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What is Meant by Half Years of Age?

May 21st, 2012
by jblankenship.
1 comment
fireworks

If you’ve paid much attention to the rules around retirement plans (IRAs, 401(k)s, and others), you’ve probably noticed that there are a couple of rules that refer to ages that include “½”.  So what does this mean??

Well, quite literally, this means 6 months after you reach a certain age.  The two primary ages with “½” included are 59½ and 70½.  So, to be age 59½, means that you reached your 59th birthday six months prior to that date.  Likewise, to be age 70½ means that you reached age 70 six months prior to that date.

These two ages are for different purposes and are (naturally) treated differently.

Age 59½

The rule using age 59½ is for one of the exceptions to the penalty for early withdrawals from your IRA or 401(k) plan: once you’ve reached that age (and not before that age) you can take withdrawals from your IRA or 401(k) plan without limits (401(k) plans may also require a separation from service).

Here is an important point: this rule is specifically applied ONCE YOU REACH AGE 59½, and not before.  In the year that you will reach this age, any withdrawals taken from the account before you reach age 59½ will be subject to the 10% penalty if no other exceptions apply.

Age 70½

The rule using age 70½ is regarding Required Minimum Distributions (RMD), as well as limiting contributions to an IRA.  For RMDs, the requirement is simply that you must begin taking the required distributions for the year in which you’ll reach age 70½.  (You can actually delay the first distribution until April 1 of the following year, but the distribution is based on the year when you reach age 70½.)

Note that this is different from the way the 59½ rule works: it’s simply the year in which you’ll reach age 70½, not the specific date that you reach age 70½.  So if your birthday is between January 1 and June 30, your age 70½ year is the year that you reach 70 years of age.  If your birthday is between July 1 and December 31, your age 70½ year is the year that you’ll be reach 71 years of age.

The same holds true for contributions to an IRA: in the year that you’ll reach 70½, you are not allowed to make contributions, and you are not allowed to make contributions thereafter.

You Don’t Have to Count Days

The good news is that you don’t have to count days.  For the purposes of these rules, the half year is the same date, six months later.  For a birthdate of May 11, the half year is reached on November 11 of that same year.  For odd circumstances, such as August 31, of course you’ve reached the half year on February 31 of the following year.  Actually, I believe the rule is that you reach that milestone on March 3 – I’d use this date if you are in this situation, just to be certain.

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Posted on May 21st, 2012
by author: jblankenship.

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Posted in: 72t, Early Distribution, employer plan, IRA, qrp, retirement accounts, rmd.
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2013 Social Security Wage Base Projected

May 18th, 2012
by jblankenship.
3 comments
Cardpunch operations at U.S. Social Security Administration

jb update 10/16/2012: The wage base for 2013 was confirmed at $113,700.

The Social Security Administration trustees recently projected the wage base for 2013.  This is the maximum amount of wage income that an individual earns for the year that is subject to Social Security withholding tax.  For 2013, this amount is projected at $113,700.

The new amount is $3,600 more than the 2012 wage base, which is set at $110,100, for an increase of 3.27%.  Keep in mind that this is only the increase in the taxed wage base, and there is little correlation between this and any potential increase in benefits for the year.

Future years’ estimated wage bases are projected as follows:

2014: $117,900

2015: $123,000

2016: $128,400

These are only projections, each year in October the SSA trustees will set the amount for the coming year.

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Posted on May 18th, 2012
by author: jblankenship.

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Posted in: #noTOP, 2013 tax year, Social Security, social security administration, social security tax.
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Penalties for Failure to File or Pay

May 14th, 2012
by jblankenship.
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Exterior of the Internal Revenue Service office

When you don’t file your tax return or if you don’t pay the tax owed on time, the IRS has specific penalties that are applied to your account.  Recently the IRS issued their Tax Tip 2012-74, which lists eight facts about these penalties.  The actual text of the Tax Tip is listed below:

Failure to File of Pay Penalties: Eight Facts

The number of electronic filing and payment options increases every year, which helps reduce your burden and also improves the timeliness and accuracy of tax returns.  When it comes to filing your tax return, however, the law provides that the IRS can assess a penalty if you fail to file, fail to pay, or both.

Here are eight important points about the two different penalties you may face if you file or pay late.

  1. If you do not file by the deadline, you might face a failure-to-file penalty.  If you do not pay by the due date, you could face a failure-to-pay penalty.
  2. The failure-to-file penalty is generally more than the failure-to-pay penalty.  So if you cannot pay all the taxes you owe, you should still file your tax return on time and pay as much as you can, then explore other payment options.  The IRS will work with you.
  3. The penalty for filing late is usually 5 percent of the unpaid taxes for each month or part of a month that a return is late.  This penalty will not exceed 25 percent of your unpaid taxes.
  4. If you file your return more than 60 days after the due date or extended due date, the minimum penalty is the smaller of $135 or 100 percent of the unpaid tax.
  5. If you do not pay your taxes by the due date, you will generally have to pay a failure-to-pay penalty of ½ of 1 percent of your unpaid taxes for each month or part of a month after the due date that the taxes are not paid.  This penalty can be as much as 25 percent of your unpaid taxes.
  6. If you request an extension of time to file by the tax deadline and you paid at least 90 percent of your actual tax liability by the original due date, you will not face a failure-to-pay penalty if the remaining balance is paid by the extended due date.
  7. If both the failure-to-file penalty and the failure-to-pay penalty apply in any month, the 5 percent failure-to-file penalty is reduced by the failure-to-pay penalty.  However, if you file your return more than 60 days after the due date or extended due date, the minimum penalty is the smaller of $135 or 100 percent of the unpaid tax.
  8. You will not have to pay a failure-to-file or failure-to-pay penalty if you can show that you failed to file or pay on time because of reasonable cause and not because of willful neglect.
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Posted on May 14th, 2012
by author: jblankenship.

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Posted in: irs, tax, tax deferral, tax preparers.
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Inherited IRA Multiple Beneficiary Example

May 9th, 2012
by jblankenship.
6 comments
All of the beneficiaries of the future rice mill

I thought it might be helpful to work through an example of an IRA that has been inherited by multiple beneficiaries, so that we can discuss the important components of working with such a situation.

In our example, we’ll say there is an IRA worth $800,000 at the date of death of the original owner, and she has designated four beneficiaries of the account.  One of the first factors that is important to note is that the beneficiaries could be anyone – they do not have to be related to the original owner, or likewise they could be the children, grandchildren, nieces, nephews, brothers or sisters of the original owner.  For the purpose of this example though, none of the beneficiaries is the surviving spouse of the original owner – surviving spouses have different rules to work from.

Option 1 – Do Nothing

The beneficiaries of the original account could choose to make no changes to the account, leaving it exactly where is was during the life of the original owner. Assuming that the original owner was not subject to Required Minimum Distributions (that is to say, the original owner was not age 70½ or older), the account will be distributed over the lifetime of the oldest of all the beneficiaries, in equal shares to each of the four.  Table I, Single Life Expectancy, is used to determine the amount of the distribution, and the age is the age of the oldest beneficiary. (If the original owner was subject to RMD, the beneficiaries have the option of using her lifespan instead of the lifespan of the oldest beneficiary if this would result in a longer payout period.)

This option results in the least amount of “moving parts” and is likely the simplest to implement, but as we all know, getting four people to agree on things like how to manage the account, what investments to make, etc., is a difficult task.  This option also requires the younger beneficiaries to take distributions of larger amounts than would be required if the account were distributed over their own, longer, life span.

Option 2 – Separate Accounts

The beneficiaries of the IRA account have the option of splitting up the account into equal shares of the original account.  In this fashion, each individual would own an account, titled as “inherited” so that there’s no misunderstanding – the account is inherited, not a regular IRA (more on this later).

Once the separate accounts are set up, each of the four beneficiaries is allowed to (actually required to) take distributions over his or her own lifespan, rather than all being required to take distributions over the oldest beneficiary’s lifespan as was the case in Option 1.  In addition, each beneficiary can now make the investment and management decisions about the account separately.  The individual beneficiary should now also designate a beneficiary for any amount that is remaining in the account when the individual beneficiary dies.

Important Points

A few points that are very important to note here:

  • The separate accounts are the property of each individual beneficiary, but the account must retain a title which clearly designates the account as inherited.  Since the account is inherited, the owner of the account cannot make contributions to the account, roll it over into another IRA account, or convert the account to a Roth IRA.
  • When creating the separate accounts, it is important to ensure that the transfer is a trustee-to-trustee transfer.  If the funds are removed from the account (as in a 60-day transfer) then contribution back into an IRA is not allowed, and the amount distributed is no longer considered to be an IRA.
  • The separate accounts must be established by December 31 of the year following the year of the death of the original owner.  If not established by this date, then Option 1 is the default, and now only, option available.
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Posted on May 9th, 2012
by author: jblankenship.

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Posted in: inherited IRA, investment, IRA.
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SS Earnings Info Online; Plus Paper Statements Are Coming Back!

May 4th, 2012
by jblankenship.
7 comments
From "Why Social Security?" (1937)
From “Why Social Security?” (1937) (Photo credit: Tobias Higbie)

Remember way back in 2011, when the Social Security Administration used to send you a paper statement every year?  This was a useful statement, which included the estimates of your future benefit at age 62, full retirement age, and age 70, as well as a run-down of your year-by-year earnings information.  Ah the good ol’ days…

Sometime in 2011 the SSA stopped mailing those statements, and instead made available on their website a series of calculators which would give you your Primary Insurance Amount (the amount you’d receive at Full Retirement Age) estimate, but little else.  This calculator was nowhere near as useful, and lots of folks were upset about it.

Well, apparently someone at SSA listened, because now there is a new option on the SSA website, at www.socialsecurity.gov/mystatement, where you can create an account and receive essentially the same information that was previously available on the paper statement – including earnings history!  How about them apples??

But that’s not all…

I have also have it on good authority from a source within SSA that the paper statements will be coming back.  Only for folks age 60 and older, but hey, that’s who really needs this information anyhow, so this is great!

Great job, Social Security!

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Posted on May 4th, 2012
by author: jblankenship.

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Posted in: #noTOP, Social Security, social security administration, social security benefits.
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What Options Are Available for a Surviving Spouse Who Inherits an IRA?

May 2nd, 2012
by jblankenship.
2 comments
First Spouse Program bronze medal
First Spouse Program bronze medal (Photo credit: Wikipedia)

When the owner of an IRA dies and leaves the IRA to his or her spouse as the sole beneficiary, there are some unique options available for handling this inherited IRA.  Keep in mind that these options are only available to a spouse a beneficiary – a non-spouse beneficiary has much more limited options available.

Options for a Spousal Beneficiary of an IRA

The first and easiest option is for the spouse to leave the IRA exactly where it is and do nothing.  In this manner, the IRA will continue to exist as belonging to the deceased spouse – for a time.  If the deceased spouse was over age 70½ years of age and subject to Required Minimum Distributions (RMDs), the surviving spouse could elect to continue receiving those RMDs using his or her late spouse’s lifetime as the distribution factor.

On the other hand, if the deceased spouse was not subject to RMDs, the surviving spouse could also begin receiving RMDs from the inherited IRA based upon his or her own age.  This is a viable option as well.

On the third hand, after leaving the IRA in the name of the deceased spouse the surviving spouse could also opt to not take RMDs from the account at all – in this case the inherited IRA would be considered to be owned by and controlled by the surviving spouse, no longer an inherited IRA.  If the surviving spouse is over age 70½, he or she will need to begin receiving RMDs from the account based on his or her age.

Another option available to a spousal beneficiary of an IRA is to rollover the account into an IRA in his or her own name.  This would give the surviving spouse the same result as the “third hand” mentioned above.

In other words, both of these last two options results in the IRA being treated as if it was owned by the surviving spouse.  He or she is eligible to make contributions to the account, take withdrawals if over age 59½ (or if one of the exceptions applies) without penalties, rollover the account to another IRA or Qualified Retirement Plan, and convert the account to a Roth IRA.

Why Would the Spouse Choose One Option Over Another?

In some instances, it could be advantageous to leave the IRA in the name of the deceased spouse.  For an example, let’s say Jane died leaving John (her husband) as the sole beneficiary of her IRA.  Jane was 70 years old and not yet subject to RMD, but eligible for penalty-free distributions.  John is 57 years old, and as such he’s not yet eligible to take IRA distributions from a regular IRA in his own name.  Once the time has passed when Jane would have reached age 70½, John will be subject to RMDs from the account based upon Jane’s age (since it’s still in her name) but if he needs the income he has it available without penalty.  If he rolls over the account to his own name at age 57 he will not have penalty-free access to the funds for 2½ more years.

So, leaving the account in Jane’s name will allow John to take withdrawals from the account without penalty.  Once John reaches age 59½ he can rollover the account to an account in his own name, which will allow him to name beneficiaries of the account on his own (otherwise the original beneficiary designations that Jane made are still controlling the account).

Another situation that might make sense for the surviving spouse to leave the account in the name of the deceased spouse is if the surviving spouse is older.  From our example, if Jane and John’s ages were switched (Jane, the deceased was 57 and John is 70) then John could benefit from leaving the account in Jane’s name. This is because he could take distributions from the account without penalty (death benefits are penalty-free) without being required to take distributions (when he reaches 70½).

At the point in the future when Jane would have been age 70½, John could rollover the IRA into an account in his own name, again so that he can name his own beneficiary for the account.  This way he didn’t have to take RMDs until that point.

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Posted on May 2nd, 2012
by author: jblankenship.

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Posted in: inherited IRA, IRA, qualified retirement plan, rollover, survivors.
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Book Review – Backstage Wall Street

Apr 30th, 2012
by jblankenship.
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This was a good book, I truly enjoyed reading it.  The primary reason that I enjoyed it so much is because it’s the book I have been hoping to find from someone like author Joshua Brown: a book that tells the truth about what’s really going on on the seamy side of Wall Street (which is the only side, to be truthful).

Joshua Brown (TheReformedBroker.com) provides a unique perspective – that of someone who has been involved in the “inside” of wirehouse broker-dealers, but who has since seen the light and moved on to a career in independent investment advice.  As such, Mr. Brown has seen the worst of the worst, in terms of how these institutions treat the investing public.  Once he became aware of how it all worked, through a great degree of soul-searching (and a whole lot of gumption), stepped away from it all and has never looked back.

In Backstage Wall Street, Brown lifts the veil of secrecy around how the process works, explaining how the back-room dialers constantly call folks and work through a script to get the recipients of the call to agree to fork over money.  It’s understood that if the person picks up the phone, the longer the broker can keep the person on the phone the better the chance of selling something – no matter how bad it is.  This business is similar to the three-card-monte guy on the street, but worse: by working under the seemingly staid letterheads of large corporations, there is the impression that the callers are giving advice.  In the end, all they are doing is pushing a sale, and the guy calling you doesn’t care if it’s a good thing he’s selling you or not – only that he’s making a sale.

I found the book to be informative mostly in that it is confirmation of what I’ve learned through the years and believed to be true about these outfits.  Joshua Brown has done a great job in exposing the underbelly of the financial industry, and I believe he truly enjoys the position this has put him in.  As noted, he has been referred to as the “merchant of snark” by the New York Times for his expose’, and this snarkiness comes through in his book, making it a fun read in addition to an informative book.

If you have any involvement in the financial services industry as a profession, you probably know (or have an inkling about) many of these things already.  Brown’s insights and presentation make the book worth the read nonetheless (and you’ll probably learn a thing or two along the line).

If you use a broker to “help” with your investments, you owe it to yourself to read this book – asap.  If you have ever found yourself wondering just why it is that your “investment guy” makes one recommendation over another – you need to read this book.  If you have money invested anywhere at all other than bank CD’s, you need to read this book.  I am certain that your eyes will be opened, and you’ll be a better consumer as a result of it.

Posted on Apr 30th, 2012
by author: jblankenship.

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Posted in: Book review, fee-only, fiduciary, investing.
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When Is a Roth IRA Subject to Income Tax?

Apr 20th, 2012
by jblankenship.
7 comments
Elaine Roth
Elaine Roth (Photo credit: Wikipedia)

Ah, the Roth IRA. That single bastion of non-taxable money in our arsenal of accounts. When you have investments in a Roth IRA, you can take the money out tax-free, right? Not always.

There are several situations where a Roth IRA’s monies can be subjected to tax, penalty, or both.  Listed below are some of those circumstances.

When a Roth IRA is Taxable

It should be noted that contributions to a Roth IRA may always be withdrawn from the account tax-free, for any purpose whatsoever.  There are no restrictions on these withdrawals.

1.  Taking the money out of the account within the first five years of the account’s existence can result in taxation of a portion of the funds.  The portion that is taxable is any withdrawal that exceeds the total of all contributions and conversions into the account.  This rule applies without exceptions.

2.  If your Roth IRA has been in existence for the required five-year time, there are still some qualifications to meet in order to ensure that the withdrawals are completely tax free.  Specifically, you must

  • be at least 59½ years of age; OR
  • you must be disabled; OR
  • you must be taking no more than $10,000 more than the contribution and conversion amount(s) for a first-time home purchase; OR
  • the account owner has died.

If none of those qualifications applies, any amount greater than the conversion/contribution amounts will be subject to ordinary income taxation.

When a Roth IRA is Subject to Penalty

In addition to the specter of taxation, withdrawals from the Roth IRA could also be subject to a 10% early withdrawal penalty (much like a traditional IRA can be).  Here are a couple of cases when the 10% penalty may apply:

1.  Within five years of any conversion into a Roth IRA, if you take out amounts that include the converted funds, the withdrawal of the converted amounts will be subject to the 10% penalty. (unless one of the exceptions applies – see 19 Ways to Withdraw IRA Funds Without Penalty for more details)

2.  Even after the five year period has elapsed, if you are under age 59½ and none of the exceptions from #2 in the “Taxable” section above applies, any amount withdrawn that is greater than the conversions and contributions to the account will also be subject to the 10% penalty.

Wrap up

If the above is a bit confusing, you might need a refresher on the withdrawal sequence – how each dollar of withdrawal from a Roth IRA is attributed, and in what order.  Here’s how it goes:

First, all contributions to the account are withdrawn.  After that, all conversion amounts are withdrawn, starting with the amounts that have been converted for more than five years, and then subsequently any amounts that were converted less than five years ago (and therefore subject to penalty unless an exception applies).

After all conversions and contributions have been withdrawn, any growth in the account is withdrawn.  Growth occurs when the investments in the account gain in value or generate dividends and/or interest.  This money is taken out of the account last – and is the most likely to be both taxable and penalized if taken out before the stipulations above have been met.

For more detail on the withdrawal sequence, see the article Ordering Rules for Roth Distributions.

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Posted on Apr 20th, 2012
by author: jblankenship.

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Posted in: Early Distribution, IRA, qrp, Roth Conversion, Roth IRA.
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Managing Tax Records

Apr 18th, 2012
by jblankenship.
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S-Files
(Photo credit: Wikipedia)

Most everyone has a monster file cabinet or file box (or dumpster?) where tax records are kept – and you find yourself wondering if keeping all this junk is really necessary…

The IRS recently published their Tax Tip 2012-71, which discusses how you should go about managing your tax records.  The actual text of the Tip is listed below:

Managing Your Tax Records After You Have Filed

Keeping good records after you file your taxes is a good idea, as they will help you with documentation and substantiation if the IRS selects your return for an audit.  Here are five tips from the IRS about keeping good records.

  1. Normally, tax records should be kept for three years.
  2. Some documents – such as records relating to a home purchase or sale, stock transactions, IRA and business or rental property – should be kept longer.
  3. In most cases, the IRS does not require you to keep records in any special manner.  Generally speaking, however, you should keep any and all documents that may have an impact on your federal tax return.
  4. Records you should keep include bills, credit card and other receipts, invoices, mileage logs, canceled, imaged or substitute checks, proofs of payment, and any other records to support deductions or credits you claim on your return.
  5. For more information on what kinds of records to keep, IRS Publication 552, Recordkeeping for Individuals, which is available on the IRS website at www.irs.gov or by calling 800-TAX-FORM (800-829-3676).
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Posted on Apr 18th, 2012
by author: jblankenship.

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Posted in: income tax, irs, itemized deductions.
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Paying Estimated Taxes

Apr 17th, 2012
by jblankenship.
2 comments
Taxes
Taxes (Photo credit: Tax Credits)

If your income, or part of your income, is from a source other than an employer who provides you with a W2 and therefore withholds taxes on your behalf through the year, you may need to make estimated tax payments.  There are ways around this, such as having tax withheld from your pension or Social Security payments.  But for some folks, estimated tax payments are the way to get your tax paid through the year.

If your only income for the year is from withdrawals from an IRA, you don’t need to make quarterly payments, you can wait until the end of the year to withdraw the amount you need to pay in tax.  Otherwise, for most other types of income you need to pay tax as you receive it during the year.  You will make one payment in mid-April for your income through March 31; another in mid-June for income through May 31; a third in mid-September for income through August 31, and a final payment by mid-January of the following year for income to December 31.

The IRS recently published their Tax Tip 2012-65, which includes tips for people who pay estimated taxes.  Below is the text of the Tip:

Six Tips for People Who Pay Estimated Taxes

You may need to pay estimated taxes to the IRS during the year if you have income that is not subject to withholding.  This depends on what you do for a living and the types of income you receive.

These six tips from the IRS explain estimated taxes and how to pay them.

  1. If you have income from sources such as self-employment, interest, dividends, alimony, rent, gains from the sales of assets, prizes or awards, then you may have to pay estimated tax.
  2. As a general rule, you must pay estimated taxes in 2012 if both of these statements apply: 1) You expect to owe at least $1,000 in tax after subtracting your tax withholding (if you have any) and tax credits, and 2) You expect your withholding and credits to be less than the smaller of 90 percent of your 2012 taxes or 100 percent of the tax on your 2011 return.  Special rules apply for farmers, fishermen, certain household employers and certain higher income taxpayers.
  3. For Sole Proprietors, Partners and S Corporation shareholders, you generally have to make estimated tax payments if you expect to owe $1,000 or more in tax when you file your return.
  4. To figure your estimated tax, include your expected gross income, taxable income, taxes, deductions and credits for the year.  Use the worksheet in Form 1040-ES, Estimated Tax for Individuals, for this.  You want to be as accurate as possible to avoid penalties.  Also, consider changes in your situation and recent tax law changes.
  5. The year is divided into four payment periods, or due dates, foe estimated tax purposes.  Those dates generally are April 15, June 15, September 15, and January 15 of the next or following year.
  6. Form 1040-ES, Estimated Tax for Individuals, has everything you need to pay estimated taxes.  It includes instructions, worksheets, schedules and payment vouchers.  However, the easiest way to pay estimated taxes is electronically through the Electronic Federal Tax Payment System, or EFTPS, at www.irs.gov.  You can also pay estimated taxes by check or money order using the Estimated Tax Payment Voucher or by credit or debit card.

For more information on estimated taxes, refer to Form 1040-ES and its instructions and Publication 505, Tax Withholding and Estimated Tax.  These forms and publications are available at www.irs.gov or by calling 800-TAX-FORM (800-829-3676).

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Posted on Apr 17th, 2012
by author: jblankenship.

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Posted in: income tax, irs.
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Can’t Pay Your Taxes On Time? Here’s What to Do

Apr 13th, 2012
by jblankenship.
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Buffington Pockets, Valley of Fire area
Buffington Pockets, Valley of Fire area, southern Nevada (Photo credit: Wikipedia)

It happens.  You do your best to prepare for the tax you’ll owe, but here it is, time to pay your taxes and you just don’t have the money.  The IRS recently published their Tax Tip 2012-64, which relates five tips when you’re faced with just this situation.  Below is the text of the Tip.

Tips for Taxpayers Who Can’t Pay Their Taxes on Time

If you owe tax with your federal tax return, but can’t afford to pay it all when you file, the IRS wants you to know your options and help you keep interest and penalties to a minimum.

Here are five tips:

  1. File your return on time and pay as much as you can with the return.  These steps will eliminate the late filing penalty, reduce the late payment penalty and cut down on interest charges.  For electronic and credit card options for paying see www.IRS.gov. You may also mail a check payable to the United States Treasury.
  2. Consider obtaining a loan or paying by credit card.  The interest rate and fees charged by a bank or credit card company may be lower than interest and penalties imposed by the Internal Revenue Code.
  3. Request an installment payment agreement.  You do not need to wait for IRS to send you a bill before requesting a payment agreement.  Options for requesting an agreement include:
    • Using the Online Payment Agreement Application and
    • Completing and submitting IRS Form 9465-FS, Installment Agreement Request, with your return.
  4. Request an extension of time to pay.  For tax year 2011, qualifying individuals may request an extension of time to pay and have the late payment penalty waived as part of the IRS Fresh Start Initiative.  To see if you qualify visit www.irs.gov and get Form 1127-A, Application for Extension of Time for Payment.  But hurry, your application must be filed by April 17, 2012.
  5. If you receive a bill from the IRS, please contact the IRS immediately to discuss these and other payment options.  Ignoring the bill will only compound your problem and could lead to IRS collection action.

If you can’t pay in full and on time, the key to minimizing your penalty and interest charges is to pay as much as possible by the tax deadline and the balance as soon as you can.  For more information on the IRS collection process go to or see www.IRSVideos.gov/OweTaxes.

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Posted on Apr 13th, 2012
by author: jblankenship.

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Posted in: income tax, irs.
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Errors to Avoid When Preparing Your Tax Return

Apr 12th, 2012
by jblankenship.
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Error
Error (Photo credit: pastorbuhro)

If you’re deep in the throes of preparing your tax return (as many are) you want to make sure that you avoid errors where possible.  The IRS recently published their Tax Tip 2012-58, which details some of the tax preparation errors often seen.  Following is the actual text of the Tip.

Eight Tax-Time Errors to Avoid

If you make a mistake on your tax return, it can take longer to process, which in turn, may delay your refund.  Here are eight common errors to avoid:

  1. Incorrect or missing Social Security numbers.  When entering SSNs for anyone listed on your tax return, be sure to enter them exactly as they appear on the Social Security cards.
  2. Incorrect or misspelling of dependent’s last name.  When entering a dependent’s last name on your tax return, make sure to enter it exactly as it appears on their Social Security card.
  3. Filing status errors. Choose the correct filing status for your situation. There are five filing statuses: Single, Married Filing Jointly, Married Filing Separately, Head of Household, and Qualifying Widow(er) With Dependent Child.  See Publication 501, Exemptions, Standard Deduction and Filing Information, to determine the filing status that best fits your situation.
  4. Math errors.  When preparing paper returns, review all math for accuracy.  Or file electronically; the software does the math for you!
  5. Computation errors.  Take your time.  Many taxpayers make mistakes when figuring their taxable income, withholding and estimated tax payments, Earned Income Tax Credit, Standard Deduction for age 65 or over or blind, the taxable amount of Social Security benefits and the Child and Dependent Care Credit.
  6. Incorrect bank account numbers for direct deposit. Double check your bank routing and account numbers if you are using direct deposit for your refund.
  7. Forgetting to sign and date the return.  An unsigned tax return is like an unsigned check – it is invalid.  Also, both spouses must sign a joint return.
  8. Incorrect adjusted gross income.  If you file electronically, you must sign the return electronically using a Personal Identification Number.  To verify your identity, the software will prompt you to enter your AGI from your originally filed 2010 federal income tax return or last year’s PIN if you e-filed.  Taxpayers should not use an AGI amount from an amended return, Form 1040X, or a math-error correction made by the IRS.
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Posted on Apr 12th, 2012
by author: jblankenship.

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Posted in: income tax, irs.
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Social Security Spousal Benefit Calculation Before FRA

Apr 6th, 2012
by jblankenship.
13 comments
Jane's Double Twisted 3D stars2
Jane’s Double Twisted 3D stars2_rev (Photo credit: mimickr)

How is the Spousal Benefit calculated?  I’ve covered this topic in several prior posts, but thought I’d give it another shot, to hopefully close this chapter for now.  I’ve heard conflicting answers from various corners of the SSA world – both personally and from reader communications.  Too often there is a pat answer that the Spousal Benefit, if taken at FRA (Full Retirement Age) is always 50% of the other spouse’s PIA (Primary Insurance Amount).  This is not always the case, if the individual has begun receiving retirement benefits based on his or her own record before FRA and then later begins receiving the Spousal Benefit.

When an individual begins receiving retirement benefits based upon his or her own record has a lasting effect on the amount of all retirement benefits that this individual will receive, including Spousal Benefits.  This is due to the fact that the Spousal Benefit, when the retirement benefit is present, is an offset amount based upon the difference between the maximum Spousal Benefit (50% of the other spouse’s PIA) and the PIA of the first spouse.

The early retirement benefit amount calculation is fairly straightforward (at the link you’ll find a detailed explanation).  The individual’s PIA is reduced by a factor based upon the number of months prior to Full Retirement Age that he or she has applied for benefits.

Knowing the individual’s PIA, the next factor in the calculation is the other spouse’s PIA, and the maximum amount of Spousal Benefit will be 50% of that PIA.  This factor is available if the individual is at least Full Retirement Age.  The reduction in overall benefits is the difference between 50% of the second spouse’s PIA and the first spouse’s PIA.

Example

Okay, this is confusing as all get-out without an example.  Let’s say Dick and Jane are a married couple, with PIAs of $2,200 and $800 respectively.  Dick and Jane are both age 66, Full Retirement Age.  Jane started receiving her own retirement benefit at age 62, which is reduced to $600 since she started early.  Dick intends to delay his retirement benefit to age 70 for the maximum benefit.  Dick files and suspends his retirement benefit, which then allows Jane eligibility to file for the Spousal Benefit, while Dick’s benefit continues to accrue delayed retirement credits.

How much of a total benefit will Jane receive, under these circumstances?  Here’s how it works: Jane’s PIA is subtracted from half of Dick’s PIA – $1,100 minus $800 = $300.  This amount is the Spousal Benefit offset for Jane, which is added to her own benefit for her total benefit.  Adding $300 to $600 equals $900.  This is $200 less than 50% of Dick’s PIA (remember the pat answer from before?).

Another Example

Okay, what if there are a few changes to the above example: Dick is two years older than Jane – she’s 64 and he’s 66.  He still files and suspends at age 66, his Full Retirement Age, and Jane then applies for the Spousal Benefit at her current age of 64.

Here is the way this calculation works (and some shorthand for the reductions):

  • Determine Jane’s reduced monthly benefit ($600)
  • Take Jane’s unreduced PIA and subtract it from half of Dick’s unreduced PIA ($1,100 minus $800 = $300). This amount is referred to as the Excess Spouse Benefit amount.
  • If Jane is under Full Retirement Age (FRA), determine the number of months before FRA – in her case, it’s 24, as age 64 is 24 months before age 66.
  • Multiply the Excess Spouse Benefit amount by the amount determined by subtracting her number of months prior to FRA from 144.  ($300 times (144 minus 24) equals $36,000).
  • Then divide that number by 144 ($36,000 divided by 144 equals $250).  $250 is then added to her own retirement benefit amount to come up with the total benefit ($250 plus $600 equals $850).

Now, taking this one step further: If Jane is eligible for the Spousal Benefit more than 36 months before FRA (such as if Jane was 62 when Dick is 66), then the above calculations would be changed slightly:

  • Determine Jane’s reduced monthly benefit ($600)
  • Take Jane’s unreduced PIA and subtract it from half of Dick’s unreduced PIA ($1,100 minus $800 = $300). This amount is referred to as the Excess Spouse Benefit amount.
  • If Jane is under Full Retirement Age (FRA), determine the number of months before FRA – in this case, it’s 48, as age 62 is 48 months before age 66.
  • Multiply the Excess Spouse Benefit amount by the amount determined by subtracting her number of months greater than 36 prior to FRA from 180.  ($300 times (180 minus 12) equals $50,400).
  • Then divide that number by 240 ($50,400 divided by 240 equals $210).  $210 is then added to her own retirement benefit amount to come up with the total benefit ($210 plus $600 equals $810).

It should be noted that if Jane had not filed for her own benefit before FRA and she waits until FRA to file for the Spousal Benefit, she will be eligible for a Spousal Benefit equal to 50% of Dick’s PIA – assuming that Dick has filed for his own benefit, or filed and suspended.  Jane does not have to take her own benefit at this time, especially if her own benefit will potentially be greater than the Spousal Benefit.

Hope this helps to clear things up a bit.  If not, please leave your questions in the comments section below and we’ll work together to come up with answers.

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Posted on Apr 6th, 2012
by author: jblankenship.

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Posted in: delayed benefit, file and suspend, Social Security, Social Security spousal benefit.
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What Charitable Contributions Are Deductible?

Apr 5th, 2012
by jblankenship.
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Walk for Cancer - it's raining!
Walk for Cancer – it’s raining! (Photo credit: miamism)

As you prepare your income tax return, you may find yourself asking the question – how do I determine if a charitable contribution is deductible?  In addition, you may have questions about just how to file for the various deductions – such as non-cash deductions, like contributions to Goodwill for example.

The IRS recently published their Tax Tip 2012-57, which lists eight tips regarding charitable contributions that you may find useful.  The text of the Tax Tip is included here:

Deducting Charitable Contributions: Eight Essentials

Donations made to qualified organizations may help reduce the amount of tax you pay.

The IRS has eight essential tips to help ensure your contributions pay off on your tax return.

  1. If your goal is a legitimate tax deduction, then you must be giving to a qualified organization.  Also, you cannot deduct contributions made to specific individuals, political organizations or candidates.  See IRS Publication 526, Charitable Contributions, for rules on what constitutes a qualified organization.
  2. To deduct a charitable contribution, you must file Form 1040 and itemize deductions on Schedule A.  If your total deduction for all noncash contributions for the year is more than $500, you must complete and attach IRS Form 8283, Noncash Charitable Contributions, to your return.
  3. If you receive a benefit because of your contribution such as merchandise, tickets to a ball game or other goods and services, then you can deduct only the amount that exceeds the fair market value of the benefit received.
  4. Donations of stock or other non-cash property are usually valued at the fair market value of the property.  Clothing and household items must generally be in good used condition or better to be deductible.  Special rules apply to vehicle donations.
  5. Fair market value is generally the price at which property would change hands between a willing buyer and a willing seller, neither having to buy or sell, and both having reasonable knowledge of all the relevant facts.
  6. Regardless of the amount, to deduct a contribution of cash, check,  or other monetary gift, you must maintain a bank record, payroll deduction records or a written communication from the organization containing the name of the organization and the date and amount of the contribution.  For text message donations, a telephone bill meets the record-keeping requirement if it shows the name of the receiving organization, the date of the contribution and the amount given.
  7. To claim a deduction for contributions of cash or property equaling $250 or more, you must have a bank record, payroll deduction records or a written acknowledgment from the qualified organization showing the amount of the cash, a description of any property contributed, and whether the organization provided any goods or services in exchange for the gift.  One document may satisfy both the written communication requirement for monetary gifts and the written acknowledgment requirement for all contributions of $250 or more.
  8. Taxpayers donating an item or a group of similar items valued at more than $5,000 must also complete Section B of Form 8283, which generally requires an appraisal by a qualified appraiser.

For more information on charitable contributions, refer to Form 8283 and its instructions, as well as Publication 526, Charitable Contributions.  For information on determining the value of donations, refer to Publication 561, Determining the Value of Donated Property.

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Posted on Apr 5th, 2012
by author: jblankenship.

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Posted in: charitable contribution, income tax, irs.
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A Tax-Free Roth Conversion Question of Timing

Apr 4th, 2012
by jblankenship.
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Fern Overgrowth
Fern Overgrowth (Photo credit: MightyBoyBrian)

We’ve discussed here in the past about how it is (at least under present law) a perfectly legal maneuver to make a non-deductible contribution to a traditional IRA and then at some point later convert the same contribution to your Roth IRA (see Is it Really Allowed? for more).  If you have no other IRA accounts, this conversion to Roth can be a tax-free event, especially if there has been no growth or gains in the investments in the account.

However (and there’s always a however in life) I recently came across a situation that was sent to me by a reader, where he wanted to do such a conversion, but he also wanted to rollover some money from his 401(k) plan into an IRA.  The question is in the timing – understandably, if he does the conversion from the traditional IRA to the Roth IRA, there will be no tax on the conversion, since he doesn’t have any other IRA accounts.

As we know, when taking distributions from an IRA (such as for a conversion) the taxability of the distribution depends upon the total amount of money in all IRAs, and how much is pre-tax versus how much is post-tax.

Here’s an example: Joe has an IRA with deductible contributions of $4,000 and subsequent growth of $1,000.  He is no longer eligible for deductible contributions to his account, and he also is not eligible for contributions to a Roth IRA, both due to his income level.  He wants to make a non-deductible contribution of $5,000 to the IRA and then later convert the money to his Roth IRA.  When he does the conversion, his $5,000 conversion will be partly taxed – since half of his total IRA is non-deductible contributions, every dollar he converts is 50% taxed, and 50% tax-free.

So, if Joe did the same thing except that he starts out without an IRA, and when he converts $5,000 from his traditional IRA to the Roth IRA, the entire amount of the conversion will be tax-free. Maybe.

Back to the question that the reader posed. What happens, tax-wise, if he does the non-deductible contribution and then later converts the money to Roth, and then later in the same tax year he rolls over his 401(k) plan into an IRA?

Here’s what happens: The Roth Conversion will be partly taxable.  Let’s say the 401(k) rollover is for $10,000.  At the end of the year, when the taxpayer files his tax return he’ll include a Form 8606.  On Form 8606 will be a determination of the amount of his distribution(s) from his IRA that is deemed non-taxable for the year.  This is done by developing a fraction against which his distributions are multiplied.  The fraction is as follows:

Total Non-Deductible Contributions / (Year-End Account Balance + Distribution Amounts + Outstanding Rollovers Not Yet Completed)

The key to this equation that makes his Roth Conversion partly taxable is the fact that the divisor of the equation includes his Year-End Account Balance – not the account balance at the time of his conversion.

So, in the reader’s question, the equation looks like this:

$5,000 / ($10,000 + $5,000 + 0) = 33.33% or 1/3

In other words, only 1/3 of the conversion amount will be tax-free given the circumstances.  If the rollover from the 401(k) plan is delayed to the following tax year, the full amount of the conversion distribution would have been tax-free, all other things remaining the same.

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Posted on Apr 4th, 2012
by author: jblankenship.

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Posted in: conversion, investing, IRA, irs, qrp, rollover, Roth Conversion, Roth IRA.
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IRS Helps You Out When Your Boss Doesn’t Pay You Back For Expenses Related to Your Job

Apr 3rd, 2012
by Jim.
1 comment
Employee Transfer
Employee Transfer (Photo credit: Wikipedia)

When you have to pay for certain expenses in order to do your job, sometimes (if you’ve got a good employer!) your company will reimburse you for those expenses.  On the other hand, sometimes they don’t reimburse you for those expenses.  Did you know that you can deduct those expenses (to a certain extent) from your income when you file your tax return?  And in some cases, when your employer reimburses you, you still need to fill out additional tax forms in order to keep from being taxed on the reimbursements.

The IRS recently published their Tax Tip 2012-54, which details how to go about deducting these expenses, and what expenses are qualified for deduction.  Below is the text of the Tax Tip in its entirety.

Employee Business Expenses

Some employees may be able to deduct certain work-related expenses.  The following facts from the IRS can help you determine which expenses are deductible as an employee business expense.  You must be itemizing deductions on IRS Schedule A to qualify.

Expenses that qualify for an itemized deduction generally include:

  • Business travel away from home
  • Business use of your car
  • Business meals and entertainment
  • Travel
  • Use of your home
  • Education
  • Supplies
  • Tools
  • Miscellaneous expenses

You must keep records to prove the business expenses you deduct.  For general information on recordkeeping, see IRS Publication 552, Recordkeeping for Individuals available on the IRS website at www.irs.gov, or by calling 1-800-TAX-FORM (800-829-3676).

If your employer reimburses you under an accountable plan, you should not include the payments in your gross income, and you may not deduct any of the reimbursed amounts.

An accountable plan must meet three requirements:

  1. You must have paid or incurred expenses that are deductible while performing services as an employee.
  2. You must adequately account to your employer for these expenses within a reasonable time period.
  3. You must return any excess reimbursement or allowance within a reasonable time period.

If the plan under which you are reimbursed by your employer is non-accountable, the payments you receive should be included in the wages shown on your Form W-2.  You must report the income and itemize your deductions to deduct these expenses.

Generally, you report unreimbursed expenses on IRS Form 2106 or IRS Form 2106-EZ and attach it to Form 1040.  Deductible expenses are then reported on IRS Schedule A, as a miscellaneous itemized deduction subject to a rule that limits your employee business expenses deduction to the amount that exceeds 2 percent of your adjusted gross income.

For more information see IRS Publication 529, Miscellaneous Deductions, which is available on the IRS website at www.irs.gov, or by calling 10800-TAX-FORM (800-829-3676).

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Posted on Apr 3rd, 2012
by author: Jim.

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Posted in: #noTOP, education expenses, income tax, income tax credit, tax credits.
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Book Review: The Wall Street MBA

Apr 2nd, 2012
by jblankenship.
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This book, by Mr. Reuben Advani, sets out to cover much of the pertinent information required in an MBA program within its pages, and I think it does a good job of meeting this goal.  Mind you, I don’t have an MBA degree so I can’t say with certainty that the goal is accomplished, but I’d have to say that the book does an excellent job of hitting all of the important points of required knowledge, specifically as it relates to investing and individual company valuation.  I liked this book, but then again I’m kind of an out-of-the-ordinary accounting/investing geek.

Where I have some confusion with this book is in understanding who is the target audience.  The problem is that the subject matter gets pretty involved in accounting principles that can be overwhelming to the average individual – potentially so much that the average individual may lose interest.  On the other hand, if an individual is a professional who already understands these concepts well enough to follow the book, then that individual probably doesn’t need this book, except as a refresher.

Perhaps the mid-point between a novice and a professional is the target audience.  Someone who has a passing understanding of accounting and investing principles, but who needs a more in-depth explanation of how the principles interact to help with investing activities.

Mr. Advani starts off with a comprehensive overview of basic accounting, which can be helpful if you’ve never had an accounting course or if you need a review.  Mingled in with this overview is an example company, which helps to understand the principles as they are explained.  After that, Advani reviews how this knowledge of accounting can be used to help you understand the relative health of a company as you consider it for investment.  Again, this is good information to know, but I’m not positive that it would be all that useful to the average investor.

One problem that the average investor has when encountering this information is the supposition that knowing how to understand the value of a company is going to somehow make investing in individual companies something of an exact science.  Anyone who has spent much time considering investments, whether as a professional or as an individual investor, can attest to the fact that investing is far from an exact science.

Any number of bad things can happen to an otherwise healthy company – whether it is a downturn in the sales cycle, corruption in the boardroom, labor strife, or the overall economy causing issues.  No matter how much effort is put into reviewing the accounting and valuation of a company, these and may other possible uncontrollable things can cause problems for the company.  It is for this reason alone, the single company’s exposure to risks, that the average investor is not well-served by individual company investing.

Having said all that though, I still believe that this book is a very good resource for the individual who finds him- or herself in a position of reviewing company’s annual report for whatever reason.  I think Advani does a good job of explaining all of these principles in a format that is understandable to the person with little background with this sort of review.  In particular I liked the final couple of chapters, where Mr. Advani gives a rundown of the principles of investing in currencies, real estate, and commodities – areas that often don’t get much attention in explanation.

The above book review is part of a series of reviews that I am doing in an arrangement with McGraw-Hill Professional Publishing, where MH sends me books with the only requirement being that I read the book and write a review – like it or not.  If you find the information in this review useful, let me (and McGraw-Hill) know!

Posted on Apr 2nd, 2012
by author: jblankenship.

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Posted in: Book review, investing, investment.
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About to Graduate? Learn How to Save!

Mar 27th, 2012
by jblankenship.
3 comments

Hey, soon-to-be-graduates: as you begin to make your way out into the world of full-time employment, you’ll soon be faced with many, many “grown up” ways to spend the money you’ll be earning.  You’ll of course have rent, insurance, food and clothing, maybe a car payment, and you’ll want to use some of that new-found money to blow off steam, however you choose to do that – maybe fulfilling a lifetime dream of getting “beaked” by Fredbird, for example.

If you’re on top of your game, you’ll may also be thinking about saving some of your earnings.  Here, you’ll have a bundle of options to choose from – regular “bank” savings accounts, 401(k) plan (or something similar) from your employer, and IRA accounts, both the traditional deductible kind and the Roth kind (hint: the Roth kind is what I want you to pay particular attention to).

Side note: even if you’re not actively thinking of saving money at this stage, chances are you’ll begin thinking about savings activities soon, and definitely at some point in the next 40 years, since saving toward retirement is pretty much YOUR own responsibility.  In the next few years you’re going to be thinking about buying a home, possibly marriage and a family, and other longer-term kinds of things that require significant amounts of money. If you start on the savings process and get it into your mindset early, you’ll be miles ahead of your peers, and you’ll probably have built up a significant savings by the time you’re ready for these goals.

As you think about savings activities and all of these types of savings accounts, it’s important to gather knowledge about the features and benefits of the various accounts and how this will play into deciding what’s the best place to put your savings.

Emergency Savings

Briefly reviewing the accounts I listed, you might start with a regular savings account at a bank.  You probably have a checking account of some type, so you can open a savings account at that same institution as well.  This account could be used for developing an emergency fund.  This is so that, when you need new tires for your car, or you need to put down a deposit on a new apartment, you’ll be able to use these funds for that purpose, rather than using a credit card or otherwise going into debt.

Another very good reason to have an emergency fund is to help you get by if you should happen to find yourself unemployed.  I’d suggest putting enough into your emergency fund to cover your monthly expenses for at least 3 months.  If you’re conservative you might put as much as a year’s worth of expenses into the account – in either case, maintain that level over time, in tandem with your other savings activities.  This saving can be done automatically, via automatic transfer from your checking account, for example.  By automatically saving, you won’t have to *decide* if you’re going to save – it will happen without you having to make a decision.

There are no significant tax benefits with a savings account, so your saving activities should include some of the other plans that you have available.

Retirement Saving – 401(k)

Next, once you’ve begun your emergency fund, you should begin thinking about longer-term saving.  If you have a 401(k) plan available via your employer (or a comparable plan, such as a 403(b) or a 457 plan), you should consider taking advantage of this.  This is especially true if your employer offers a “matching” program – where the employer will put money into the account as you put money into it.  Often this matching is done either on a dollar-for-dollar basis up to a certain percent, or on a percentage of contributions.

For example, the company might match your contributions dollar-for-dollar up to 3% of your salary – meaning that if you put 1% of your salary into the account, the company will also put 1% into the account on your behalf.  You can put as much as 3% (for this example) into the account and the company will match it.  You will be eligible to put more in the account than what the company matches, but at this stage you might want to limit it to matched amount (more on this in a bit).

The other example that I gave is where the company matches on a percentage basis – this might be expressed as 50% matching up to a 6% employee contribution.  If this was the case, when you put in 1%, the company would match your contribution with a .5% contribution.  If you put in 4%, the company would match it with 2%, and so on, up to a 3% match for your 6% contribution.

The benefit of this kind of account is that, as you contribute money to the account, it’s taken out of your paycheck PRIOR to income tax, which will then reduce your taxable income for the year.  The money in the account (including the employer matches, which you’re also not taxed on in the current year) is then invested, hopefully growing over time.  The growth in the account is likewise untaxed, until you take the money out of the account.  At that time, you’ll pay ordinary income tax on the money that you take out of the account.

The downside to this kind of account is that, generally, the money that you put into the account is more or less locked up until you reach age 59½.  While there are ways to get at the money before that point, the real purpose of this account is to save toward retirement, so any money you put into your 401(k) plan should be considered very long-range savings.

Retirement – Traditional IRA

If you don’t happen to have a 401(k) plan available at your employer, another option to consider for longer-range saving is the Traditional IRA.  The way this works is that you open the IRA account and put up to $5,000 (and when you are over age 50, you can put an additional $1,000) into the account each year. Then, when you file your income tax return for the year, you are eligible to deduct that contribution amount from your income (subject to limits).

After that, the Traditional IRA acts pretty much like the 401(k) plan described before: your savings (hopefully) grows via investments and no tax is owed until you take the money out of the account – usually at age 59½ or later.  At that time you’ll pay ordinary income tax on the money as you withdraw it.  As with the 401(k) you *could* take the money out earlier, but generally there would be penalties for doing so.  As such, the Traditional IRA should be for your longer-term savings.

Retirement and other goals – Roth IRA

FINALLY – we’ve gotten to the account that I brought you here to talk about: the Roth IRA.

A Roth IRA is a little bit like the savings account, in that it doesn’t present any tax savings for you as you put money into it (like the Traditional IRA or the 401(k) plan does).  However, the real tax benefit comes as your account grows over time – when you take the money out after age 59½, there is no ordinary income tax owed on any of the money that you withdraw!

This is a big deal.  You can put in as much as $5,000 per year (same as the Traditional IRA), and as that money grows over time, you won’t have to pay tax on it if you leave it in the account until age 59½.  If you started saving $5,000 per year in a Roth account at age 22 and continued this until you were 42, I’ve illustrated how this could eventually become $33 million over time.

Possibly even a bigger deal is that you can use the Roth IRA as a sort of emergency fund, in addition to a retirement fund.  The money that you’ve contributed to the Roth IRA over time can be withdrawn at any time for any purpose, without tax or penalty.  The investment growth is restricted (like the other retirement accounts mentioned above, to age 59½ or older), but the money you contribute is unrestricted!  This could give you that extra amount that you need for a down-payment on a home, for example.

It’s best to be very judicious in your use of this privilege, since the account is primarily for retirement – but it’s nice to know that you have this option available.

Conclusion

Let’s say that you have started a new job making $30,000 a year.  After taxes are taken out, you have something on the order of $1,800 left each month.  Taking care of rent, insurance, car payment, and all the other things you have to pay (don’t forget the “beaking”!), leaves you with $200 a month for saving.

Let’s say you earmark $50 for your emergency savings.  Then, your employer provides a 3% matching plan for your 401(k), which amounts to $75 per month.  Keeping things simple, let’s say that this leaves you with $75 for other savings activities.  A Roth IRA is an excellent place to put this additional money.

The reason that a Roth IRA is the preferred place to put your excess savings money is because of the tax rate that you’re in at the present.  The savings in tax would be something on the order of $11.25 if you put this additional $75 into a Traditional IRA or a 401(k) plan, and then you’d have your money locked up until retirement. Since you’re already (rightly) taking advantage of the 401(k) plan (and doubling your money via the employer match), using the Roth IRA provides you with an additional way to save with a diversified tax treatment.

All in all, the Roth IRA presents you with a very cost-effective way to save money over time, especially when you’re at the lower end of the tax brackets.

If you’re needing a few more reasons to go with the Roth IRA, try this: if you’re going to grad school, your contributions in your Roth IRA account could be used to help pay for school, but at the same time – retirement accounts in general are not included as sources when calculating financial aid.  Plus, as you make contributions to a Roth IRA (also to other retirement accounts), depending on your income level you may be eligible for the Saver’s Credit.  This is up to a 50% tax credit for your contributions to a retirement plan, including the Roth IRA.

Full Disclosure: That’s my daughter Emma being “beaked” by Fredbird.  She’s a soon-to-be graduate of Western Illinois University, Class of ’12, and proud owner of a Roth IRA.

Posted on Mar 27th, 2012
by author: jblankenship.

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Posted in: 401 k, 403 b, contribution limit, investment, IRA, qrp, Roth IRA, saver's credit.
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Smoke, Mirrors, and Alphabet Soup

Mar 19th, 2012
by jblankenship.
6 comments
A bowl of alphabet soup nearly full, and nearl...

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In an environment of Ponzi schemes and financial scandals many Americans have lost trust and confidence in the financial profession; seems like there are some financial advisers that have been helping themselves, more than their clients. To fight back against this trend of lost trust and skepticism, advisors are being more creative with credentials, some of which can be earned with minimal or no study and can be bought with a couple hundred dollars. A quick look at the Financial Industry Regulatory Authority’s web site (FINRA) (http://apps.finra.org/DataDirectory/1/prodesignations.aspx) shows over one hundred and twenty different credentials being used by advisors to build creditability and trust.  I’m sure there are many more not tracked by FINRA.

Professional certifications arose decades ago as a way for people in various industries to identify qualified practitioners. It’s always good to know that our doctor has an MD or our account is a CPA. In the financial realm, many well-established credentials, including the Chartered Financial Analyst (CFA) and Certified Financial Planner (CFP®) designations, require long study, demand continuing education and enforce strict codes of ethics. In order to become a CFP®, for example, one must meet the following requirements:

1)      A bachelor’s degree or higher from an accredited college or university

2)      Three years of full time financial planning experience

3)      Complete a CFP® board registered program or hold one of the following

  • CPA
  • ChFC
  • Chartered Life Underwriter (CLU)
  • CFA
  • Ph.D. in business or economics
  • Doctor of Business Administration
  • Attorney’s License

4)      Successfully complete the 10 hour CFP® certification exam

5)      Complete 30 hours of continuing education every two years.

Increasingly, I suspect, financial advisers are using dubious designations as marketing tools to win back the trust of older, wealthier clients.  Some of the more popular are those that use the term “senior” in their name. Some examples are: certified senior adviser, certified senior consultant, certified senior specialist, certified senior financial planner, chartered senior financial planner and chartered adviser for senior living. I get confused when hearing all the “senior” designations and am left wondering, do the advisors who hold these, really have any special education or experience working with seniors, or do they just want you to think they do?

To confound the issue even more many designations sound similar (and I think this is intentional) for example, the certified retirement financial adviser, or CRFA, sounds similar to the CFA designation. But the CFA requires roughly 900 hours of study in accounting, economics, ethics, finance and mathematics, and only 42% of candidates pass its three required exams, a process that can take several years. The CRFA, by contrast, requires that students pass one exam consisting of 100 multiple-choice questions, for which 40 to 75 hours of preparation is typically sufficient preparation.

In much the same way, the CSFP, or chartered senior financial planner, credential could be confused with the certified financial planner, or CFP®, designation. The CFP®, established in 1972, requires that students pass the equivalent of 15 credit hours of college-level courses, culminating in 10 hours of exams. The CSFP, launched in 2003, requires a three-day review course and the passing of one two- to three-hour exam.

Over the last few years the term “Wealth Management” has become popular with advisors as a way to attract wealthier clients.  It didn’t take long for a list of wealth management designations to appear.

  • WMS – Wealth Management Specialist
  • CWC – Certified Wealth Consultant
  • CWS – Certified Wealth Strategist
  • AWMA – Accredited Wealth Management Advisor
  • CWM – Chartered Wealth Manager
  • CWPP – Certified Wealth Preservation Planner

While some of these designations may be good for consumers by giving their advisor specific knowledge and experience, many will turn out to be marketing gimmicks employed by advisor to attract wealthier clients.

Credentials are used because they help advisers make more money. A 2007 study by FINRA’s educational foundation determined that 46% of older investors were more likely to accept financial guidance from someone with a professional designation – and 17% of investors would be more receptive to advice from a “certified adviser for senior investing,” even though such a credential doesn’t exist.

Buyers beware when it comes to initials behind someone’s name. According to the American Academy of Financial Management, based in New Orleans, the things to look for are these: accredited degrees, licenses, or master’s degrees from government-recognized or accredited programs or educational institutions with concentrations in Finance, Investments, Securities, Economics, or Accounting. These requirements make individuals eligible for Professional Designation. You can also check out designations yourself by calling the issuing organization and finding out what the requirements are – you might be surprised by what you find.
Steven Young, CFP® (XZ$, LMNOP, EIEIO)

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Posted on Mar 19th, 2012
by author: jblankenship.

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Posted in: financial planning, guest, Uncategorized.

Early Social Security Filing Examples

Mar 16th, 2012
by jblankenship.
1 comment
BATH, ENGLAND

Most of the examples that you see indicate that filing for Social Security benefits as late as possible is the best way to go.  However, this is not always the case, given that you’re receiving the benefit (albeit at a reduced rate) for a longer period of time.  Let’s work through some examples to show how this works.  This article will only deal with single individuals – we’ve covered spouse benefits in several other articles, it’s time to provide some guidance for single folks.

Example 1, Filing at 62 vs 66

John is single, age 62, and his benefit at Full Retirement Age (FRA) has been estimated at $2,000, so his benefit at age 62 would be $1,500, or 75% of the amount at FRA.  If he takes the benefit now, he’ll receive $18,000 per year for the next four years. (COLAs have been eliminated in this example to keep it less confusing.)

If he is in a position where he doesn’t necessarily need the money, he could invest the funds as he receives them.  If he invested those funds at a 5% fixed rate, when he reaches age 66 he’ll have a total of approximately $81,461.  He’ll also continue to receive the same $18,000 year-after-year.

Now, let’s assume at this age that John needs the $2,000 for living expenses.  If he uses the current $1,500 of Social Security benefits and supplements it with his “stash” he’s built up over the previous four years, letting the remainder grow at interest, it will take twenty years before he’s run out of the stash account.

The problem is, once John has done that now, he’ll be stuck with an income that is $500 less (in today’s dollars) than what he needs.  If he has no other resources, such as a 401(k), pension, or IRA, he’s in a pickle.

If John was somehow able to generate 7% from his savings, he’ll buy himself another four to five years, but that’s really it.

Example 2, Filing at age 62 vs 70

Same facts as Example 1, but now we’ll compare the outcome if John is able to hold off to age 70, at which point his benefit would be increased to $2,640.

Running the numbers again, upon reaching age 70, John’s savings account at 5% will have grown to approximately $171,884.  Now, if John’s income requirement is still only $2,000 per month, his side account generates enough interest (at 5%) to sustain over time without depleting it. (This assumes that he is financially in a position to delay, using other sources to cover his expenses up to age 70.)

However, if John had delayed receiving his benefit to age 70 and then began using $2,000 for expenses and banking the rest in the same type of savings account, he’d still have more money in the account if he started early benefits – for fifteen years, to his age 85.  From that point forward, it would be more beneficial to have waited to age 70.

Example 3, Filing at age 66 vs 70

Again, same facts, but John waits to file at Full Retirement Age (FRA), age 66, and puts the full amount of his benefit in the same savings account at 5% interest.  Now, when he reaches age 70, the savings account has grown to more than $106,000.

He still only needs $2,000 to live on – and when compared to delaying up to age 70, since he is able to save a portion of the larger, full benefit, he is able to build up his savings account, but the “wait ‘til 70” account doesn’t become larger than the “file at 66” account until he reaches more than 93 years of age!

Conclusion

In these examples, which I’ll admit are far from comprehensive, we can see that longevity makes all the difference.  If you live a very long life, it makes more sense to delay, assuming you can cover your expense needs in the meantime.

In many cases though, the individual cannot wait, needing the money earlier.  In addition, most folks take a view that they’ll not likely live to the age needed in order to make the delay option pay off.  So – all things considered, it might be better for you to file earlier, as always, depending upon your circumstances.

Leave your own situations in the comments section below (not too complicated though!), and I’ll gather some of the more common situations and show how some tactics might play out at differing filing ages.

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Posted on Mar 16th, 2012
by author: jblankenship.

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Posted in: delayed benefit, Social Security, social security benefits.
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