your performance in the bull market periods, leaving you with dismal returns overall.  But that’s not the biggest issue you face with these accounts…

The second issue is the overall cost of these accounts. Annually, there is a fee charged against the value of the account of between 2% and 3% annually.  Doesn’t seem like much, until you think back to the caps that are placed on your account’s participation in the market.  Suddenly, that 8% cap becomes 5% when you remove the annual fees.  And what about if the market just goes sideways?  You still lose 3% to fees every year.

The third issue is the annuity term. As with all annuities, there is a term during which you are not free to withdraw the balance without penalty. The penalty varies but can be steep, as much as 20% depending on the contract. This can cause a liquidity problem – if you need money right away, you might not have ready access to it without paying the penalty.

I just thought I’d give you a brief rundown on these accounts since they’re getting a lot of “push” these days – since the market decline has highlighted their selling points, plus there is a lot of upside potential benefit to the companies pushing them.

There’s a reason equity-indexed annuities are popular: market drops are scary. And sometimes we’ll overlook the downsides to get some protection against scary things.

There’s also a reason equity-indexed annuities are popular with insurance companies: historically, the market returns negative overall results one out of every four years. Plus, the average annualized return of the S&P 500 over the past 50 years has been approximately 11%. So the insurance company has to pay the guarantee only 25% of the time, and the rest of the time (on average) they are able to glean 3% off the top of the contract.

Finally, equity-indexed annuity is one of the only types of investment that FINRA has seen fit to produce an investor alert about. It’s important to have your eyes wide open if you’re considering one of these contracts.

 

Posted on Jan 14th, 2019
by author: Jim.

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Posted in: Insurance, investing, IRA.
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Are Resolutions Worth It?

Jan 11th, 2019
by sraskie.
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After the first of the years it’s common of individuals to aspire to change their lives for the better. Many individuals come up with New Year’s resolutions – with aspirations of accomplishing certain goals or tasks that have eluded them in the past.

eating healthy

But do resolutions really work? In other words, what good is a resolution without action?

Granted, I am being nitpicky. But think of it this way. If I were to write down a handful of resolutions that I wanted to achieve in 2019 and beyond – they would simply be words on paper.

Don’t get me wrong, having the resolutions or goals listed is an excellent start, but again, until they’re acted upon, nothing will happen. All the words and intentions in the world are nothing without action.

So how can we convert resolutions into measurable acts?

First, do one thing today that is an action toward accomplishing your resolution. For example, this could be filling out the form to start saving into your retirement plan. It may mean a few keystrokes to increase your savings by 1%.

Perhaps it’s a weight loss goal. The simply act today could mean stepping outside of your door and walking. Or it could mean grocery shopping and only buying healthy, nutritious food.

If your resolution includes decluttering, it could mean simply cleaning your workspace, home office, etc.

The resolution could be to write more. Start today with just a sentence, then move to a paragraph, then a page.

The point is to simply start. And start small. It’s easier (and motivating) to accomplish small tasks. Accomplishing these small tasks will give you energy and motivate you to act on other things.

Finally, be consistent. Commit to carrying out one or a few of the acts needed to accomplish your resolutions. In no timer (generally 30 days) you’ll have made them a part of your routine, your habits, and they’ll no longer feel like tasks. They’ll be second nature.

Posted on Jan 11th, 2019
by author: sraskie.

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Posted in: financial planning.

The 457(b) Special Catch-Up

Jan 11th, 2019
by sraskie.
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If you’re a governmental employee, you may be aware that your employer offers a 457(b) retirement plan. Additionally, you likely know that like a 401(k), the 457(b) allows you to contribute $19,000 annually to the plan with an additional $6,000 catch-up for those aged 50 or older.

What you may not be aware of is the special catch-up provision the 457(b) offers. This special catch-up provision allows a governmental employee that is within 3 years of the normal retirement age (as dictated in the plan) to contribute up to twice the annual amount ($38,000 for 2019).

To take advantage of this special contribution the plan sponsor (employer) must allow it in the verbiage of the plan. Additionally, the employee must have unused contribution amounts from prior years. In other words, an employee can contribute twice the amount normally allowed if that employee has unused contributions from prior years; they didn’t contribute the maximum in previous years.

In addition, for an employee to take advantage of the special catch-up the employee must not also be making age-based (age 50 and over) catch-ups in the year the special catch-up contributions are being made.

Finally, the IRS states that the special contribution must be the lesser of twice the annual limit ($38,000 in 2019) or the normal annual limit ($19,000 in 2019) plus any unused basic limit from previous years. However, employees taking advantage of unused basic limit contributions from previous cannot make age-based catch-up contributions and unused basic deferrals from previous years.

Posted on Jan 11th, 2019
by author: sraskie.

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Posted in: 457, qrp, qualified retirement plan, retirement accounts.

What Is It That You Want To DO?

Jan 9th, 2019
by Jim.
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Note: Taking a little break from tax law and retirement planning for the day…

One of the questions that I often ask folks as we’re working on financial matters is – “what is it that you want to DO?”  And in this case, DO is capitalized to be emphatic, because the context of the question is with regard to life.  “What is it that you want to DO in your life?”

purpose

Photo credit: jb

Deep down, we all have the desire to matter.  We want to, in some way, create a legacy of our life, so that this time we’ve spent here doesn’t seem like we’ve wasted our chances.  Not that what we do every day – caring for our families, performing our job, etc., is a waste of time.  But if we’re not cognizant of a greater purpose for our life, oftentimes life seems unfulfilled.  It doesn’t have to be grandiose, we all have our little corners of the world that we can impact in a positive way that will leave a legacy long after we’re gone.

Believe me, I’m not in any way saying that I have all the answers.  In fact, I have quite a few questions that you might want to ask yourself as you consider just “what is it that you want to DO?”.  These questions are have a financial angle (duh, financial planner, remember?) but have a greater reach, as in how money interplays with your aims for your life.

  • How would you describe your relationship with money?  Is it a means to an end, or is a particular number the goal you’re aiming toward?  If you answered the latter, what are you going to do with that sum of money when you get it?
  • What in your life brings meaning to your existence?  It may be volunteer work, your job, or just being with your family.  How would a drastic reduction in your financial situation, such as loss of a job, impact your meaningful activities?  Would a dramatic improvement in your financial situation, such as winning the lottery, lead you to doing more meaningful activities?
  • If you’ve got an idea of what you’d like to accomplish in your life to leave a legacy, how does money affect your ability to do “your thing”?  Are you doing those things now – that is, making those contributions – that will help to leave the impact you’re hoping to leave on the world?
  • Quite often, it is said, that we don’t really get to know our personal strengths until we’ve faced adversity.  If you’ve suffered a financial setback, what personal attributes do you have that you can use to help you deal with the situation and get yourself (and your family) through the crisis?
  • As you consider your personal values, is there anything that you feel you’re lacking?  Is it possible that we have too much “stuff” in our lives that keeps us from truly appreciating and evoking our values? Can you think of ways to eliminate some of the excess “stuff” so that the more important things take priority?
  • Consider the above questions again, only substitute time for money in the question… and then do it again, substituting talents. Going through this process can produce real clarity.

Pretty sure we haven’t resolved anything here today – but hopefully some of the questions I’ve asked have sparked you to action (or at the very least, deep thought).  Because the actions we take in our lives are our only way to create that legacy. In the end we want to look back on our life and feel satisfied that we’ve done our best. 

That’s what it’s all about, right?

Take care, jb

 

Posted on Jan 9th, 2019
by author: Jim.

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Posted in: financial planning, purpose.
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Should I Itemize or Use The Standard Deduction?

Jan 7th, 2019
by jblankenship.
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Taxes
Taxes (Photo credit: Tax Credits)

As you prepare your tax return, you have a decision to make about your tax deductions – you can choose between itemizing and using the standard deduction.  But how do you choose?

The Standard Deduction is just what it sounds like – a standardized deduction that you can choose to utilize by default, and you don’t have to do a lot of recordkeeping through the year in order to use the the standard deduction.  In order to itemize deductions, you need to save receipts from various deductible expenses through the year, and use those to prepare your itemized return.

Oftentimes it is a foregone conclusion, once you understand the differences between itemizing and the standard deduction.

Standard Deduction vs. Itemizing: Facts to Help You Choose

Each year, millions of taxpayers choose whether to take the standard deduction or to itemize their deductions.  The following seven facts from the IRS can help you choose the method that gives you the lowest tax.

  1. Qualifying expenses – Whether to itemize deductions on your tax return depends on how much your spent on certain expenses last year.  If the total amount you spent on qualifying medical care, mortgage interest, taxes, and charitable contributions is more than your standard deduction, you can usually benefit by itemizing.
  2. Standard Deduction amounts– Your standard deduction is based on your filing status and is subject to inflation adjustments each year.  For the 2018 tax year, the amounts are:
    • Single, $12,000
    • Married Filing Jointly, $24,000
    • Head of Household, $18,000
    • Married Filing Separately, $12,000
    • Qualifying Widow(er), $24,000
  3. Some taxpayers have different standard deductions – The standard deduction amount depends upon your filing status, whether you are 65 or older or blind and whether another taxpayer can claim an exemption for you.  If any of these apply, use the Standard Deduction Worksheet in the 1040 instructions.
  4. Married Filing Separately – When a married couple files separate returns and one spouse itemizes deductions, the other spouse cannot claim the standard deduction and therefore must itemize to claim their allowable deductions.
  5. Some taxpayers are not eligible for the standard deduction – These taxpayers include nonresident aliens, dual-status aliens and individuals who file returns for periods of less than 12 months due to a change in accounting periods.
  6. Forms to use – The standard deduction can be taken on your Form 1040. To itemize your deductions, use Schedule A, Itemized Deductions.
Posted on Jan 7th, 2019
by author: jblankenship.

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Posted in: charitable contribution, health insurance, irs, itemized deductions.
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Estate Planning Essentials

Dec 28th, 2018
by sraskie.
3 comments
decision

How many of you reading this have an estate? If you think you have an estate, then please keep reading – this should be you and everyone else reading this. That is, everyone has an estate.

Many individuals believe that to have an estate they must have a certain amount of “stuff”, net worth, income, social status, etc. Furthermore, these same individuals may feel estate planning involves complex documents, high legal fees, considerable time. While this may be true for some estate plans, it’s not always the case.

Additionally, many individuals feel that estate planning involves planning for incapacity or death. Although not pleasant to discuss, planning for one’s incapacity or death is an important part of their overall financial plan.

Having these discussions before incapacity arises (a possibility) or death occurs (a certainty) can help ease the stress for loved ones dealing with these situations of and when they happen. It may also help prevent arguing and discord among relatives who may act based on what they think you wanted versus what you actually want.

Besides planning for incapacity or death, estate planning can also involve the distribution of assets when people are alive and well. Many individuals need estate planning regarding gifting, philanthropy, taxation, etc.

Almost everyone needs some type of estate plan. The simplicity or complexity will depend on the vicissitudes pertaining to each individual or family.

The following is a list of some estate planning essentials that you may consider for your overall financial plan. Of course, it’s highly recommended you seek the advice and assistance of competent financial professional and or an attorney to help draft documents and align your estate plan to your overall financial plan.

  • A will. A will is a legal document that allows you to choose which individuals get your possessions when you die. For parents, wills are imperative as they will determine who will become guardian of children if the parents pass away while the children are minors.

Dying without a will (called dying intestate) can be problematic. Without a will, the state of the deceased individual will determine distribution of assets, guardianship for minor children, etc. It can be a mess. A will can ensure that your wishes are carried out.

For parents: consider having discussions with those individuals you feel you’d want as guardians for your children. Make sure they are in agreement and want to undertake this huge responsibility.

  • A trust. A trust is another legal document that ensures that some type of property (called corpus) is administered in a certain way (generally your intentions) according to the verbiage in the trust.

Some of the more common types of trusts involve trusts for minor children. If parents pass away, they pay leave money to children to ensure financial stability for their upbringing. However, minor children are likely not going to be able to handle financial matters. A trust will have the money set aside for the children (the beneficiaries) but managed by an individual (the trustee) whom the parents deemed financially fit to distribute and use trust assets for the children.

Other types of trusts may be necessary depending on the situation. These involve special needs trusts for parents of special needs children, spendthrift trusts (to limit or prevent wasteful spending by beneficiaries), and charitable trusts (to carry out charitable intentions).

Lastly, trusts avoid the publicity of probate – which means that when your will is going through court, it becomes public knowledge.

  • Powers of Attorney. Powers of attorney are documents designed to allow an individual to act on your behalf – generally in the event you cannot act on our own behalf.  The two most common powers of attorney are powers of attorney for property and powers of attorney for health care.

A power of attorney for property allows an individual to make financial decisions for you. This may include paying bills, financial transactions, etc. This power may be granted right away (when you’re fully capable of making said decisions) or may be “springing” which means the power is granted when you become incapacitated.

A power of attorney for health care allows an individual to act on your behalf regarding medical decisions. In the event of your incapacitation, this document allows an individual you’ve chosen to make decisions for you regarding treatment, procedures, and, should the situation be that dire, whether to remain on life support.

If you’re feeling uncomfortable reading this, imagine the discomfort a family faces with these decisions without this document in place.

  • Other advanced medical directives. Additional documents to consider include living wills, do not resuscitate orders (DNRs), and organ donation. Living wills provide a guide to the doctors or your power of attorney for health care regarding how you’d want to be treated medically and whether you would want to remain on life support.

Do not resuscitate orders tell medical professionals to not take life-saving measures – depending on the medical condition and per your wishes.

  • Beneficiary designations. One of the easiest ways to estate plan is via your beneficiary designations on your life insurance policies, retirement plans (401k, IRAs, etc.), annuities, and investment accounts.

Naming beneficiaries allows you to determine who receives those assets in the event of your death. Like trusts, beneficiary designations avoid the publicity of probate.

A beneficiary designation can also work congruently with trusts. In other words, an individual can name a trust as their beneficiary on their life insurance (say, if they have minor children) and the trust then receives the life insurance proceeds and the trustee distributes the proceeds to the beneficiaries per the language in the trust.

If you’re considering an estate plan or believe that your current plan needs updating (e.g. after a life event such as marriage, divorce, a birth, a death, etc.), talk to a financial professional and or your attorney. There are several do-it-yourself websites available, but to quote Abraham Lincoln, “He who represents himself has a fool for a client.”

Posted on Dec 28th, 2018
by author: sraskie.

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Posted in: estate planning.
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Roth IRA Conversion Strategy – Fill Out the Bracket

Dec 26th, 2018
by Jim.
4 comments

One strategy to consider as you think about making Roth IRA conversions is the idea of “fill out the bracket”.  With this strategy, you consider your income level and what bracket you’re in, and if it makes sense, convert enough of your IRA or QRP (such as a 401k) to effectively use up the remainder of the tax rate bracket that you’re in.

roth-bracket

Photo credit: jb

Of course, this mostly makes sense in the lowest brackets, but for some folks with potentially high incomes it may be appropriate at higher brackets.  Your feeling on this also depends on what you think will happen with tax rates as you get to the point where you’re ready to retire – and if you’re like me, you’ve got to believe that tax rates are on the rise.

The following table illustrates the highest income you could have within each tax bracket, using the rates for a Single taxpayer and a Married Taxpayer, using only the Standard Deduction for 2018. If you itemize, add the difference of your itemized deductions above the standard deduction of $12,000 for single and $24,000 for married.

If you’re at or over age 65, add $1,600 if you’re single, or $1,300 for each member of a married couple who is 65 or older. Add the same amount if you’re blind.

2018 Top Income Levels Per Bracket

Tax Bracket

Single

Married

0%

$12,000

$24,000

10%

$21,525

$43,050

12%

$50,700

$101,400

22%

$94,500

$189,000

24%

$169,000

$339,000

32%

$212,000

$424,000

35%

$512,000

$624,000

To use the above table, calculate your income – from wages, salaries, tips, dividends, interest, short-term capital gains, rental income, etc..  Figure out which bracket you fit into, based on the table.  Subtract your income amount from the amount for your applicable bracket:  the remainder is how much you could convert to a Roth IRA while remaining in that tax bracket.

As an example, let’s say you’re single, with no dependents.  Your total income for the year will be $30,000.  When we go to the table we see that you’re in the 12% bracket. The top gross income in that bracket is $50,700, so you could convert up to $20,700 to a Roth IRA to fill out the bracket, without bumping yourself up above the 12% rate.  The tax on that conversion would be $2,484.

For another example, let’s say you’re married, and your household income is also $30,000.  According to the table, you’re in the 10% bracket, and the upper limit on the bracket is $43,050. To fill out the bracket, you could convert as much as $13,050 without going above the 10% bracket. Tax on that conversion would be 10%, or $1,305.

Now, you might be saying to yourself, that’s all well and good, but how many families of four have the wherewithall to undertake a Roth conversion in those circumstances? After all, who wants to pay an additional tax of $1,305?! You’re right, maybe this concept is not terribly practical for folks in those particular circumstances. But consider someone who is semi-retired, who has very little earned income beyond some interest and dividends.  How about a married individual, with part-time work earnings of $10,000?  This individual could convert as much as $14,000 to a Roth IRA – and owe no income tax at all!

For future planning, below are the top levels of income for the brackets for 2019. If over 65 and/or blind, add $1,300 if married, or $1,650 if single. The standard deduction for 2019 is $24,400 if married and $12,200 if single, so if you itemize, add any amount above those limits:

2019 Top Income Levels Per Bracket

Tax Bracket

Single

Married

0%

$12,200

$24,400

10%

$21,900

$43,800

12%

$51,675

$103,350

22%

$96,400

$192,800

24%

$172,925

$345,850

32%

$216,300

$432,600

35%

$522,500

$636,750

As I’ve mentioned before, unless you’re very, very competent with income taxes, please, do yourself a favor and run any plans of this nature past a tax professional.  It’s well worth the cost – you don’t want to make mistakes on this sort of thing!  And if you rely on a web page as your tax advisor, don’t expect the page to represent your interests before the IRS if something gets screwed up. Regardless of the fact that the tax prep website is supposed to be correct, you’re still liable for the tax and penalties if there’s a mistake!

Posted on Dec 26th, 2018
by author: Jim.

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Posted in: IRA, retirement plan, tax.
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