Financial Ducks In A Row • Independent financial advice: IRA, Social Security, income tax, and all things financial

Posted in: Delayed Retirement Credit, DRC, Early Filing, PIA, primary insurance amount, Social Security.
Tagged: delayed retirement credit · early filing · Social Security

The Spousal Benefit Option for Social Security Benefits

Jun 13th, 2018

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There is a provision in the Social Security system that many couples take advantage of – the spousal benefit. This benefit is applicable when one spouse has had little or no working history, such as a stay at home mom or dad, and where the other spouse has had a working career covered by Social Security, that has provided enough quarters of earnings to make him or her eligible for Social Security retirement benefits.

Note – to simplify the explanations, from this point forward we’ll refer to the lower-earning member of the couple as “spouse” and the higher-earning spouse as “worker”.

This benefit option allows the spouse to receive a potentially greater benefit than the one based on his or her own earnings record – equal to ½ of the full benefit of the worker at his or her Full Retirement Age. Specifically, if the spouse has earnings that represent a PIA (Primary Insurance Amount) that is less than ½ of the worker’s PIA, a spousal benefit amount is added to the spouse’s own benefit to increase the amount of the benefit to ½ of the worker’s PIA.

So, if the spouse has a PIA of $1,100 and the worker has a PIA of $2,450, an amount would be added to the spouse’s benefit to increase the PIA to $1,225, ½ of the worker’s PIA. The ½ benefit is provided if the spouse has filed for benefits at FRA (Full Retirement Age). If filing for the spousal benefit at age 62, the spousal benefit will be equal to 35% of the worker’s PIA. At any age after 62 but before FRA, the amount will be pro-rated. After FRA, there is no increase to the spousal benefit.

Qualifications for spousal benefit

There are several qualifications and factoids that you need to understand about the spousal benefit:

the spouse and the worker must have been married for at least 12 months (continuously) immediately prior to applying for benefits.
the spouse must be age 62 or older.
the worker must be eligible for benefits, meaning that the worker must file for benefits with Social Security and is actually receiving them. Suspended benefits by the worker also suspends the spousal benefit.
the spousal benefit does not include any credits that the worker may be eligible for upon delaying receipt of benefits, as the spousal benefit is based upon the worker’s PIA, not the actual benefit the worker may receive.
there is no increase in spousal benefit by delaying application after FRA of the spouse.
if the spouse has reached FRA and would like to delay receiving his or her own retirement benefit, the full spousal benefit will be available to the spouse until he or she files for his or her own benefit.
if the spouse continues to work while receiving benefits, the same earnings limits apply to the spousal benefits as would apply to primary worker benefits. However, after FRA, earnings limits do not apply to spousal benefits, same as regular retirement benefits.

Posted on Jun 13th, 2018

by author: jblankenship.

7 comments already - add to the conversation!

Posted in: Social Security, Social Security spousal benefit, Spousal Benefit.
Tagged: Social Security · social security spousal benefit · spousal benefit

Things to Consider as You Set Up a SOSEPP

Jun 11th, 2018

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sosepp water bottle caps So, you’ve decided that you’d like to begin taking distributions from your IRA funds – and you’re under age 59½, so you need to structure your distributions as a Series of Substantially Equal Periodic Payments (SOSEPP). (For more background information on the SOSEPP, see this article.) It is important to do this right, because once you set up the plan, you’re pretty much stuck with it.

Steps to Set Up a SOSEPP

The first step in setting up a SOSEPP is to figure out just how much you’ll need to take each year. Working with a financial advisor or an actuary, you can figure out how much money is required to support the SOSEPP payments that you require.

Once an amount is determined, a new IRA can be opened and the money required rolled over into that account. Other IRAs and 401(k) accounts will then hold the remainder of your funds – which provides your savings for future needs, once the SOSEPP is no longer in effect, or a “safety valve” for you to use in the event that you need additional funds at some point. Of course, taking an additional amount from one of these other accounts would require payment of the 10% penalty (unless one of the other exceptions applies) – but this is much better than taking too much from your SOSEPP IRA and busting the plan, which carries some heavy penalties.

Keep in mind, especially if you’re setting up your SOSEPP early in your life, it is possible to set up another SOSEPP from a different account should the need arise. You would just have two series’ going on at the same time, with different variables impacting each series.

In other cases, you may just want to take the greatest possible payment that you can from account, which can be easily determined when the span of the plan is understood, given your age and the amount in the IRAs.

Several choices are necessary to set up the plan:

Choose one of the three permitted methods – RMD, amortization, or annuitization
Choose a life expectancy table – single, joint, or uniform life expectancy
Choose an interest rate (if using amortization or annuitization)
Decide whether to use annual recalculation (if using amortization or annuitization)
Choose the account balance valuation date
Determine the “period” for your payments. These can be monthly, quarterly or annually, but must at least be annual, and must be at the same regular interval each “period” once set up.

All of these details must be attended to when setting up the plan, and careful attention should be paid when making these decisions. If you set up such a plan early in your life (say at age 50 or earlier) you will have to live with your choices for a considerable amount of time. Understand what each choice means and can mean in the future as you make these decisions.

Posted on Jun 11th, 2018

by author: jblankenship.

Posted in: 72t, Early Distribution, financial planning, IRA, retirement plan, sosepp, tax.
Tagged: financial planning · IRA · retirement plan · SOSEPP · tax

The Heartbreak of Withholding From Indirect Rollover

Jun 6th, 2018

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heart break of rollover by NDrewC Taking early withdrawals from your retirement plans is rarely a good idea, and should only be considered when it’s the last possible option available to you. But this article is more about the pain you could experience if you don’t handle a rollover correctly – bypassing the trustee-to-trustee transfer option and going with an indirect rollover.

Withholding Rule For Indirect Rollovers

In general, if you take an early withdrawal (pre-age 59½) from a Qualified Retirement Plan (QRP) that includes pre-tax money, the custodian of the account is required to withhold and pay to the IRS 20% of the pre-tax amount withdrawn. This can still be a tax-free transaction if you finish the indirect rollover process correctly and place the entire amount of the distribution in an IRA or other QRP (like a 401k) within 60 days. However, if you don’t complete the indirect rollover, with the whole amount of the distribution, you’re likely to get a tax surprise…

A transaction like this is called an “indirect rollover”, as opposed to a direct or a trustee-to-trustee rollover. In the event that you complete the indirect rollover within 60 days, you will need to come up with the 20% that was withheld in order to have a full rollover – otherwise you’ll have to pay tax and a penalty on the amount that was not rolled over. (It is important to note that this mandatory withholding is only for employer plans – 401k, 403b and the like. There is no mandatory withholding on an IRA distribution.)

An Example

For example, let’s say you’re 50 years of age, and you have a 401(k) from a former employer that you’d like to roll over into your IRA account. The 401(k) is worth $50,000. For whatever reason, you opted to have the 401(k) custodian send you a check for the amount, which you then plan on sending to the IRA custodian for deposit (within the allowable 60 day period, as an indirect rollover).

Lo and behold, when the check arrives, it’s only made out for $40,000! This is because the custodian was required to withhold 20%… and now, since you don’t have any savings to speak of, you can only send the $40,000 over to the IRA custodian. Guess what? Come tax time, you will have to include that “missing” $10,000 as income, plus you’ll get to pay a 10% early withdrawal penalty as well. So if you’re in the 25% tax bracket, you get to pay $3,500 in tax and penalties (25% times $10,000 plus 10% times $10,000).

Now, the original 401(k) that was worth $50,000 is reduced to an IRA worth $40,000 and a tax refund of $6,500 (since $10,000 was withheld and your tax and penalties were only $3,500). This swift little maneuver has cost you 7% of your retirement plan! Plus, you’ve lost tax-deferral on $10,000…

ALWAYS Do the Direct Rollover

It is for this reason that, whenever possible, you always should do a direct, or trustee-to-trustee transfer when rolling over IRA and QRP funds to a new account. When you do a trustee-to-trustee rollover, no withholding applies, so you don’t have to make up any difference, and your tax-deferred amount remains intact.

It’s important to note that in our example above, if you had the $10,000 available to you in savings or elsewhere to make up the difference for the withholding, you could still complete the indirect rollover without tax or penalty by sending a total of $50,000 to the IRA custodian within 60 days. Then when you file your taxes for the year, that $10,000 withheld would amount to either a refund to you or a reduction in the amount of tax that you had to pay for the year.

Posted on Jun 6th, 2018

by author: jblankenship.

Posted in: Early Distribution, IRA, retirement plan, tax.
Tagged: IRA · retirement plan · tax

No Application Required

Jun 4th, 2018

9 comments

Generally, in order to begin receiving Social Security benefits, you must submit an application to the Social Security Administration. Similarly, an application is required (in general) in order to receive Medicare benefits. But there are some circumstances where you can begin receiving Social Security benefits or Medicare without the need for an application.

In general, these cases are situations where you’re already receiving Social Security benefits on another program, such as Social Security Disability Income (SSDI), and you’ve reached Full Retirement Age (FRA).

When a Medicare application is not required

If you’re already receiving Social Security retirement benefits or SSDI and you reach age 65, you do not need to submit an application to enroll for Medicare. You are automatically enrolled for Medicare in these instances.
Additionally, if you’re receiving Disability Benefits (SSDI) and are under age 65, once you’ve been receiving SSDI for 24 months, you are automatically enrolled for Medicare benefits.
Also, if you’re signing up for Social Security retirement benefits and you’re over age 65, you are automatically enrolled for Medicare, no application required.

When an application for Social Security benefits is not required

If you are receiving SSDI benefits and reach your Full Retirement Age (FRA), you do not need to submit an application to continue your Social Security benefits as retirement benefits. This conversion is automatic.
Likewise, if a child is receiving benefits and reaches age 18, an application is not needed if the child will continue receiving benefits after his or her 18th birthday due to disability or contiuation of school attendance. The extension is automatic.
If you’re receiving SSDI and become ineligible for the benefits due to earnings above the substantial gainful activity (SGA) limit, and then later your earnings fall below the threshold, a new application is not required. This is applicable during the extended period of eligibility after a trial work period.
If a child is receiving an auxiliary (dependent) benefit based on the record of a living parent’s record and the parent dies, the conversion from dependent’s benefits to surviving dependent’s benefits is automatic as long as the child is otherwise eligible for the surviving dependent’s benefit.
The same goes for a conversion from a spousal benefit to survivor benefits when the spouse or ex-spouse dies – your benefit will convert to the surviving spouse’s benefit with no application needed. It’s important to note that this conversion can be avoided since deemed filing does not apply to survivor’s benefits; you can revert to your own retirement benefit alone (just remove the spousal excess benefit) and dely receipt of the survivor benefit to a later date if that would be advantageous to you.

This is not an exhaustive list of all situations where an application is not needed, so be sure to check with Social Security to see if an application is required for your specific circumstances.

Posted on Jun 4th, 2018

by author: jblankenship.

9 comments already - add to the conversation!

Posted in: Social Security, social security benefits.
Tagged: Social Security

IRAs Do Not Pass Through Your Will

May 31st, 2018

2 comments

gates of paradise by ConsciousVision will Here’s a little fact that you may not realize: when you assign a beneficiary for your IRA account, you are effectively bypassing any outside action against that account, including your will – assuming that the beneficiary assigned is appropriate.

For most assets that you own, when you pass away, your last will and testament determines who will receive the assets. You may want to make sure that your daughter gets the heirloom china set, and your son receives the antique car, among other things – so you direct these wishes through your will.

If you don’t have a will, your state of residence, through the probate process, determines how your assets are distributed. Generally this will direct your estate to your living heirs in order, from your surviving spouse to your children and then grandchildren. It’s different in each state, so it really makes a lot of sense to get to know the rules in your state. It makes even more sense to set up at least a simple will to make sure everything is distributed per your wishes.

Back to the point: Your IRA does not go through the direction of your will or the probate process, as long as you’ve properly assigned a beneficiary or a group of beneficiaries. (These beneficiaries must also generally still be living at the time of your death.) The great thing about this is, since the assignment is cut-and-dried (i.e., beneficiaries are named specifically, so there are no questions), your heirs can immediately, upon your passing, access the funds in the IRA account if the need should arise. See the article here to find out more about proper choices for beneficiaries of an IRA.

Photo by ConsciousVision

Posted on May 31st, 2018

by author: jblankenship.

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Posted in: estate tax, IRA.
Tagged: IRA

Index Funds: The Oatmeal of the Investing World

May 29th, 2018

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We know it almost instinctively, from all the information we’ve seen about it: oatmeal is good for you. For cryin’ out loud, Wilford Brimley made a living telling us “It’s the right thing to do, and a tasty way to do it.” But in general, most folks look at oatmeal as a bland, tasteless, boring sort of food, and therefore choose much more exciting foods – often to our detriment.

There’s a similar story about index funds for investing: it would be to the benefit of every investor to choose index funds as the core of his or her investment strategy. In this case, the part of Wilford Brimley is being played by Burton Malkiel – venerable author of the classic book A Random Walk Down Wall Street. And again most folks, especially those of us who deem ourselves too sophisticated for such a bland, tasteless, boring investment, choose to use much more exciting investment vehicles – often to our detriment as well.

According to Malkiel in his book – The Elements of Investing – while people of modest means are hurt most by not saving regularly, wealthy folks suffer the most damage by trying to find the “home run” sort of investments pushed by actively managed funds and stock-picking gurus. “If I took all the mutual funds that existed in the early 1970s and asked the question of how many really beat the market through 2009, you can count them on the fingers of one hand”, says Malkiel.

Benefits of Oatmeal (and indexes)

From reports by the American Cancer Society, the great benefits of oatmeal in your diet include the fact that it’s a source of both soluble and insoluble fibers. These two fibers give us diversification across these food “asset classes” that provide the benefits of reducing bile acid toxicity, reducing LDL cholesterol (that’s the bad kind), slowing digestion and absorption of starch, all the while providing us with vitamin E, zinc, selenium, copper, iron, manganese, magnesium and protein. It’s almost as if oatmeal provides us with all the good things we need, and canceling out all the bad – and the diversity of providing all these good things in one package makes oatmeal the perfect food!

An index fund (or a group of index funds covering all asset classes) provides the investor with similar benefits – diversification across all possible investments, providing the average “good” returns while canceling out the bad or negative returns.

It’s safe to say that a diet consisting solely of oatmeal probably wouldn’t be good for you, and no one is suggesting that. A proper diet requires many other things that just aren’t present in oatmeal. If, however, you did include all of those other things – fruit, dairy, and the like – in your oatmeal, you actually could do far worse than choosing a steady diet of your “super oatmeal” all the time. It’s kind of like choosing more than one type of index fund for investing – except that we humans need variety in our diet to keep us satisfied. There’s no inherent need for this satisfaction variety in our investments.

So if you started your investing diet with a blend of two oatmeals – the aggregate bond market index and the total domestic stock market – and then tossed in a portion of some fruits and veggies: the aggregate Europe, Australasia and Far East equity markets, a dollop of emerging equity markets, plus a pinch or two of global equities, then a portion of domestic and global real estate (for that yummy crunch!). Now you’ve got yourself a super oatmeal for investing – providing everything you need to balance your investment tastes. Plus, you don’t have to pay a restaurant (managed fund company) to provide you with a menu, nor do you have to pay extra for a chef (mutual fund manager).

The good thing is that the appetite of our investment accounts doesn’t really need the “filet mignon” or “lobster” sort of investments to maintain proper balance. The steady diet of our “oatmeal” index funds, properly diversified, is plenty for investors of all walks of life.

Disclaimer: I don’t personally eat oatmeal, but I do eat an oat-based cold cereal for breakfast every morning – pretty much the same thing, only a little more convenient for me. Liken it to the difference between a no-load index fund and an ETF.

Photo by Quaker Oats

Posted on May 29th, 2018

by author: jblankenship.

6 comments already - add to the conversation!

Posted in: etf, financial planning, investing.
Tagged: financial planning

Boost Your Social Security Benefit

May 23rd, 2018

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As we’ve discussed elsewhere, your Social Security benefit is calculated based on your highest 35 years of earnings over your career, indexed to the year you reach age 62. So can continuing to work past age 62 (or later) boost your Social Security benefits?

Any year in your earnings history that had very little or no earnings covered by Social Security works against you. Since the calculation assumes 35 years of earnings, any zero years will reduce the average. If you only had, for example, 30 years of earnings on your record and five “zero” years, these years with no earnings will reduce your average earnings that are used for calculating your benefit amount. Continuing to work, even for a minimal amount, will gradually eliminate these zero years from your record for calculation and boost your benefit.

In addition, if you’re earning a higher salary relative to your earnings record, some of the lower years’ earnings can be eliminated from your calculation record as well. If you are earning more now than your indexed earnings from earlier, these higher income years will replace the lower income years, thereby boosting your Social Security benefit by increasing the overall average.

Lastly, when you get your annual statement from the Social Security Administration, a projected benefit amount is reported. If you read the fine print, the projected benefit amount assumes that you continue to work up to the retirement age indicated, with your earnings remaining roughly the same as your most recent year. If you retire at age 62 with no further earnings and wait to age 66 to begin receiving benefits, the amount of benefit that was projected for you at age 62 will be lower because you will have added zero years to the end of your working career. The estimate assumed that you continued working at (presumably) a high earnings rate relative to the rest of your record.

Posted on May 23rd, 2018

by author: jblankenship.

Posted in: Social Security, social security administration, social security benefits, social security retirement.
Tagged: Social Security · social security administration

60-day Rollover Waivers

May 21st, 2018

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Photo credit: jb

There are all sorts of problems that can crop up when attempting to complete a 60-day rollover of qualified funds to an IRA. If you don’t complete the rollover within 60 days, the rollover is not allowed, and your distribution from the original source is subject to tax (and perhaps a penalty). Sometimes you can be granted automatic waivers of the 60-day rule, but only if all of the following apply:

The financial institution receives the funds on your behalf before the end of the 60-day rollover period, but for some reason the institution didn’t get the funds deposited into your eligible retirement plan;
You followed all the procedures set by the financial institution for depositing the funds into an eligible retirement plan within the 60-day period (including giving instructions to deposit the funds into an eligible retirement plan);
The funds are not deposited into an eligible retirement plan within the 60-day rollover period solely because of an error or delay on the part of the financial institution;
The funds are eventually deposited into an eligible retirement plan within 1 year from the beginning of the 60-day rollover period; AND
It would have been a valid rollover if the financial institution had deposited the funds as instructed within the time allotted.

Self certification waivers

There is another option available if the automatic waiver does not apply – called self certification. In order to self certify, you need to fill out a letter using the model at Revenue Procedure 2016-47, or a substantially similar letter. This letter is then presented to the custodian who is to receive your late rollover contribution.

You will be entitled to a waiver if ALL of the following are true:

The rollover contribution satisfies all of the other requirements for a valid rollover (except the 60-day requirement).
You can show that one or more of the reasons listed in the Model Letter prevented you from completing a rollover before the expiration of the 60-day period.
The distribution came from an IRA you established or from a retirement plan you participated in.
The IRS has not previously denied your request for a waiver.
The rollover contribution is made to the plan or IRA as soon as practicable (usually within 30 days) after the reason or reasons for the delay no longer prevent you from making the contribution.
The representations you make in the Model Letter are true.

Please note, a self-certification is not a waiver by the IRS of the 60-day rollover requirement. However, if you qualify for a waiver, you can use the Model Letter to make a late rollover contribution to another plan or IRA. If the IRS subsequently audits your income tax return, it may determine that you do not qualify for a waiver, in which case you may owe additional taxes and penalties. Also, If you have requested a PLR (below) and were not granted a waiver, you cannot self certify on this rollover.

Private Letter Ruling (PLR)

If the above conditions do not apply, you can still request a ruling from the IRS, called a Private Letter Ruling (PLR). You would take this route if you still think your circumstances merit the inclusion of your rollover even though it was beyond the 60-day period. There is a $10,000 fee for requesting the PLR.

When making a determination on your request, the IRS will consider all of the following details:

Whether errors were made by the financial institution (other than those described under “Automatic waiver”, earlier),
Whether you were unable to complete the rollover due to death, disability, hospitalization, incarceration, restrictions imposed by a foreign country or postal error,
Whether you used the amount distributed (for example, in the case of payment by check, whether you cashed the check), and
How much time has passed since the date of distribution.

If you are planning to request a PLR, keep in mind that the costs can be quite high. In addition to the earlier-listed $10,000 user fee, the cost for a tax attorney to prepare the request can be anywhere from $5,000 to $10,000 and more, depending upon the complexity.

Once again, the problems you find with the 60-day rollover highlight the benefit of doing the relatively painless trustee-to-trustee transfer.

Posted on May 21st, 2018

by author: jblankenship.

Posted in: IRA, rollover, tax, waivers.
Tagged: IRA · tax

Social Security for the Self-Employed

May 16th, 2018

1 comment

As a self-employed small business owner, you have lots of plates to keep spinning, and lots of additional costs that you never dreamed of when you were employed by someone else (if you ever were), like health insurance, for example. Another cost that you have to deal with when self-employed is Self-Employment tax.

Self-Employment tax (SE tax) is essentially where you are paying both the employER and the employEE portion of the Social Security withholding tax. This means that, for 2018, you are taxed at a rate of 12.4% on your first $128,700 of income (double the rate you’d have withheld if you were employed by someone else). This doesn’t count the 2.9% that you also have to withhold for Medicare tax – which is another matter altogether.

With this in mind, you might wonder if there are ways that you could reduce the Self-Employed tax…? One way might be to incorporate your business and reduce your income by taking dividends for a portion of the otherwise taxable income. By doing this, you would eliminate the SE tax, and then pay employER withholding and employEE withholding only on each paycheck that you provide yourself. The dividends would not be subject to Social Security tax, since they are not wages.

It’s important to note that such a strategy will have two important factors for you to consider:

Your earnings record will reflect the new, reduced amounts for income, so your future Social Security benefit will be reduced as well
You must be careful to pay yourself a reasonable wage, otherwise the IRS will consider your dividends to be taxable as wage income. It might seem clever to reduce your wages to a very low amount (or eliminate them altogether), but this will come back to haunt you when the IRS gets ahold of your return.

Incorporating your business may be a valid strategy to help reduce your tax costs – for other reasons beyond Social Security tax. But you’ll need to consider all of the consequences before you do this – one of the most important factors being that you will want to increase your retirement savings in order to make up for reduced future Social Security benefits.

Posted on May 16th, 2018

by author: jblankenship.

Posted in: 2010 Tax Act, financial planning, forbes.com, self employment income, Social Security.
Tagged: 2010 Tax Act · Social Security

The Benefit of a Budget

May 14th, 2018

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this guy started his budget sometime around 1972 There are two important records that you need to keep if you’re planning to be successful in managing your finances – a budget and a net worth statement. In this post we’ll talk about how to make a budget, and the benefits of having one. (I can almost hear you groan: Great, the financial guy says I need a budget. I can’t stand the idea of a budget!)

It doesn’t have to be like that. It’s easy to imagine that a budget would be a constraint, but this is really just a fear of the unknown. A budget is really just a spending plan, with priorities applied. There don’t have to be constraints at all – the process of monitoring is the most important part of it all, as you’ll see in a bit.

How to make a budget

Making a budget is much more simple than you think. Track your spending over the past several months (if you can gather the records) and do the same for every expense you pay out from this point forward. Organize these expenditures into categories (you make them up – have fun with it if you like) and begin to think about how your categories relate to your life and your values. For example, you likely have a category for auto expenses, another for home or household expenses, maybe one for groceries, and another for restaurants. You may also have categories for entertainment, gifts, and clothing.

Certain expenses are fixed – such as your mortgage, cable TV, and auto insurance (although each of these could be adjusted from their current amounts). But other expenses can vary quite a bit, such as dining out, entertaining, and clothing. And if you think about it, some of the fixed expenses might be more variable than you think – or at least they could be reduced.

What’s important about a budget is that you are now thinking about your expenditures as you make them. As you track your spending, you’re going to notice that there are some categories that you spend a lot of your income on, while other categories may not have any expenditures in some months.

What you’re doing is prioritizing – even if you haven’t made a conscious effort to do so. Those things that you spend a lot of money on are the things that are (presently) getting more of your attention, time, and money, while other areas are being short-changed. Until you create a spending plan to track your expenses, you probably won’t realize what those priorities really are. Now that you have your spending plan, you can understand the priorities – and you probably will make some changes.

For example, if it turns out that you’re spending exactly every penny that you earn or more (thus no savings), you may decide that savings for a rainy day is important to you (remember, no judgments here, we’re just reviewing the plan). If that’s the case, then you need to figure out what categories of your spending plan are less important to you than saving for a rainy day. Maybe it’s clothes. Or your auto expenses. Or gifts. Whatever that category or categories may be, you are in control and can make wise decisions about what gets priority and what doesn’t, for your life.

Start with your “fixed” expenses – mortgage, homeowner’s insurance, utilities, etc.. Are these really fixed? Is it possible to impact the cost of your homeowner’s insurance – maybe by choosing a higher deductible (for example)? How about refinancing your mortgage to a lower rate? Just be careful that you don’t draw out equity when you do this, or stretch out the payments beyond what’s reasonable – but this could free up some money each month. Maybe you’ve been paying on your mortgage for several years now and have built up equity to a point where you don’t have to pay PMI any more if you refinanced. What about your utilities? Couldn’t you reduce the cost by bumping the thermostat up (or down, depending on the season) a degree or two?

There are a myriad ways to reduce or eliminate these “fixed” expenses – as well as to impact your more variable expenses. Cut back on dining out. There’s no shame in brown-bagging your lunch – if dining out isn’t a high priority for you. The same goes for grocery costs (clip coupons, choose store brands), clothing (most folks have more clothes than they ever wear anyhow), automobile expenses (take the bus, or work out a telecommuting arrangement at your job), and so on.

The point is that unless you track your spending, you can only have a vague idea of what your spending priorities really are. By tracking your spending, now you are fully conscious of where you are putting your money – and you can decide what categories get more of your hard earned dollars.

The benefit of a budget

As mentioned above, once you begin tracking your expenses you are now in a position to understand and take control of your spending. Where before you thought that all these expenses were necessary, now you can begin thinking of where your priorities lie. If you place a higher value on a particular category, let’s say it’s charitable giving, and that priority is higher than your priority for cable television, now you are in a position to consider how to reduce the one expense in order to put more toward the other. Having organized your information you can plan out how your budget dollars will be spent.

The bottom line is this – if you’re going along merrily without any sort of plan or monitoring arrangement, two things are going to eventually happen:

You’ll never achieve the balance of priorities that you hope to achieve in your life; and
At some point, when your income is reduced either by a change in job situation or at retirement, you’re going to have to work out a budget because the expenses without a plan are greater than your income.

Most everyone comes to this point in their life – and those who have spent a bit of time working on understanding their outlays in advance are in a much better position to make changes and adjust to a reduced income when it occurs.

The psychology of a budget

It’s a ubiquitous message in the financial world – you should have a budget. (Perhaps the word “budget” is a turn-off for you, so please use “spending plan” or whatever term you’d like to apply to a system where you track your income and expenses.) For many, it seems like this budget thing is some sort of torture device or a method designed solely to punish you for your spending choices. But did you know that the simple act of tracking your expenses and income can begin to improve your financial situation – without guilt?

If you concentrate on the monitoring aspect of a budget (or spending plan), something interesting will occur. You’ll begin to notice where you’re spending money, and how much money you’re bringing in as income… and as you do this, you’ll automatically begin to make decisions that will help to improve the overall outcome. You’ll reduce expenses where they’re not as necessary, and perhaps bring in more income as opportunities arise.

Part of this may come about by virtue of a management principle known as the Hawthorne Effect – which was a study done in a factory that noted improvement to productivity any time the workers knew they were being monitored. The study leaders increased the lighting in the factory – and productivity increased. Then they reduced the lighting in the factory – and once again, productivity increased.

The Hawthorne Affect invokes the idea that if you’re paying attention to something, especially if you’re being accountable to someone else, it will likely improve. Your accountability can be to your spouse, a roommate, or anyone at all, such as an online community. You can also use software for accountability – such as Mint.com or Quicken software. You just have to get into the accountability mindset.

When you have something to compare to – either a goal expense amount or your historical averages – there is a tendency over time to push your self to improve what you’re monitoring to meet that comparison. This is another management principle known as the John Henry Effect. This principle was developed based on the folk story of John Henry’s competition with the steam engine, and how John Henry stopped at nothing, even death, to beat his competition (comparison). Of course you wouldn’t take your financial improvement to the point of your death – but it just might get you over the hump to improving your financial world. Having a competition, a sort of internal game-play, can be helpful to improve your financial situation.

Posted on May 14th, 2018

by author: jblankenship.

Posted in: financial planning, flex-spending, goals.
Tagged: financial planning · goals

Designated Roth Accounts ( Roth 401k or Roth 403b )

May 7th, 2018

3 comments

Photo credit: diedoe

Designated Roth Accounts or Roth 401k are simply 401k plans that allow employees to designate all or part of their elective deferrals as qualified Roth 401k contributions. Qualified Roth 401k contributions are made on an after-tax basis, just like Roth IRA contributions. This means that employee contributions and earnings are entirely free from federal income tax when distributed from the plan, subject to qualifications. Contributions are not deducted from income (as regular 401k or deductible IRA contributions are). This article discusses qualified Roth 401k contributions.

Caution: 401k sponsors are not required to allow Roth contributions to their plans. But if they do, the 401k plan also can’t be a “Roth only” plan. That is, if the 401k plan allows Roth 401k contributions, then employees must be allowed to make both Roth contributions and pre-tax contributions. SIMPLE 401k and safe-harbor 401k plans can also allow Roth contributions, as can 403b Plans. The rules discussed in here generally apply to Roth 403b accounts as well.

Roth 401k contributions

In general

Technically, an employee makes a Roth 401k contribution by making an elective deferral under the 401k plan, irrevocably designating all or part of that deferral as a Roth 401k contribution. Roth 401k contributions are treated the same as pre-tax 401k elective deferrals for all plan purposes, except that they are included in an employee’s wages for tax purposes at the time of contribution (i.e., Roth 401k contributions are after-tax contributions, where pre-tax 401k contributions are deducted from income before payroll tax). Both types of contribution are subject to Social Security and Medicare tax when earned.

A 401k plan must establish a separate Roth 401k account (designated Roth accounts, or DRACs) to house each employee’s Roth 401k contributions. The Roth 401k account is treated as a “separate contract” under the 401k plan, requiring separate accounting for the Roth contributions, as well as any gains or losses on those contributions. The taxation of distributions from the Roth account is also determined separately from any other plan dollars.

Even though a Roth 401k account is treated as a “separate contract,” the amount a participant can borrow, or withdraw on account of hardship, is determined based on the participant’s combined Roth and non-Roth plan account balances. In addition, Roth and non-Roth account balances are combined to determine whether a participant’s vested accrued benefit is $5,000 or less, allowing the account to be involuntarily cashed-out upon termination of employment. However, the Roth and non-Roth account balances are treated separately when determining whether a cashed-out participant’s vested accrued benefit exceeds $1,000, requiring an automatic rollover to an IRA in some cases.

Eligibility for designated Roth accounts

Any employee who is eligible to participate in a 401k plan can make Roth contributions, as long as the plan allows Roth contributions. Unlike Roth IRAs, no income restrictions apply to a Roth 401k program. Even highly paid employees who aren’t otherwise eligible to contribute to a Roth IRA can make Roth 401k contributions.

Contribution Limits

Because Roth contributions to a 401k plan are treated as elective deferrals, careful attention must be paid to the elective deferral limits. In 2018, an employee is allowed to contribute up to $18,500 of his or her compensation to a 401k plan. Participants who are age 50 or older may also make additional “catch-up” contributions of up to $6,000 in 2018.

These limits apply to the total of all elective deferrals (including both pre-tax contributions and after-tax Roth contributions) that an employee makes during the year to any 401k plan, 403b plan, SAR-SEP, or SIMPLE plan, whether or not sponsored by the same employer. SIMPLE plans have a limit of $12,500, while SAR-SEPs have the same limitation as 401k plans. The employee is responsible for making sure the overall limit isn’t exceeded. This can be complicated if he or she participates in plans of more than one employer during a calendar year.

Example(s): Joe begins working for a new employer on July 1, 2018. Joe has already made $10,000 of elective contributions ($5,000 Roth 401k and $5,000 pre-tax 401k) to his former employer’s plan in 2018. Joe can only contribute an additional $8,500 to his new employer’s Roth or regular 401k plan in 2018 ($14,500 if Joe is age 50 or older).

If an employee contributes too much in any particular year, the employee must withdraw the excess (and the applicable earnings) before April 15 of the following year to avoid adverse tax consequences. If an employee fails to make a timely withdrawal, any excess Roth 401k contributions are tax-free, however, the applicable earnings will be subject to income tax. Both the excess contribution and the earnings will be subject to an early distribution penalty when distributed from the plan within the first 5 years of participation. This distribution (contributions and earnings) will not be eligible for rollover to another employer plan or IRA. A distribution of excess Roth deferrals and applicable earnings cannot be a qualified distribution.

Total annual additions to an employee’s 401k plan account in 2018 – including employer contributions, forfeitures, and employee pretax, Roth, and non-Roth after-tax contributions – can’t exceed $55,000 (plus any allowable catch-up contributions). You must treat all defined contribution plans you maintain (including 401k plans, 403a annuity plans, 403b plans, and SEPs or SAR-SEPs) as a single plan for purposes of calculating the annual additions limit.

Treatment of Roth 401k contributions as elective contributions

Roth 401k contributions are treated as elective deferrals for all 401k plan purposes. That is, except for the tax treatment, they are treated the same as pre-tax 401k contributions.

For example, Roth 401k contributions:

Can be distributed only for one of the following reasons: severance from employment, age 59½, disability, hardship, or death (and a hardship distribution will generally trigger a minimum six-month suspension penalty)
Must be included with pre-tax contributions when performing 401k nondiscrimination testing
Must be distributed starting at age 70½ (or, in some cases, after retirement)
Can be borrowed (if the plan allows)
Qualify for the retirement plan “Saver’s Credit”

Employer contributions

An employer can match employees’ Roth 401k contributions, pre-tax contributions, or both, but employer contributions are always made on a pre-tax basis, even if they are to match employees’ Roth 401k contributions. Put simply, employer matching contributions, and earnings on those contributions, are not added to an employee’s Roth 401k account, but rather to the employee’s regular 401k. As such, these matching contributions and growth will be subject to federal (and many state) income taxes when distributed from the 401k plan regardless of whether they match an employee’s pre-tax or Roth 401k contributions.

A 401k plan can require that an employee have up to 6 years of credited service before the employee is fully vested in employer matching contributions.

While employers aren’t required to make matching contributions to traditional 401k plans, many employers match all or part of their employees’ contributions. Employers can also make discretionary profit-sharing contributions to a 401k plan. Special rules apply to SIMPLE 401k plans, safe-harbor 401k plans, and 401k plans that contain a safe-harbor qualified automatic contribution arrangement (QACA).

In another post we’ll cover the specifics of distributions from a Designated Roth Account.

Posted on May 7th, 2018

by author: jblankenship.

3 comments already - add to the conversation!

Posted in: drac, financial planning, investing, qrp, qualified retirement plan, roth 401 k, Roth 401(k), tax.
Tagged: designated roth account · financial planning · roth 401 k · tax

Not So Fast! 9 Special Considerations Before Rolling Over Your 401(k)

Apr 23rd, 2018

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Photo credit: coop

Conventional wisdom has long told us that when you leave employment – either by taking another job, getting laid off, or retiring – it makes good sense to rollover your 401k plan to either an IRA or to your new employer’s 401k plan if that makes sense.

However – and if you read here much, you know there’s always a however in life – this decision isn’t as cut-and-dried as conventional wisdom leads us to believe. As with just about every financial decision we make, it’s not wise to go off willy-nilly without considering all of the benefits that we’re giving up. (and if you’ve read much of my writings, you know I don’t cater much to the willy-nilly!)

9 Special Considerations Before You Rollover Your 401k

If you are happy with your former employer’s plan, consider it well-managed, with low cost, and possibly with some investment options that are not readily available (such as desirable mutual funds that are closed to new investors), you may want to leave the plan right where it is. This is especially beneficial if you don’t have another employer plan to rollover your 401k into, or if you are squeamish about setting up an IRA.
It is possible that maintaining a 401k account could garner you some employer-sponsored financial advice. Not all plans offer this, but if yours does, it could be a valuable option to keep. If you rollover your 401k, this benefit would be gone.
If you have commingled deductible and non-deducted IRA contributions in your IRA account, having an active 401k plan can help you to separate the deductible IRA money from the non-deducted. See this article about the pro-rata rule for more information. Essentially this benefit gives you a way to bypass the “little bit pregnant” rule which requires you to aggregate all IRA funds pro-rata when making distributions. This is a common issue when doing a Roth IRA conversion, for example. If you rollover your 401k, this option may be lost, unless you rollover into a new 401k.
If you have an investment in your former employer’s stock in your 401k, you need to consider the ramifications of utilizing the Net Unrealized Appreciation (NUA) option – before doing a rollover. This article explains NUA, in case you need a refresher. The point is, if you’ve taken even a partial rollover of your 401k in a previous year, the NUA treatment is no longer available to you.
If you think you may be returning to this employer, it might make sense to leave your funds where they are. This is especially true for government employers with section 457 plans – due to the nature of these plans’ ability to provide you with retirement income without penalty much earlier than an IRA or 401k can. With the vagaries of governmental policy changes, if you’ve withdrawn and closed your account and come back to work for the same agency, the old plan may no longer be available to you since you’re a “new” participant.
If you’re at or older than age 55 and are not moving to a new employer (or are undertaking self-employment), maintaining the 401(k) plan gives you an option to begin taking distributions prior to age 59½ without penalty. If you rollover your 401k to an IRA or to a new employer’s 401k plan, this option is lost.
On the off-chance that you might need a loan from your retirement funds, you should know that IRAs do not have this provision. Retain at least some balance in the plan if you might need this option – but also you should check with your plan administrator to see if this option is available for non-employee plan participants, because it might not be (and actually, it likely is not). But keeping in mind #5, if you’ve maintained a healthy balance in the plan and you return to work with this same employer, you’d have a much larger account to work with if you needed to borrow.
Funds in a 401k account are protected by ERISA – and as such are generally not available to creditors in the event of a personal bankruptcy. Depending upon the state you live in, IRA assets may be available to your creditors in the event of a bankruptcy. If you’d like to bone up more on this, see this article. At any rate, ERISA protection is pretty much an absolute, so this is yet another reason you might consider leaving funds in a former employer’s 401k plan.
Take your after-tax contributions out first, if your plan happens to include these. If you’ve made after-tax contributions, as some plans allow, it makes sense to separate these contributions from the pre-taxed amounts. You can then convert this after-tax money directly over to a Roth IRA in most cases without tax. This is because the 401k isn’t subject to the “little bit pregnant” rule alluded to earlier. Once you’ve removed the after-tax contributions and put them into a Roth IRA, you might want to rollover your 401k (the remaining money) if it makes sense.

I don’t imagine that this is an exhaustive list of all the reasons you need to stop and think about it before rolling over a 401k plan, but we’ve hit the high points. If you have other good reasons to share, please leave a comment!

Posted on Apr 23rd, 2018

by author: jblankenship.

Posted in: 401k, IRA, retirement plan, rollover, Roth conversion, tax.
Tagged: 401k · IRA · retirement plan · tax

Why Inactivity Can Be Your Best Friend

Apr 20th, 2018

by sraskie.

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When most of us think about the word inactive, we may think negatively – such as lounging around on the couch, being lazy, or apathetic to a given situation. Most of us feel the need to be active to promote a healthy lifestyle through exercise, perform optimally at our job, or being involved with our family. In many cases, this is valid.

There is one area where inactivity can be beneficial.

When it comes to investing, doing less can help us achieve the expected return we need on our portfolios, while keeping expenses as low as possible.

For many of us, this seems counterintuitive. Many of us can’t help but to do something, anything. Some of us may feel that if we are in control of our investments, we can impact their performance.

But the truth is for most us, we are not in control. We cannot control the markets. We cannot control the fluctuations. Being active in our portfolios to control volatility and returns is a frivolous endeavor.

What do I mean by active? Here are a few examples. Selling out of a stock or fund when it is underperforming, without any other basis for consideration. Just because an asset is underperforming doesn’t mean it should be sold. In fact, we should expect assets in our portfolios to underperform – to lose money from time to time. This means we are diversified.

Another example is buying an asset based on recent performance. Based on its recent good performance, we may feel it’s bound to keep going up. We may also feel the need to buy and sell based off news reports, market prognosticators, or tips from family and friends. This can lead to the temptation of day trading – a recipe for disaster.

To paraphrase the great Warren Buffett, much can be attributed to inactivity, but investors cannot resist the urge to do something.

What do we mean by inactivity? Inactivity means once we have our asset allocation determined, and have the appropriate diversification among the asset classes, we need to sit back and let our investments do their work. This keeps expenses low, transaction costs to a bare minimum, and more importantly, allows us to focus on things we can control – such as other areas in our wealth management planning.

I jokingly call this a “Rip Van Winkle” portfolio. Set it up, fall asleep for many years, then wake up and look at how much money you have. We’ll have save money, time, and energy by not trying to control what we can’t. And over time, we’ll find that we’ve done way better in our investments than those who are busy (and stressing) for the sake of being active.

Posted on Apr 20th, 2018

by author: sraskie.

Posted in: asset allocation, asset class, diversification, diversify, index funds, investing, investment, investment diversification.
Tagged: investment

Converting Directly From a 401(k) to a Roth IRA

Apr 16th, 2018

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Photo credit: jb

Back in the olden days prior to 2008, it used to be against the rules to convert funds directly from a 401(k) plan (or other CODA plan, like a 403(b)) to a Roth IRA. At that time, you were required to do the “conversion two-step” wherein you would first rollover or direct-transfer your funds from the 401(k) plan to a traditional IRA, then do a conversion from the trad IRA into your Roth IRA. This was an unnecessarily complicated process, and the IRS logically waited until it got ridiculous and then relented listened to taxpayers, allowing taxpayers the option of converting directly from these qualified retirement accounts into a Roth IRA.

This earlier process was needlessly complicated, and it often introduced additional room for taxation, especially if you have after-tax money in your 401(k) plan.

The process is identical to the process for converting directly from a traditional IRA to a Roth IRA. You can make this conversion from your:

Employer’s qualified pension, profit-sharing or stock bonus plan (including a 401(k) or other plan),
Annuity plan,
Tax-sheltered annuity plan (section 403(b) plan), or
Governmental deferred compensation plan (section 457 plan).

You are allowed to convert all or part of the account. Prior to 2010, there was an income limit on converting directly to a Roth IRA from any account, but that limitation was eliminated. Any pre-tax amount converted must be reported as income in the year of the conversion. If your account includes after-tax amounts, there may be some fancy footwork involved but you may be able to convert the after-tax monies without tax or penalty.

The conversion can be done either via a direct trustee-to-trustee transfer or a rollover. In general, the trustee-to-trustee transfer is the preferred method since a rollover involves making a check payable to you, which requires the payor to withhold 20% of the rollover. If your 401(k) administrator has the option available, you can request a non-direct rollover (check made out to the new IRA account), which will allow you to bypass the withholding requirement.

Any amount that is not successfully converted (via an indirect rollover) within 60 days would be taxable AND subject to the 10% penalty unless other conditions apply. In other words, when you convert these funds over to your Roth account, in order to pay the tax on the withdrawal you’ll need to either hold out a portion and pay the 10% penalty on those funds, or pay the tax from another source.

Posted on Apr 16th, 2018

by author: jblankenship.

2 comments already - add to the conversation!

Posted in: 401 k 403 b, 401k, Early Distribution, IRA, Roth conversion, Roth IRA.
Tagged: 401 k · IRA · roth conversion · roth ira

Auto Insurance Explained

Apr 13th, 2018

by sraskie.

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Photo courtesy of Kyle Szegedi via Unsplash.com.

Most individuals who drive a vehicle have that vehicle insured (or should). In many states (including Illinois) auto insurance is mandatory. However, mandatory does not mean adequate. Even the phrase “full coverage” does not indicate adequate coverage for a person or family. The following is a breakdown of what coverages are generally provided on an auto policy, and some ideas regarding the amount those coverages should be.

A. This coverage is for you or a permitted driver of your vehicle that provides liability coverage in the event you are liable for bodily injury from an auto accident. This coverage provides bodily injury protection on a per person and per accident basis. There’s also coverage for property damage. Coverages are stated in thousands of dollars. For example, 250/500/100 means $250,000 of bodily injury protection per person, $500,000 total per accident, and $100,000 property damage coverage. Coverage amounts can be higher (or lower), but 250/500/100 is the minimum one should have.

B. Medical Payments. This coverage is provided to you and occupants of your vehicle for injuries sustained or for you if you’re struck by a vehicle while as a pedestrian (e.g. walking in a crosswalk and hit by a car). Coverage is usually from $1,000 to $5,000 per person, per occurrence.

C. Uninsured/Under-Insured Motorist. This coverage provides you and occupants of your vehicle coverage in the event another party is liable for your injuries and doesn’t have enough of their own insurance coverage (liability) to cover your injuries or they don’t have any insurance at all. Generally, these amounts are going to be identical to Coverage A amounts on your policy.

D. Coverage for Damage to Your Vehicle (Comprehensive and Collision). This coverage is what most people think of when they hear “full coverage”. Full coverage meaning there’s the required liability protection (Coverage A) along with the optional Coverage D (comp and collision). Let’s break comp and collision down further.

a. Comprehensive (or sometimes called Other Than Collision) is coverage for damage to your vehicle arising from theft, vandalism, colliding with a bird, deer, or other animal, glass damage, fire, hail. Generally, there a deductible involved (your sharing in the loss). After the deductible is met, then insurance pays the remainder for damages. Generally, the higher the deductible, the lower the premium. In many cases, damage from comprehensive losses are not considered at-fault (they won’t increase your premiums).

b. Collision is coverage for damage to your vehicle arising from hitting another car, running off the road, hitting a tree, driving into a lake. Like comprehensive, there will be a deductible involved after which the insurance company will pay for the damages. Unlike comprehensive, in most cases a collision claim will result in an at-fault accident that will likely raise your premiums.

c. For both comp and collision consider the age of the vehicle and the age of the driver. If the vehicle is older (10+ years) consider dropping these coverages and carrying liability only. If you have a young (teen) driver, consider rating he or she on a vehicle with liability only. Naturally, you may not have the choice if you have a lien on the vehicle. In that case, the lender may require comp and collision with specific deductibles.

Here are some other aspects of auto insurance that are good to know. In most cases, your coverage will extend to rental vehicles (check with your carrier to be sure). This means many individuals can skip the extra insurance pitched to them when renting a car while on business or vacation.

Insurance follows the vehicle. This means that if you borrow someone’s car or they borrow yours and there’s an accident, the insurance used first is the insurance that on the vehicle involved in the accident, regardless of driver.

Additionally, most policies will not provide coverage outside of the US. Some exceptions are Canada and within a certain distance inside the border of Mexico. Again, check with your specific carrier.

Finally, many carriers will specifically exclude coverage for auto racing, driving a vehicle without permission, business use, being an Uber or taxi driver, or regular use of a vehicle by a driver not underwritten on the policy.

As always, if you have any questions about auto insurance (or other insurance) feel free to contact us. Even though we don’t “sell” insurance, our office is licensed in insurance to give you the advice you need.

Posted on Apr 13th, 2018

by author: sraskie.

Posted in: auto insurance.
Tagged: auto insurance coverage · full coverage · liability

The Importance of IRA Custodial Documents

Apr 11th, 2018

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Photo credit: jb

Remember when you opened your IRA account? And the broker or advisor handed you the 37-page custodial documents? Read that cover-to-cover, dintcha?

Unfortunately, too many of us don’t read these documents closely, and may end up getting a big surprise later on. What sorts of surprises, you might ask…? Well, here are two major surprises that could await you:

Per Capita or Per Stirpes? If you have multiple beneficiaries of your IRA, how your IRA custodian determines between these two will be important to know. This difference will determine how your account will be distributed. Here’s how – Per Capita means that, for example, if you have three equal beneficiaries designated on your account and one of the beneficiaries pre-deceases you, the account will then be split in two, between the two remaining beneficiaries. If the account were to be split Per Stirpes, the two remaining beneficiaries would each receive a 1/3 share, and the beneficiaries (or the estate) of the deceased beneficiary would receive the remaining 1/3 share. Typically there is a check-box on the beneficiary form to help you designate your beneficiaries as you wish, and if not specified by you, ultimately the control comes down to the custodial documents. This becomes even more important with the second consideration…

Divorced, but forgot to change beneficiary form? Depending upon the custodial agreement, the custodian could follow the court’s ruling, wherein the divorce decree may declare that all marital property is split as indicated and named in the document, with no other splitting to be done. Or, the custodian could go strictly “by the book”, where the beneficiary form indicates a specific individual as the primary beneficiary, regardless of any other outside document. And here is how the Per Stirpes/Per Capita issue becomes important in this case: what happens if the former spouse is the only named beneficiary on the account (no secondary beneficiary(ies)), and the former spouse pre-deceases the account owner? If the custodian holds to the Per Stirpes definition, the former spouse’s heirs could reap the benefits of the account… scary huh?

So, in the end, it pays to know a little about the custodial documents on your IRA account, just so you don’t have any surprises. If you don’t understand it or can’t follow what the document is telling you, make your advisor explain it to you – especially these two factors mentioned above. That’s part of an advisor’s job – to advise you – and you’re paying them to do that sort of thing.

Posted on Apr 11th, 2018

by author: jblankenship.

Posted in: financial planning, IRA.
Tagged: financial planning · IRA

Who should do a mid-year tax checkup?

Apr 9th, 2018

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As a followup to my two posts last week on mid-year withholding checkup and estimated tax checkup, I found another notice from the IRS last week that pointed out there are certain groups of people really need to do a checkup. This alert was part of the IRS’ communication IR-2018-80.

Special alert for key groups to check withholding

The IRS always recommends employees check their withholding at the beginning of each year or when their personal circumstances change to make sure they’re having the right amount of tax withheld from their paychecks.

Following the recent tax law changes, it’s especially important for certain people to use the Withholding Calculator on IRS.gov to check if they are having the right amount of withholding.

Among the groups, in particular, who should check their withholding are people who:

Belong to a two-income family.
Work two or more jobs or only work for part of the year.
Have children and claim credits such as the Child Tax Credit.
Have older dependents, including children age 17 or older.
Itemized deductions on their 2017 tax returns.
Earn high incomes and have more complex tax returns.
Received large tax refunds or had large tax bills for 2017.

“The IRS urges people in these groups to take a few minutes and review their withholding and tax situation,” Kautter said. “Taking this step will help avoid surprises next year at tax time. ”

The new law increased the standard deduction, removed personal exemptions, increased the child tax credit, limited or discontinued certain deductions, and changed the tax rates and brackets.

If you fit into one of those groups and need more information on how to do a mid-year withholding checkup, see the article at the link.

Posted on Apr 9th, 2018

by author: jblankenship.

Posted in: income tax, withholding.

3 Ways to Do a Roth Conversion – Tax Free

Apr 4th, 2018

2 comments

Photo credit: jb

If you have money in an IRA and you’d like to do a tax free Roth conversion, you may be wondering just how to do it. There are actually several ways to do a tax free Roth conversion, and three very common options are listed below.

After-Tax IRA Contributions

If your traditional IRA is composed only of after-tax (non-deducted) contributions, you can convert those funds over to a Roth IRA without tax consequence. This is because the funds were taxed before you contributed them to the IRA, and so no tax is due when you convert the funds to a Roth IRA. This often is the case if you have no other traditional IRAs and you’ve made non-deductible contributions to the account (often from income limitations). You can convert these non-deductible contributions from the traditional IRA to a Roth IRA with no tax consequences. The only tax (if this is your only traditional IRA and it only contains non-deductible contributions) is if there is any growth on the contributed funds, such as interest earned or capital gains that have occurred.

The “gotcha” in this is that the IRA must be ONLY non-deducted, after-tax contributions. Plus this must be the only IRA that you have – see the article: Turns Out You CAN Be A Little Bit Pregnant for more details, including a way around the “Pregnant” Rule.

If you happen to have other IRAs or other, deducted contributions in the traditional IRA, it’s not the end of the world. You’ll just have more tax to pay on the Roth Conversion.

After-Tax Qualified Retirement Plan Contributions

If you happen to have after-tax contributions to a Qualified Retirement Plan (QRP) such as a 401k plan, these can be used for a tax free Roth Conversion if you’ve terminated employment or the retirement plan has terminated. You can do this without having to worry about the “Pregnant” rule I mentioned above. This is because QRP funds are treated differently, and as such you are allowed to move specific contribution money separate from other contribution money (e.g., pre-tax contributions separate from after-tax contributions).

Also, if you have money in a Roth 401k, it’s not actually considered a conversion but you can rollover your Roth 401k money into a Roth IRA with no tax consequences, as long as your plan allows. Generally this means you have either reached age 59½ (for some plans; many do not allow in-service distributions), or you must have left employment with that employer.

Zero Tax Bracket

If you have no or very low taxable income, that is, if you’re below the 10% tax bracket, any funds that you distribute from your traditional IRA up to the limit – which would be your AGI minus your exemptions and itemized or standard deductions and any tax credits – would be tax free. Granted, this is likely to be a somewhat small amount for most people in this situation, but for others, such as business owners or farmers with carried-over Net Operating Losses, it could be sizeable. See the linked article for more information on NOL carryovers and Roth IRA conversions.

Photo by Phillip

Posted on Apr 4th, 2018

by author: jblankenship.

2 comments already - add to the conversation!

Posted in: IRA, retirement plan, tax.
Tagged: IRA · retirement plan · tax

Mid-year estimated payments checkup

Apr 2nd, 2018

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estimated payments checkup calculator As a retiree, you may have a bit more difficulty determining if your withheld tax throughout the year is going to be enough. This is especially true in 2018, with the new tax tables and rules associated with the Tax Cuts and Jobs Act of 2017. For this reason, you may want to do a mid-year estimated payments checkup, to help ensure you’re having enough (but not too much) tax withheld.

If you’re not retired or are retired and still working part-time, you may want to check out the Mid-year withholding checkup article to help make sure you have enough tax withheld.

There are commercial programs available to help you figure this out (check with your tax preparer or tax software), or you can use the IRS Form 1040ES to help you work through an estimated payments checkup. I’ll briefly describe the process below using Form 1040ES.

Estimated payments checkup

Go to the IRS website (www.IRS.gov) and search for Form 1040ES. The form itself includes the instructions for filling out the form, as well as vouchers that you can use to make estimated payments (if needed). This will help you with your mid-year estimated payments checkup.

You’ll need to gather quite a bit of information together for this form. I’ll step you through the process (high level) below, so that you’ll have an idea of everything you’ll need when you start working through the form.

You need to estimate your income for the year. This may include pensions, annuities, required minimum distributions (RMDs) from IRAs, 401k’s and other plans, plus interest, dividends, any rental, partnership or corporate income, and your Social Security benefits. Go ahead and project the total amount that you’ll receive from each source through the end of the tax year. For most of these payments, if they occur monthly you can just multiply the monthly amount by 12. If it’s a quarterly payment, multiply by 4. If it only comes once a year, just project the total amount to the best of your knowledge (use last year’s tax return and documents to help you with this process). Make sure that you count the gross amount, not the net check that you receive after taxes and other deductions!

Next, if you’re having money withheld from any of these payments, go ahead and project that amount for the year as well – just the same as you did with the payments you receive.

You’ll also need to understand a few things about your tax return filing in order to fill out Form 1040ES properly:

Filing status
Can anyone else claim you as a dependent? Same for your spouse if filing jointly.
How many jobs have you worked (or will you work) in 2018? Same for your spouse.
Will you or your spouse receive a taxable scholarship or grant in 2018?
Are you or your spouse age 65 or older in 2018? Blind?
Number of dependents (not including spouse) to claim on your 2018 return.
Number of children that will be claimed for child-care expenses, child tax credit, and earned income credit

You’ll need to estimate your deductions next. If you’ve always used the standard deduction in the past, chances are you’ll continue to use the standard deduction in 2018. If you have had circumstances change, such as buying a house, moving to a higher-tax state, you’ve made significant contributions to charity, or you have significant medical expenses (beyond insurance coverage), then you’ll want to go through the exercise of calculating your itemized deductions. The calculator steps you through the process of estimating your taxes, medical expenses, interest paid on mortgages, charitable contributions and other itemized deductions.

When you have all of the above information together, you can work your way through Form 1040ES and calculate any shortfall that you will have in withheld tax. The form is designed to limit your withheld tax to the minimum before a penalty is applied. This means that you only have to withhold 90% of the current year’s tax, or 100% of the previous year’s tax, and your shortfall can be up to $1,000 before a penalty applies to your situation.

Understand that you may owe as much as $1,000 or more in tax when you file your tax return if you follow Form 1040ES to the letter!

Your result will help you to determine what the amount of estimated payments are that you may need to make for the year (if required). You can also make adjustments to withholding on any of your income sources to make up a withholding shortfall, by submitting a new W-4P form to your pension administrator, for example.

Posted on Apr 2nd, 2018

by author: jblankenship.