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Applied Investing Series: Patient Investing in Uncertain Markets

Wed, 23 Nov 2011 09:10:48 -0600

In the words of 19^th century American theologian Elliott Walter, “Perseverance is not a long race. It is many short races one after another.” Hopefully, you’ve scarcely noticed the long course we’ve run throughout most of 2011, as I shared my “Applied Investing Series” to you in six short installments. Beginning in March and culminating in this final letter, we’ve covered a lot of ground, including: goals-based investing (March), the role of market faith (May), the power of diversification (June), elements of sound fund construction (August) and the benefits of rebalancing (September).

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Alone...And Confused... A Wall Street Journal Article Featuring John Frisch

Thu, 22 Sep 2011 13:20:51 -0500

Here's a small excerpt from the Wall Street Journal article on September 19th which features John Frisch's expertise. "Ten years ago, a man died in a car crash, and his widow, still in her 40s, went to see John Frisch for help." Take a moment to read Alone...And Confused by Veronica Dagher.

Putting Market Volatility in Perspective - Market Cycles

Wed, 24 Aug 2011 07:59:43 -0500

When dealing with a volatile market, sometimes the most difficult challenge is to manage your emotions. The attached Video Putting Market Volatility in Perspective--Market Cycles discusses market volatility in the context of historical market cycles. Hopefully, this information will ease your mind. Watch video.

US Debt Downgrade, A Letter from the President

Tue, 09 Aug 2011 08:58:37 -0500

As you know, I do not like to fuel a media-driven financial fire by even acknowledging their crisis du jour. But Friday’s downgrade of U.S. debt by Standard & Poor’s (S&P) is having quite a negative effect on investor psyches. Understanding can help combat emotional uncertainty, so I’d like to share my thoughts with you about the downgrade and the current state of our economy.

On Friday, August 5, after market close, S&P, lowered its rating on U.S. Treasury debt for the first time ever from AAA (the highest) to AA+. Moody's Investors Service and Fitch Ratings, two of the other three largest rating agencies, continue to rate America AAA. In 1917 Moody's assigned AAA as its initial rating to US debt. We had not lost it since.

Consider the following:

- This does not mean that America is considered unable to pay its debt. In fact, the price of U.S. Treasury debt has increased dramatically since S&P threatened the downgrade last month. As I write this message, all types of U.S. debt are trading close to record highs. The markets apparently feel we remain a relatively safe bet, and that is what really matters.

- But, while the bond market is reflecting little change so far, the stock market is falling. Frankly I attribute this to simple investor fear about the uncertainty. While the downgrade changes nothing fundamentally, it's one more piece of bad news after weeks of political bickering, which becomes wearing over time. All this talk has angered and frustrated investors, rendering them more sensitive to any additional negative economic news.

- In my opinion the downgrade is good news, in that it might serve as the catalyst for meaningful change. The U.S. does have a debt problem, and no current plan for addressing it. Unless pressure is put on our leaders to devise a plan, they will do what they usually do: nothing. And then the problem could (probably would) worsen. The downgrade will sustain the pressure, maybe enough to spur our leaders to do take appropriate action. If they do, then we and our children will be better off in the long run.

On the economy, it’s true we are not recovering as quickly as we’d like from the 2008–2009 recession. Our housing market remains unstable, and Europe is encountering real economic challenges, especially Greece. But we are recovering, if in a slow, herky- jerky manner.

Consider the following:

- In my opinion, the real problem with the stock market isn’t fundamental but physiological. When the psychology changes, the markets will reverse. And they’ll likely do so very rapidly, if history is our guide regarding run-ups following a correction. The only way to capture a run-up is to be there when it begins. Because we can’t know when that will occur, the goal is to ride out the challenges and be there always. Over time, the markets have never failed to historically reward long-term investors for their discipline.

- Greece has been insolvent in 125 of its last 200 years. Occasionally, the markets decide to focus on this. But mostly Greek debt issues are ignored. Today we are in a period when the markets care. Most likely, Greece will be bailed out by its stronger Euro neighbors and, after the pain is absorbed, it will cease to be a news item. Again, like our own debt challenge (which is nothing near the magnitude of Greece’s) the attention is helping to get the problem fixed.

- The stock market is valued at a very low level right now; at two-thirds of its historical average. Stocks are very valuable by most fundamental measures, and the further they fall the more the value increases.

- U.S. companies have increased earnings from $45 per year for the S&P 500 in 2008 to an estimated $98 in 2011 and $118 in 2012.

- Non-financial U.S. companies have increased their cash holdings from $654.6 billion in 2008 to $1.1 trillion in the first quarter of this year.

- Germany, Japan, China, Brazil, New Zealand, Australia and Southeast Asia are doing so well that their problem is how to manage the acceleration of the growth. We here in the U.S. tend to focus primarily on our own economy, with some consideration for what is happening in Europe. If we stand back and view the entire global economy, the situation is not bad.

So what is my advice to you? Unless your personal financial situation has changed, do nothing different. Do not let short-term market movement dictate your actions. Changes should only be made to portfolio design based on changes in your personal situation.

Consider the following. The average stock mutual fund returned 9.9% per year over the last 20 years (1991–2010). The average investor in stock funds earned 3.8%. So the investment return was 9.9% and the investor return was 3.8%. Why does this happen? Poor investor decisions resulting in ill-timed, costly trades based on greed when the markets are soaring and fearful panic when the markets plunge. This penalty of 6.1% is self-inflicted, and it’s why I ask you not to panic out of the markets when they fall, and all the news is doom and gloom.

Source: Quantitative Analysis of Investor Behavior by Dalbar, Inc. (March 2011) and Lipper

Here are some quotes from today’s, August 8 InvestmentNews article entitled ”Stock Futures Plunge, Global Shares Tumble,” which say it well:

“Investors should not panic,” Charles Reinhard, the New York-based deputy chief investment officer at Morgan Stanley Smith Barney LLC, which oversees $1.7 trillion, said in a telephone interview. “The downgrade is a disappointment, but it will be manageable. Underlying all of this we still have attractive equity valuations and good old fashioned profit growth.”

Billionaire Warren Buffett said S&P erred when it lowered the U.S. credit rating and reiterated his view that the economy will avoid its second recession in three years. The U.S. merits a “quadruple A” rating, Buffett, 80, said Aug. 6 in an interview with Betty Liu on Bloomberg Television.

One last thought:

Gold has run up to a record price of $1,700 per ounce. Should we be selling all and buying gold? The answer is ‘no’ and again let me explain why with some helpful quotes.

BUFFETT ON GOLD
“You could take all the gold that’s ever been mined, and it would fill a cube 67 feet in each direction. For what that’s worth at current gold prices, you could buy all — not some — all of the farmland in the United States. Plus, you could buy 10 Exxon Mobils, plus have $1 trillion of walking-around money. Or you could have a big cube of metal. Which would you take? Which is going to produce more value?”

TWEEDY, BROWNE ON LUST FOR GOLD
“From its previous peak in 1980 of $667 per ounce to its current price of roughly $1,500 per ounce, gold has compounded at approximately 2.7% per year versus 3.2% for the Consumer Price Index. On the other hand, common stocks, as measured by the performance of the S&P 500, compounded at an annual rate of approximately 11%, including dividends, over this 30-year period.” — from the 2010 annual report of Tweedy, Browne Company

In today’s markets and in tomorrow’s, I truly believe that your most golden opportunities lie within continued adherence to your sensible, forward-looking portfolio, constructed toward achieving your own long-term goals. I will be reaching out to you to address any specific questions you may have. In the meantime, please be in touch immediately if I can be of assistance even sooner.

The Budget Control Act of 2011

Mon, 08 Aug 2011 08:33:00 -0500

After a last-minute agreement finally brought the stalemate over the nation's debt ceiling to a close, President Obama signed the Budget Control Act of 2011 into law on August 2, 2011, enabling the U.S. Treasury to avoid defaulting on existing obligations.

The Budget Control Act of 2011 left all sides with plenty to argue about over the next few months. In addition to increasing the debt ceiling, it would bring down the federal budget deficit by an estimated $2.1 trillion over the next ten years. It also sets the stage for more debate over how to achieve that $2.1 trillion reduction, focusing on spending cuts rather than increased revenues. Here are some of the key provisions.

Debt ceiling will be increased in stages

The $14.3 trillion debt ceiling will be increased immediately by $400 billion, and by another $500 billion after September. The increases will allow the Treasury to pay bills without interruption after August 2.

Assuming deficit reduction measures are adopted by the end of the year, an additional $1.2 trillion to $1.5 trillion in borrowing authority will be available in 2012, which is believed to take care of the Treasury's needs until 2013. Though Congress could vote to disapprove the additional borrowing authority, that action could be vetoed, which would prevent a rerun of the recent uncertainty.

Immediate limits are imposed on discretionary spending

Caps on domestic and defense spending will cut an estimated $900 billion to $1 trillion--roughly the same amount as the initial increase in the debt ceiling--from federal budgets over the next decade.

Joint congressional committee will seek $1.5 trillion in additional deficit reduction

A special joint select committee of 12 Democrats and Republicans from both the House and Senate will be charged with finding ways to reduce the deficit by an additional $1.5 trillion. The committee, which must be appointed within two weeks after the legislation is signed, is directed to report its proposals by November 23, 2011; by December 2, it must submit legislation to implement them. Both houses of Congress must vote on that legislation, which cannot be amended, by December 23.

Additional spending cuts, 2012 debt ceiling increase tied to deficit reduction agreement

The joint committee's deficit reduction proposals will determine the amount of an additional increase in the debt ceiling. If the committee's proposals are approved by Congress, the debt ceiling will be increased in 2012 by the amount saved by the deficit reduction measures. If the committee cannot agree on how to cut the deficit by at least $1.2 trillion, or if Congress doesn't approve the committee's proposals, the new debt ceiling increase would be limited to $1.2 trillion.

To try to prevent gridlock on the committee, failure to agree on at least $1.2 trillion in deficit reduction would automatically trigger an additional $1.2 trillion in broad-based spending cuts beginning in January 2013. The cuts would apply to both defense spending, such as the Departments of Defense and Homeland Security, and to nondefense spending, such as payments to Medicare providers. However, Medicare cuts would be limited to 2% of the program's cost, and programs such as Social Security, veterans benefits, food stamps, and Supplemental Security Income (SSI) would be exempt.

Balanced budget amendment would give authority to increase debt ceiling

President Obama also would be granted immediate authority to increase the debt ceiling by $1.5 trillion if Congress were to pass by year's end a constitutional amendment requiring a balanced budget. Such an amendment also would need to be ratified by three-quarters of the states.

Subsidized loans for graduate students eliminated

Subsidized-interest Stafford Loans for graduate and professional students (other than those in state-required teaching or certification programs) will end after July 1, 2012, though unsubsidized loans will still be available. The Act also adds $17 billion in mandatory funds over two years for Pell Grants to compensate for the funding gap.

The US Debt Ceiling: What It Is and Why It Matters To You

Fri, 22 Jul 2011 12:39:17 -0500

The US Debt Ceiling topic is all over the news. Take a moment to watch this informative video on what it is and why it matters to you.

The U.S. Debt Ceiling: What It Is And Why It Matters To You

The Income Tax Planning Landscape: 2011

Wed, 06 Jul 2011 09:49:58 -0500

At this time last year, income tax planning was particularly challenging. Several tax deductions had already expired, and significant changes, including new, higher income tax rates, were scheduled to take effect at the end of the year. Legislation passed in mid-December, however, hit the "reset" button, reinstituting already-expired deductions, and extending major tax provisions--including lower rates--for an additional one to two years.

As a result of the December legislation, 2011 tax planning takes place in an environment characterized by something that was missing last year--a relative degree of certainty. That being said, here are some things to keep in mind as you consider your current tax situation.

Tax rates/calculation

Federal income tax rates--The same six federal income tax rates that applied in 2010 will continue to apply in 2011 and 2012. So, depending on your taxable income, you'll fall into either the 10%, 15%, 25%, 28%, 33%, or 35% rate bracket. Remember, though, that all of your taxable income is not necessarily taxed at that rate--instead, the rate at which you pay tax generally increases as your income increases. For example, if you're a single individual with 2011 taxable income of $100,000, you fall into the 28% tax bracket. However, your first $8,500 of taxable income is taxed at 10%, your next $26,000 of taxable income is taxed at 15%, and your next $49,100 in taxable income is taxed at 25%. Only $16,400 of your taxable income is actually taxed at 28%.
Rates for long-term capital gains and qualifying dividends--As in 2010, long-term capital gains and qualifying dividends continue to be taxed at a maximum rate of 15% through 2012; if your income (including any long-term capital gains and qualifying dividends) puts you in the 10% or 15% income tax brackets in 2011 and 2012, a special 0% rate will generally continue to apply.
Alternative minimum tax (AMT)--While regular income tax rates and the maximum rates that apply to long-term capital gains and qualifying dividends were extended through 2012, the latest AMT "fix" (in the form of increased AMT exemption amounts) is effective only through 2011. So, if you think you may be subject to the AMT this year, the good news is that you know ahead of time what the relevant exemption amounts are ($74,450 for married individuals filing jointly, $48,450 for unmarried individuals, $37,225 for married individuals filing separately); the bad news is that the AMT situation for 2012 remains up in the air. You can probably expect another AMT fix later this year, but as it stands now, AMT exemption amounts will drop significantly in 2012, dramatically increasing the number of taxpayers ensnared by this parallel tax system.

Temporary payroll tax reduction

Available for 2009 and 2010, the Making Work Pay tax credit was a refundable tax credit equal to the lesser of 6.2% of earned income or $400 ($800 for married couples filing joint returns); the credit was phased out for those with higher incomes. The tax credit was not extended to 2011, but the December legislation created a new one-year 2% reduction in employee Social Security payroll taxes (the 2% reduction also applies to the self-employment tax paid by self-employed individuals).

So, if you're an employee, 4.2% of your 2011 wages (up to the 2011 taxable wage base of $106,800) is being withheld for your portion of the Social Security retirement component of FICA employment tax instead of the 6.2% that would normally be withheld. If you're self-employed, the 12.4% you would normally pay for the Social Security portion of your 2011 self-employment tax is reduced to 10.4%. So, if you earn $100,000 in wages, you'll have an extra $2,000 in take-home pay for 2011. Consider opportunities to take advantage of this extra income by, for example, increasing your retirement savings; applying the extra money toward a long-term goal could extend the benefit of this temporary tax reduction beyond 2011.

Other considerations

IRA qualified charitable distributions--Unless Congress passes additional legislation, 2011 will be the last opportunity for individuals age 70½ or older to make qualified charitable distributions (QCDs) of up to $100,000 from an IRA directly to a qualified charity. These charitable distributions can be excluded from your income, and count toward satisfying any required minimum distributions (RMDs) that you would otherwise have to take from your IRA for 2011.
Depreciation and IRC Section 179 expensing--If you're a business owner or self-employed individual, you're allowed a first-year depreciation deduction of 100% of the cost of qualifying property acquired and placed in service during 2011. The "bonus" first-year depreciation deduction drops to 50% for property acquired and placed in service during 2012. Additionally, the maximum amount that can be expensed under Internal Revenue Code (IRC) Section 179 for 2011 is $500,000; in 2012, the limit is currently scheduled to drop to $125,000.
Small business stock--Generally, you can exclude 50% of any capital gain from the sale or exchange of qualified small business stock provided that you meet certain requirements, including a five-year holding period. For qualified small business stock issued and acquired in 2011, however, you'll be able to exclude 100% of any capital gain from income if the qualified stock is held for at least five years and all other requirements are met.
Energy efficient improvements--Though not as generous as it has been the last two years, a credit is still available to individuals who make energy-efficient improvements to their homes. You may be entitled to a 10% credit for the purchase of qualified energy-efficient improvements, including a qualifying roof, windows, skylights, exterior doors, and insulation materials. Specific credit amounts may also be available for the purchase of specified energy-efficient property: $50 for an advanced main air circulating fan; $150 for a qualified furnace or hot water boiler; and $300 for other items, including qualified electric heat pump water heaters and central air conditioning units. There's a lifetime credit cap of $500 ($200 for windows), however. So, if you've claimed the credit in the past--in one or more tax years after 2005--you're only entitled to the difference between the current cap and the total amount that you've claimed in the past. That includes any credit that you claimed in 2009 and 2010, when the aggregate limit on the credit was $1,500.

Getting to Know ETFs

Tue, 21 Jun 2011 07:02:08 -0500

Qubes. StreetTracks. HOLDRs. Names of popular rock groups? Not even close. They're all investments called exchange-traded funds (ETFs) and many people use them to build a diversified portfolio. Maybe you should, too -- if you understand the risk/reward trade-offs.

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Tax Issues with a Gain/Loss on Residence

Tue, 14 Jun 2011 09:37:45 -0500

You may be able to exclude from income any gain up to $250,000 for a single taxpayer and $500,000 for a joint return. To exclude the gain, you must have owned and lived in the property as your main home for two of the five years prior to the date of the sale. If you lose money on a sale, the loss is not tax deductible.

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Applied Investing Series: You Gotta Have (Market) Faith

Tue, 07 Jun 2011 08:22:05 -0500

Faith and reason. When it comes to investing in our markets, are they like oil and water? It’s true that reason drives the manner in which we structure portfolios — based on the academic evidence regarding market activity and guided by your personal goals. But in the broader sense, sometimes reason appears to let us down, and it can take faith in our markets alone to stay the course as planned. If blind market faith is occasionally required to stick with a prudent investment strategy, I say, bring it on.

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First Quarter 2011 Investment Review

Tue, 19 Apr 2011 12:43:13 -0500

See our First Quarter 2011 Investment Review.

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Planning for Estate Taxes in 2011 and 2012

Thu, 07 Apr 2011 07:46:33 -0500

The Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 included significant changes to the federal estate tax. Our second video in this series of three focuses on the fundamentals of planning for federal estate taxes in 2011 and 2012. The third video will be posted in the near future.

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Estate Tax Changes Under the 2010 Tax Relief Act

Thu, 31 Mar 2011 09:29:15 -0500

The Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 included significant changes to the federal estate tax. This is the first of three new Videos summarizing the important changes to estate tax law, and highlighting planning concerns for 2011 and 2012, in light of the uncertainty in 2013 and beyond. The second and third videos will be posted in the near future.

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Rising Interest Rates and Your Portfolio

Wed, 02 Mar 2011 11:51:59 -0600

Investors have grown accustomed in recent years to historically low interest rates. But what happens when the trend reverses?

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Estate Tax Exemption is Portable (For Now)

Wed, 23 Feb 2011 11:33:09 -0600

Recent legislation introduced a new, but perhaps temporary, estate planning concept--exemption "portability." In short, the estate of a deceased spouse can transfer to the surviving spouse any portion of the federal estate tax exemption that it does not use. The surviving spouse's estate can then add that amount to the exemption it is entitled to, increasing the total amount that can be passed on to heirs tax free. This new feature makes it easier for married couples to minimize the potential impact of estate taxes.

The federal estate tax exemption defined

The federal government imposes a tax on the value of your property when you pass it along to your descendants at your death. Any amount that is passed to a surviving spouse is generally fully deductible. The estate is also allowed to exclude a certain amount that passes on to nonspouse beneficiaries. That amount is called the "basic exclusion amount," which is $5 million in 2011.

How the exemption works for married couples

Prior to the new tax law, if a spouse died without having planned for his or her exemption, the deceased spouse's estate would have passed tax free to the surviving spouse under the unlimited marital deduction (assuming all assets passed to the surviving spouse), and the deceased spouse's exemption was lost or "wasted." The surviving spouse's estate could then only transfer an amount equal to his or her own exemption free from federal estate tax. To solve this dilemma, married couples typically set up what is commonly referred to as a credit shelter trust (aka "bypass" or family trust) that sheltered or preserved the exemption of the first spouse to die.

The following example illustrates how portability can achieve a similar result without the use of a credit shelter trust.

Example: Result without portability

Assume Henry and Wilma are married, have all of their assets jointly titled, and have a net worth of $10 million. Henry dies first, when the federal estate tax exemption is $5 million and there is no portability. Henry's estate passes to Wilma free from federal estate tax under the unlimited marital deduction and does not use any of his $5 million exemption. Assume that at the time of Wilma's death, the exemption is still $5 million, the federal estate tax rate is 35%, and Wilma's estate is still worth $10 million. With Henry's exemption completely wasted, Wilma can pass on only $5 million free from federal estate tax. Assuming no other variables, Wilma's estate will owe about $1,750,000 in federal estate tax: $10 million estate - $5 million exemption = $5 million taxable estate x 35% estate tax rate = $1,750,000.

Example: Result with portability

Assume Henry and Wilma are married, have all of their assets jointly titled, and have a net worth of $10 million. Henry dies first, when the federal estate tax exemption is $5 million and there is portability. As above, Henry's estate passes to Wilma free from federal estate tax under the unlimited marital deduction and does not use any of his $5 million exemption. Even though Henry's estate owes no tax, Henry's executor files a timely return on which he elects to transfer Henry's unused exemption to Wilma. Assume that at the time of Wilma's subsequent death the exemption is still $5 million, the federal estate tax rate is 35%, and Wilma's estate is still worth $10 million. Since Wilma has "inherited" Henry's unused exemption, she can pass on the entire $10 million estate free from federal estate tax. Portability of the estate tax exemption saves Henry and Wilma's heirs $1,750,000 in estate tax.

Portability does not eliminate the benefits of credit shelter trusts

Even with portability, there are still tax and nontax considerations that may lead you to use a credit shelter trust, such as:

The portability feature is in effect for only two years and will expire after 2012, unless Congress enacts further legislation.

The trust can help protect assets against creditors of the surviving spouse or future beneficiaries (typically children and grandchildren).
The trust gives the first spouse to die control over the ultimate distribution of his or her assets. For example, in a second marriage situation, one spouse may wish to ensure that any assets remaining after his or her spouse's death pass to his or her children from a previous marriage.
Appreciation of assets placed in the trust will escape estate taxation in the survivor’s estate.
The portability feature applies only to estate tax; it does not apply to the generation-skipping transfer (GST) tax. Without a trust, any unused GST tax exemption of the first spouse to die will be lost.

Some technical information

To use the exemption portability, the first spouse to die must elect to use portability on his or her estate tax return. An estate tax return must be filed by the first spouse to die to use portability even if the return is not otherwise required to be filed.

Many states have state estate tax exemptions that are less than the federal estate tax exemption. So, while your surviving spouse might not be subject to federal estate tax upon your passing, your surviving spouse may have to pay state estate tax if you rely solely on the federal exemption portability.

Exemption portability is available only from the last deceased spouse. It will be lost if the surviving spouse remarries and is widowed again. In other words, if the surviving spouse survives spouse 1, the surviving spouse can use spouse 1's unused exemption even if the surviving spouse marries spouse 2. However, if spouse 2 also predeceases the surviving spouse, the exemption of spouse 1 can no longer be used. However, the surviving spouse can then use the unused exemption of spouse 2.

Hans Rosling's 200 Countries, 200 Years, Four Minutes

Wed, 16 Feb 2011 10:02:11 -0600

On occasion I find it helpful to take a step back from the daily noise concerning today's world affairs and look at the bigger picture. Please view the video clip "Hans Rosling's 200 Countries, 200 Year, Four Minutes" which is a brief yet powerful presentation of the progress humans have made in areas of wealth and health over the past 200 years. This will arm you against the daily barrage of declinist, pessimistic media reports.

Watch Hans Rosling's video clip

Tax Free Charitable Contributions Extended for IRAs

Thu, 10 Feb 2011 09:00:01 -0600

Background

The Pension Protection Act of 2006 first allowed taxpayers age 70½ or older to exclude from gross income otherwise taxable distributions ("qualified charitable distributions," or QCDs) from their IRA that were paid directly to a qualified charity. Taxpayers were able to exclude up to $100,000 in both 2006 and 2007. The law was extended through 2009 by the Emergency Economic Stabilization Act of 2008, and has just been extended again, through 2011, by the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 (the Tax Relief Act).

How QCDs work for 2011

You must be 70½ or older in order to make QCDs. You direct your IRA trustee to make a distribution directly from your IRA (other than SEP and SIMPLE IRAs) to a qualified charity. The distribution must be one that would otherwise be taxable to you. You can exclude up to $100,000 of QCDs from your gross income in 2011. If you file a joint return, your spouse can exclude an additional $100,000 of QCDs in 2011. Note: You don't get to deduct QCDs as a charitable contribution on your federal income tax return--that would be double dipping.

QCDs count toward satisfying any required minimum distributions (RMDs) that you would otherwise have to receive from your IRA in 2011, just as if you had received an actual distribution from the plan. However, distributions that you actually receive from your IRA (including RMDs) that you subsequently transfer to a charity cannot qualify as QCDs.

Example: Assume that your RMD for 2011, which you're required to take no later than December 31, 2011, is $25,000. You receive a $5,000 cash distribution in February 2011, which you then contribute to Charity A. In June 2011, you also make a $15,000 QCD to Charity A. You must include the $5,000 cash distribution in your 2011 gross income (but you may be entitled to a charitable deduction if you itemize your deductions). You exclude the $15,000 of QCDs from your 2011 gross income. Your $5,000 cash distribution plus your $15,000 QCD satisfy $20,000 of your $25,000 RMD. You'll need to withdraw another $5,000 no later than December 31, 2011, to avoid a penalty.

Example: Assume you turned 70½ in 2010. You must take your first RMD (for 2010) no later than April 1, 2011. You must take your second RMD (for 2011) no later than December 31, 2011. Assume each RMD is $25,000. You don't take any actual distributions from your IRA in 2011. Prior to April 1 you make a $25,000 QCD to Charity B. Because the QCD is made prior to April 1, it satisfies your $25,000 RMD for 2010. Prior to December 31 you make a $75,000 QCD to Charity C. Because the QCD is made prior to December 31, it satisfies your $25,000 RMD for 2011. You can exclude the $100,000 of QCDs from your 2011 gross income.

As indicated above, a QCD must be an otherwise taxable distribution from your IRA. If you've made nondeductible contributions, then normally each distribution carries with it a pro-rata amount of taxable and nontaxable dollars. However, a special rule applies to QCDs--the pro-rata rule is ignored and your taxable dollars are treated as distributed first. (If you have multiple IRAs, they are aggregated when calculating the taxable and nontaxable portion of a distribution from any one IRA. RMDs are calculated separately for each IRA you own, but may be taken from any of your IRAs.)

Why are QCDs important?

Without this special rule, taking a distribution from your IRA and donating the proceeds to a charity would be a bit more cumbersome, and possibly more expensive. You would need to request a distribution from the IRA, and then make the contribution to the charity. You'd receive a corresponding income tax deduction for the charitable contribution. But the additional tax from the distribution may be more than the charitable deduction, due to the limits that apply to charitable contributions under Internal Revenue Code Section 170. QCDs avoid all this, by providing an exclusion from income for the amount paid directly from your IRA to the charity--you don't report the IRS distribution in your gross income, and you don't take a deduction for the QCD. The exclusion from gross income for QCDs also provides a tax-effective way for taxpayers who don't itemize deductions to make charitable contributions.

QCDs in 2010

As indicated earlier, the Tax Relief Act also allowed QCDs to be made for 2010, but the deadline for making 2010 QCDs (January 31, 2011) has passed. If you made QCDs in 2011 that you elected to apply to 2010, you must subtract those QCDs from your December 31, 2010, IRA balance when calculating your RMD for 2011.

New Rules Offer Easier Cost Basis Reporting

Tue, 01 Feb 2011 09:02:20 -0600

Brokers must track and report cost basis

If you're contemplating selling stock in 2011 and beyond, you should be aware of new federal regulations that give you more flexibility in managing the tax impact of your investment decisions. The new regulations, which went into effect January 1, 2011, require brokers to track your cost basis. Even better, they allow you to determine how your brokerage firm reports the cost basis of a sale. That can be helpful if you want to minimize the amount of gain on which you'll owe federal income tax or maximize a capital loss.

Your cost basis represents the original purchase price of a security plus any commissions or other fees; your adjusted cost basis is that cost basis adjusted for a variety of factors such as stock splits, corporate acquisitions or spinoffs, and reinvested dividends. Until now, reporting the gain or loss from your investments has been your responsibility, and could be very challenging for the average investor. The new regulations should make it easier to record your capital losses or gains accurately on your federal income tax form.

The Emergency Economic Stabilization Act of 2008 requires that, as of January 1, 2011, U.S. broker-dealers and other financial intermediaries must not only track the adjusted cost basis of their investors' accounts, but also report that basis to investor clients on their 1099 forms and to the Internal Revenue Service. The rules will be implemented over time. They'll apply to shares of individual stocks you buy after January 1, 2011, to investments in mutual funds and dividend reinvestment plans after January 1, 2012, and to bonds, options and other securities bought after January 1, 2013. Shares acquired before January 1, 2011 are exempt from the new rules, as are securities held in retirement accounts.

You can tailor your reporting method to suit your tax situation

The new regulations allow you to determine in advance what accounting method you wish to use for each sale of stock after January 1, 2011. Most broker-dealers will designate a default option to use if you do not specify a method. That default will typically be the so-called FIFO method (an acronym for "first in, first out"), which means that the first shares of a security purchased are considered the first shares sold. However, your broker might also allow you to specify LIFO ("last in, first out") or designate specific shares as the ones sold. In some cases, such as shares bought through a direct reinvestment program, using an average cost basis for all shares may be most convenient (most mutual fund companies already employ this method of calculating cost basis).

You may be able to put in a standing order specifying the method you want to use for all trades, or choose on a case-by-case basis; you may also authorize your financial professional to make that decision for you. The rules permit investors to change the designated method for a given trade until the settlement date (the date on which money actually changes hands, which for a typical stock sale is three days after execution of the trade). After the trade settles, you cannot change your mind about the method used. Brokers also will be required to report losses that are disallowed as a result of a wash sale (which occurs when shares are sold and then repurchased within 30 days).

Because the new regulations don't apply to investments purchased before January 1, 2011, you'll still need to do your own calculations on those transactions. The cost basis information will be included on the 1099 form you receive from your broker for tax year 2011.

If Rates are Heading Up, Should You Refinance Now?

Thu, 20 Jan 2011 13:14:11 -0600

As the economy recovers, homeowners are faced with the good news/bad news prospect of a better real estate market with the likelihood of higher mortgage interest rates. For many, that leaves three choices – sell, refinance or sit tight with the mortgage they have now.

Despite the average 30-year mortgage rate that stood at 4.8 percent in late December, the decision to refinance isn’t always a great idea. In fact, it should be considered as part of an overall financial plan that is as individual as you are.

It makes sense to confer with financial and tax experts before you make such a move because there are more questions to consider beyond “How do I get that low rate!” Among them:

What are your current financial goals? If you’re planning to stay in your home for the next 20 years, your outlook is far different than someone who wants to retire and move in the next five. Many people focus on paying off their mortgage instead of planning for retirement or education savings for their children. It’s important to get advice on this question that fits your overall lifestyle and financial needs. The important question is when you’ll get to breakeven on the cost of the refinance – generally 3 to 6 percent of the total loan amount. If your breakeven is at 12 months and you plan to stay in the home five years or longer, it will probably be worth doing.

What’s your current debt load? If you’re swimming in debt, don’t expect to get the lowest, most attractive rate available on the market. While the credit crunch is loosening, many mortgage lenders are being quite picky about whom they’ll offer their most affordable loans to and many are still turning away borrowers in significant trouble. It’s best to try and cut your level of credit card and other consumer debt before applying for any loan.

When was the last time you checked your credit reports and credit score? You have the right to get all three of your credit reports – from Experian, TransUnion and Equifax – once a year for free. You can do so by ordering them at http://www.annualcreditreport.com/. Yet don’t order all three at the same time. By staggering receipt of each of your credit reports at different points in the year, you’ll get a continuous picture of how your credit picture looks. Also, you’ll have the opportunity to focus on possible errors in a single report, which will give the other two credit agencies time to update their files.

Consider biweekly payments on your current loan… Your current lender might have sent you an offer for a biweekly mortgage loan program that will save you considerable money over the life of that loan. Discard their offer – many lenders make big fees off these programs – and see if you can do it yourself. Some lenders won’t allow it, but see if you can break up your payments in a way that will equally divide the principal and interest payments so you’re whole by the end of the month. Otherwise, they might apply the first half-payment to principal and still insist on the full monthly payment by the due date.

…or consider adding a 13th payment for the year: Either by adding the equivalent of 1/12th of what you typically pay per month to principal or simply double-paying your mortgage one month a year when you’re flush, you’ll pay your loan off faster.

Fixed or variable? Given the recent uncertainty in the mortgage market and the current loan environment, it makes sense to try and go for a fixed rate since rates remain at historic lows. Higher rates mean higher payments if rates go higher.

Second mortgages can be problematic: As many lenders have gotten stricter about doing business, they may not be as willing to take second-fiddle status behind an older second mortgage, which happens in a refinancing process if not addressed. If the borrower can’t roll the two loans into a single loan during the refinancing process, it may delay or kill the deal based on what the two lenders are willing to do.

Are you on top of your tax issues? Remember that lenders are looking as broadly as they can these days for signs of financial trouble. If you have any late payments of current property taxes or any other potential disputes with state or federal tax authorities, those issues can complicate matters. Make sure you’re current.

January 2011 — This column is produced by the Financial Planning Association, the membership organization for the financial planning community, and is provided by John A. Frisch, CPA/PFS, CFP , a local member of FPA.

Buying Used is Smart in Any Economy

Thu, 13 Jan 2011 07:35:02 -0600

Even with hopes for a better economy in 2011, some habits learned in tough times could stand to become permanent ones. A good one might be continuing – or starting – to buy particular categories of merchandise that are used but still in good condition.

If it makes you feel better to use the term “pre-owned,” by all means do so. Expertise in a particular product category can matter a little or a lot. But here are some types of merchandise where buying used can be a very good idea:

Cars: Granted, used cars are not for everybody. Mechanical skills are a plus if you have to evaluate whether your driving habits would be best-served by an older model with some mystery under the hood. But a low-mileage, well-maintained car coupled with dealer guarantees or access to car knowledge (or at least a really good, honest mechanic), can pay big dividends in the long run. First, depending on the model and age, you might be able to pay cash. Second, the right used car can be an extraordinary value when compared to a new car treated with similar kid gloves. Third, as second vehicles primarily used for short trips, a good used car can’t be beat.

Books: Granted, the world is moving into the age of the e-book, but there’s plenty of old-fashioned reading material that can be had for a song. Public libraries often sell both donated hardback and softcover books to raise funds at extraordinarily low prices, and retail chains have surfaced that actually sell used books at a fraction of the cover price. Certain Internet retailers also carry used books right alongside new copies of the same title.

Recorded music: Whether you prefer your music in CD or vinyl form, you can scout Internet retailers, flea markets and half-price stores for titles to add to your shelves or your Mp3 player. As long as you’re willing to wait a few weeks or months for a desired title to come out, you’ll find great bargains, and if you’re simply looking to replace favorite old albums that have gone to their reward, used is always a good idea.

Furniture for the home and office (particularly the office): Solidly built furniture is always an attraction – you can always call it an antique. But one of the best deals you can get in a down economy is office furniture, particularly if you check local resale shops or classified listings in print newspapers and online. It’s also easy to post specific requests for dimensions and features online as well. And even if you end up buying scuffed-up or dusty chairs, you’ll be stunned at what a little automotive tire cleaner can do to renew the look of office furniture made from rubber or plastic.

Toys and clothes for infants and toddlers: As long as you can clean them properly, these two categories of must-haves for kids are just fine bought second-hand. First, kids of any age outgrow clothes quickly, but used toys can work particularly well for younger kids simply because they haven’t become totally hooked on commercials. Until the pull of consumerism takes over – and for as long as you can manage afterward – buy used as long as the items are safe and can be thoroughly cleaned. Also, buying used is not a bad first money lesson for kids to adopt – encourage them to buy used toys and games as a way to get more out of their chore and allowance money. That’s a good habit that can last a lifetime.

Precious jewelry: Most of us don’t own the kinds of precious metals and stones that increase in value. In fact, most retail jewelry is sold at huge markups that rarely come back to the owner when they sell. The smart thing is to buy used and to get over any aversion you might have to shopping pawnshops or resale shops. Ask the vendor if they will return your money in 24 hours if a certified appraisal doesn’t satisfy you. Keep in mind you can buy used stones and settings as well.

Sports equipment and musical instruments: Whether your kid is learning to golf or play guitar at 10 -- or if you’re trying it for the first time at 40 – always start with used equipment that can last a year. If you or your son or daughter proves to be the next big rock star or champion of the PGA Tour, you can always upgrade to newer, high-quality equipment later. But lots of money can go down the drain between the words “I want this!” and “I hate this!” – so by all means, buy used first.

Game consoles and electronics: Doesn’t it seem like the latest camera, game system or other hot gadget becomes obsolete every few months? Depending on your interest, that can be very true. So the trick is to consider whether you can live with a year-old Wii or a digital camera with last year’s technology. A lot of people can’t and put nearly-new equipment up for sale. Their addiction to the newest and hottest can work out very well for you.

Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010

Tue, 21 Dec 2010 08:01:04 -0600

On December 16, 2010, Congress passed the Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010. President Obama signed the Bill on December 17. This legislation, negotiated by the White House and select members of the House and Senate, provides for a short-term extension of tax cuts made in 2001. It also addresses the Alternative Minimum Tax (AMT) and Estate, Gift and Generation-skipping Transfer taxes.

Alliant Wealth Advisors has prepared the following highlights to provide you with key information from the bill. If you have any additional questions, please do not hesitate to contact us at 703-878-9050.

HIGHLIGHTS

Two-year extension of all current tax rates through 2012

Rates remain 10, 25, 28, 33, and 35 percent
2-year extension of reduced 0 or 15 percent rate for capital gains & dividends
2-year continued repeal of Personal Exemption Phase-out (PEP) & itemized deduction limitation (Pease)

Temporary modification of Estate, Gift and Generation-Skipping Transfer Tax for 2010, 2011, 2012

Reunification of estate and gift taxes
35% top rate and $5 million exemption for estate, gift and GST
Alternatively, taxpayer may choose modified carryover basis for 2010
Unused exemption may be transferred to spouse
Exemption amount indexed for inflation in 2012

AMT Patch for 2010 and 2011

Increases the exemption amounts for 2010 to $47,450 ($72,450 married filing jointly) and for 2011 to $48,450 ($74,450 married filing jointly). It also allows the nonrefundable personal credits against the AMT.

Extension of “tax extenders” for 2010 and 2011, including:

Tax-free distributions of up to $100,000 from individual retirement plans for charitable purposes
Above-the-line deduction for qualified tuition and related expenses
Expanded Coverdell Accounts and definition of education expenses
American Opportunity Tax Credit for tuition expenses of up to $2,500
Deduction of state and local general sales taxes
30-percent credit for energy-efficiency improvements to the home (IRC section 25C)
Exclusion of qualified small business capital gains (IRC§1202)

Temporary Employee Payroll Tax Cut

Provides a payroll tax holiday during 2011 of two percentage points. Employees will pay only 4.2 percent on wages and self-employed individuals will pay only 10.4 percent on self-employment income up to $106,800.

Getting Ready to Sell Your House

Thu, 16 Dec 2010 07:30:12 -0600

While most experts see little good news in 2011’s housing market, economic downturn is no reason to neglect maintenance on a home or lose sight of future plans to relocate.

The critical issue is planning intelligently for what spending you do now to make sure it’s worth your money later. And even if your plan to sell your property is more than a year away, it’s not a bad idea to get your finances in order as well. In the coming months, you’ll be addressing tax issues, so it’s a good time to look at your overall financial picture with a qualified financial planner as well as a trained tax expert.

The October MacroMarkets Home Price Expectations Survey doesn’t see a meaningful increase in home prices until 2012, though appreciation is expected to go up on average more than 14 percent through 2014.

As you wait for your opportunity, here are some ideas to incorporate in your planning:

Check your credit report and score: If you plan to finance a new property once you sell, it makes ample sense to lower your debt and clean up any discrepancies in your credit data well in advance of any move into the market. Remember, you are entitled to one free copy of each of the major credit reports in any given year, and you can obtain them from one resource – www.annualcreditreport.com. Avoid all the services with expensive TV commercials calling themselves “free” – if they ask for a credit card number, you are not getting a free report. Also, so you can spot discrepancies and keep a watchful eye on the possibility of ID theft throughout the year, stagger your receipt of your reports from Equifax, Experian and TransUnion (the major credit ratings agencies) at different points during the year.

Get a home inspection: Go through local channels – lenders, friends, real estate professionals you trust – to find a licensed home inspector who can look over your property and help you develop a list of potential repairs and upgrades that you can do economically given that you’ll have months before you put the property up for sale. Checking your home’s structure – roof, foundation, windows, etc., as well as its mechanical parts – heating/AC, installed appliances, plumbing – can give you an early warning system for expensive repairs that a prospective buyer’s inspector would find anyway. Try now to make sure there are no problems that will kill a deal later.

Ask a trusted broker for advice: Structural experts can determine whether your home is working properly – real estate brokers may or may not be equally expert at spotting these flaws. But generally, they can be trusted on matters of appearance – whether the grounds around the home are well maintained as well as whether the home’s interior is inviting to the eye of potential buyers.

Don’t overinvest in improvements: In the 1990s, spending $40,000 on a kitchen in many neighborhoods could recover that amount of money and more in the final sales price. In today’s market, those payoffs are a distant memory. Experienced brokers generally do a good job steering you away from overpaying for improvements, but there are other resources to doublecheck the spending you’re planning to do. Remodeling Magazine’s latest Cost vs. Value report provides estimates on specific projects by region, including projections on cost recoupment.

Appeal your property taxes: If you’ve never appealed your property taxes before or have not done so in many years, do so when your appeals period is open. Lowering your taxes as much as possible may help make your property more salable.

Declutter and don’t re-clutter: Start making a list of items you might donate – furniture, clothing, household items, etc. Make sure they’re in good condition and if you’re having trouble setting a value, check on eBay or other auction sites to see if you’re being fair to yourself while not drawing the attention of the taxman.

Should You Still Consider LTC Insurance?

Tue, 14 Dec 2010 09:13:14 -0600

With Premiums Increasing and a Major Carrier Exiting the Market, Should You Still Consider LTC Insurance?

On Nov. 11, insurance giant MetLife said it would sell no new long-term care (LTC) insurance policies after Dec. 30 though it would continue to service its 600,000 insured customers. The reason? “Financial challenges” in the long-term care insurance industry.
What does that mean?

In short, that long-term care costs have proven unpredictable in the insurance industry, a world that definitely likes predictability. According to Genworth Financial, a marketer of LTC insurance, the cost of assisted living has climbed at an annual rate of 6.7 percent over the past five years and the price for a private room in a nursing home jumped 4.5 percent annually over that timeframe. Insurers have been increasing LTC premiums to combat this cost rise, making recession-battered 2009 one of the worst years for policy sales.

It’s unclear whether other major carriers might join MetLife, but their decision adds some uncertainty to the picture for long-term care planning, one of the most important ways to protect retirement funds.

For some needed perspective, it makes sense to visit a qualified financial planning expert who can look at your complete financial picture and make a recommendation.
Here are some of the questions you need to answer before investing in long-term care insurance or other options:

What resources do you have? We’re not just talking about money here. While caregiving puts a strain on family, it’s important to consider whether family and friends are truly willing and able to help with your care, which can provide a considerable financial and emotional benefit. Also, if you live in a community with reliable volunteer resources to help, that’s something to note, though today’s services may not be there tomorrow.

How old are you and your spouse and what’s your health history? People in good health purchasing long-term care insurance at the age of 55 usually get the most affordable deal in LTC insurance. But an individual’s family health history and current health status are the real determinants of what your LTC insurance policy will cost – or if you’ll qualify for coverage at all. Also, it’s important to note that 40 percent of long-term care is provided to individuals between the ages of 19 and 65, so the need for care can strike at any time.

Are you a single female? Again, personal and family resources come into play here, but since women typically live longer than men – and they still earn less on average than men – women should take a heightened interest in providing for their long-term care safety net. Long-term care insurance might be a good solution given their other investments and their health history.

What types of services are covered? Over the course of time, long-term care policies have evolved to place more emphasis on home-based care or assisted living, since most people would choose to recover or live out their last days in a familiar environment. A basic LTC insurance policy pays for assistance with activities of daily living including eating, dressing, bathing, toileting, incontinence, and transferring (bed to chair, etc.). Each policy lists the types of services that are covered under nursing home care and under home health care. Homemaker services are generally covered and other services as listed in the policy.

What triggers coverage? A qualified LTC policy won’t go into effect until the covered individual can’t perform two tasks of daily living for a period, typically 90 days, or when that person needs substantial supervision related to cognitive impairment. This is where you have to read the fine print since some policies are more restrictive than others. More affordable policies generally take longer to kick in. See if coverage for other physical ailments is available as part of the policy and what per-diem or monthly allowances are offered.

How healthy is the insurance company? While it’s impossible to tell the future – or when a major carrier wants out of a particular line of business – it’s generally better to go with a larger, higher-rated company.

How affordable will the policy be if your premium increases? If you can barely afford LTC coverage now, it’s going to be much tougher to afford premiums if they go up over time. Talk with a planner about other options if that’s the case.

What about an annuity? There are hybrid annuities that also carry long-term care coverage. These products allow policyholders to use the proceeds for LTC coverage, for income or for both. The proceeds that go to pay for long-term care costs for the policyholder would not be subject to federal tax. These long-term care annuities can generate tax-deferred gains, which works particularly well for those in high tax brackets who believe they will be in a lower bracket by the time they would need to draw on that coverage.

December 2010 — This column is produced by the Financial Planning Association, the membership organization for the financial planning community, and is provided by John A. Frisch, CPA/PFS, CFP , a local member of FPA.

We're Published by Reuters

Tue, 19 Oct 2010 11:13:19 -0500

How to Help A Grieving Friend

By Linda Stern

(Reuters) - Losing a spouse is one of the most stressful and sad ordeals a person can go through, but often it’s not just the personal grief that brings widows and widowers to despair -- it is the paperwork.

The surviving spouse is often left with a mountain of medical bills and is pressured to make immediate decisions about important items including retirement plan assets and insurance policy distributions.

The bankers, brokers and agents who are pushing for those decisions may not even have the correct information about how to proceed, and those snap decisions often end up being money losers.

There are important facts to be aware of, even if they do not yet pertain to you --a friend or close relative will likely go through this sooner or later, and if you can give her (it’s almost always a her) some sound advice about how to proceed, that can at least be as good as a box of tissues, a cup of tea and a shoulder to cry on.

WHAT YOU AND YOUR FRIENDS SHOULD KNOW:

--Take your time and get help. “Grief will cloud anyone’s ability to make a decision,” says John Frisch, a Woodbridge, Virginia, financial adviser who has many widowed clients and has researched how the bereaved manage their money.

“This is not a good time to make any financial decisions that may affect her or her family for years. Any decision that can be postponed should be.”

--Some things do need to get done quickly. Apply for death benefits from pensions, Social Security and life insurance, Frisch says. Do what it takes to keep your family’s health insurance in force, or to find another policy. In most cases, you can use COBRA to stay on your spouse’s plan. Make sure you can get your hands on enough cash to cover short-term expenses.

--Take the life insurance money. Don’t let the insurance company hold onto it in a “retained asset account” because it may be subject to additional fees and expenses, and it may not be insured. Instead, put it in the bank while you decide, slowly and with help, what to do with it. If it is more than $250,000, the FDIC coverage limit, you can split it up into several banks.

--Bring a buddy to meetings. You will probably have to go visit the Social Security Administration and your spouse’s Human Resources department. You will need to talk to your financial adviser, tax adviser and the life insurance company. Do not do any of this alone, even if you’re a financial whiz.

Have a friend be in the room taking notes, asking questions and backing you up. When you get home and try to remember what was said and what you have to do next, you will be glad to have the back-up. If you’re the friend, offer to go to meetings and take notes.

--You can delay some decisions for a long time. Your spouse’s employer may be in a hurry to send you a check and clear out his 401(k) or retirement account. Don’t do it. You can often leave that money where it is for years, and you have the option to roll it over into your own IRA. Take your time deciding how to handle those assets. A wrong, rushed answer can cost you tens or even hundreds of thousands of dollars in taxes and lost earnings.

The same advice holds for deciding what to do with your spouse’s IRA. You may decide to withdraw the funds from it, or to roll them over to an IRA for you. But you do not have to rush into that --you typically have five years to make those --Plan to cut your taxes. If your spouse accumulated big medical bills in the last year of his life, that could be a valuable deduction for you, according to financial planner Lyn Dippel of Columbia, Maryland. She says it may make sense to liquidate some of that IRA to pay the medical bills, because the deductions may offset the income.

-- Plan to cut your taxes. If your spouse accumulated big medical bills in the last year of his life, that could be a valuable deduction for you, according to financial planner Lyn Dippel of Columbia, Maryland. She says it may make sense to liquidate some of that IRA to pay the medical bills, because the deductions may offset the income.

Another option: Wait until January of next year to pay all of those bills; with only one income instead of two in 2011, you will get more deductions. That’s because medical expenses are only deductible to the extent they exceed 7.5 percent of your income. It’s good to call in a tax adviser to help you make those decisions before the end of the year.

-- Don’t feel badly about the money. Guilt over life insurance proceeds is another emotional cause of poor decision making in widowhood. Your spouse bought life insurance to take care of you -- don’t let conflicted feelings about your newfound wealth allow you to waste it. You will need those funds for years to come, so don’t race to spend it, give it away or invest it carelessly because you feel bad about it.

Eventually, you’ll be able to do good things with that money. (Editing by Maureen Bavdek)

About the Author

Linda Stern is a freelance writer. Any opinions in the column are solely those of Ms. Stern. You can follow Linda Stern’s financial notes on Twitter at www.twitter.com/lindastern

2011 Tax Changes

Tue, 21 Sep 2010 08:09:11 -0500

A host of tax provisions enacted in 2001 and 2003--commonly referred to collectively as the "Bush tax cuts"--expire at the end of the year. While it's possible that new legislation could extend some or all of these expiring tax provisions, election-year politics make it difficult to predict what action, if any, Congress will take. With that in mind, here's what you need to know about the major changes that are scheduled for 2011.

Federal income tax brackets

Right now, there are six income tax brackets: 10%, 15%, 25%, 28%, 33%, and 35%. For 2010, these brackets apply to married couples filing joint federal income tax returns in the following manner.

2010 Income Tax Brackets Married Filing Jointly
Taxable Income	Marginal Tax Rate
Not over $16,750	10%
Over $16,750 to $68,000	15%
Over $68,000 to $137,300	25%
Over $137,300 to $209,250	28%
Over $209,250 to $373,650	33%
Over $373,650	35%

As it stands now, there will be no 10% bracket for 2011, and the remaining bracket rates will return to their original 2001 levels: 15%, 28%, 31%, 36%, and 39.6%.

Long-term capital gains tax rates

For 2010, if you sell shares of stock that you've held for more than a year, any gain is a long-term capital gain, generally taxed at a maximum rate of 15%. If you're in the 10% or 15% marginal income tax bracket, however, you'll pay no federal tax on the long-term gain (a 0% tax rate applies). That means if you're a married couple filing a joint federal income tax return, and your taxable income is $68,000 or less, you pay no federal tax on the gain.

However, these rates expire at the end of 2010. Beginning in 2011, a 20% rate will generally apply to long-term capital gains. Individuals in the 15% tax bracket (remember, there won't be a 10% bracket in 2011) will pay the tax at a rate of 10%. Special rules (and slightly lower rates) will apply for qualifying property held for five years or more. Finally, while qualifying dividends are taxed in 2010 using the same capital gains tax rates described above (i.e., 15% and 0%), in 2011 they'll be taxed as ordinary income subject to the increased 2011 tax brackets.

The estate tax

There is currently no estate tax for 2010, and special rules are in place that govern the way basis is calculated for property passing upon death. The estate tax reappears in 2011, however, with a $1 million exclusion amount (meaning that up to $1 million of assets will be exempt from estate tax) and a top tax rate of 55%. To put that in context, for 2009, the top estate tax rate was 45%, and estates received an exclusion of $3.5 million.

Year	2009	2010	2011
Estate tax exclusion	$3.5 million	N/A	$1 million
Top estate tax rate	45%	No tax	55%

Other important changes

Other changes for 2011 include:

Phaseout of itemized deductions and exemption amounts--Itemized deductions and personal exemption amounts will once again be phased out for higher-income individuals
The "marriage penalty" returns--Changes made to correct the federal income tax "marriage penalty" expire at the end of 2010, resulting in a reduced standard deduction amount and lower tax bracket thresholds (i.e., higher rates will apply at lowe r income levels) for married couples filing jointly in 2011
Tax credits get cut--The child tax credit will be reduced and both the Hope education tax credit and the earned income tax credit become less generous (the Making Work Pay tax credit also disappears)
Section 179 small business expensing--The increased IRC Section 179 expense limit ends (Section 179 allows small businesses to elect to expense the cost of qualifying property rather than recover the cost through depreciation deductions); the amount that a small business may expense will drop from $250,000 in 2010 to $25,000 in 2011.

Healthcare Reform – Fact vs. Fiction

Tue, 21 Sep 2010 08:04:21 -0500

The health-care reform legislation that passed earlier this year was incredibly broad in scope, so it's probably not surprising that there's a good deal of confusion, and a number of false or misleading claims being circulated. Here's the truth behind two of the claims that have gained the most traction lately.

The claim: Beginning in 2011, you'll be taxed on the value of your employer-provided health insurance

There are several e-mail campaigns making their way around right now claiming that, beginning in 2011, taxable income on Forms W-2 will be increased to reflect the value of employer-provided health insurance. A typical e-mail warns: "You will be required to pay taxes on a large sum of money that you have never seen. Take your last tax form and see what $15,000 or $20,000 additional gross does to your tax debt. That's what you'll pay next year. For many it also puts you into a new higher bracket so it's even worse. This is how the government is going to buy insurance for the 15% who don't have insurance and it's only part of the tax increases."

The facts:

While it's true that, beginning in 2011, the health-care reform legislation requires employers to begin reporting the cost of employer-provided health-care coverage on an employee's Form W-2, the cost is included for informational purposes only, to show employees the value of their health-care benefits. The amount reported is not included in income, and will not affect your tax liability.

The claim: Beginning in 2013, a new federal sales tax will apply to the sale of a home

The claim is that, beginning in 2013, all real estate sales will be subject to a new 3.8% federal sales tax. The e-mails making this claim generally contain some variation of the following text: "Under the new health-care bill--did you know that all real estate transactions are now subject to a 3.8% sales tax? The bulk of these new taxes don't kick in until 2013 … If you sell your $400,000 home, there will be a $15,200 tax."

The facts:

This claim, though inaccurate, has a basis in fact. There's no federal sales tax being imposed on the sale of homes. But, beginning in 2013, the health-care reform legislation does impose a new 3.8% Medicare contribution tax on the net investment income of high-income taxpayers (individuals with adjusted gross income (AGI) exceeding $200,000, and married couples filing joint returns with AGI exceeding $250,000). Net investment income will include gain on the sale of a home. However, the tax will not apply to any gain from the sale of a principal residence that is excluded from income (individuals, if they qualify, can generally exclude the first $250,000 in gain from the sale of a principal residence; married couples filing joint returns can generally exclude up to $500,000). That means that in most cases, at least where a principal residence is concerned, the 3.8% tax would kick in only if your AGI exceeds the threshold above, and only if profit on the sale of the home exceeds $250,000 ($500,000 for married couples filing jointly).

Forefield Inc. does not provide legal, tax, or investment advice. All content provided by Forefield is protected by copyright. Forefield is not responsible for any modifications made to its materials, or for the accuracy of information provided by other sources.

The Top Five Things You Need to Teach Kids About Money

Tue, 21 Sep 2010 08:01:40 -0500

What if there was mandatory money instruction for every child in America from kindergarten on up and every adult was required to take an annual test confirming those concepts well into their senior years?

It’s a nice fantasy. But in reality, the first money lessons a child gets come from their parents, and experts agree that the way parents teach and reinforce those concepts will have a major impact on their kids avoiding major financial problems later in life.

So, a question for parents: How equipped are you to teach your kids about money?

If you don’t feel confident about creating a money curriculum for your child, don’t worry, there’s help. Start by planning your own financial future with a qualified financial planner. You can take a close look at where you need to be with your finances and gather ideas to teach your kids about money as well.

However you personalize the lesson, every parent needs to involve these five basic concepts in a child’s money education:

1. Work: It’s true. The first great lesson isn’t so much about money as what it takes to earn money. As early as kindergarten or first grade, your kid is going to have to start paying for things. Children need to understand as early as possible that a good day’s work should deliver a good day’s pay, so it’s a good idea to come up with age-appropriate chores in exchange for an allowance. The best place to start is with simple jobs like setting the table and making beds. For older kids, yard work, laundry and housecleaning are good to add to the list.

How big should that allowance be? Try to match the allowance closely to the expenses you want your child to cover and leave a little wiggle room for treats. That way, the child begins to understand choice while learning that spending requires limits. Also offer options that allow children the opportunity to earn additional money for extras – toys or privileges, for instance – then stress why working for treats is important. When kids are younger, you should keep a frequent watch over how they’re handling their cash – checking in every day or so – and then allow them more leverage as they demonstrate wise decisions.

2. Saving: Once you teach your kids about spending, help them identify larger goals they have to save for. Buy a piggy bank – young children relate very well to this tried-and-true symbol of saving. It gives them someplace to put money out of sight so they don’t spend it, and you should impress upon them that they are free to tap into it only to accomplish a goal that the both of you initially discuss. Again, as they make smarter decisions, let them have more responsibility. And this lesson shouldn’t just be about buying stuff – kids need to learn how money can be used for setting and accomplishing goals.

If it makes sense for you, you can also add incentives to save. One idea: Tell your son or daughter that you’ll give them $1 for every $5 or $10 they put in the bank. It will definitely make them think twice about an impulse purchase.

3. Budgeting: Budgeting is one of the most universally misunderstood money concepts for children and adults. That’s why it’s so important to make sure a child understands why it’s so important to write down money priorities and keep track of whether those priorities are being met. When a child gets a little older, it might be a good idea to help them establish a budget for everyday expenses with an important side goal, such as accumulating spending money for a much-anticipated family vacation. Parents might show kids a similar exercise for how they’re setting aside money for the trip. Unsure how to set up a budget? PBS Kids offers an example.

For younger kids, it might make sense to turn the budgeting process into a game. Parents might take a stack of fake money, give it to the child and ask what they would spend it on. The child would write down each purpose – toys, school lunches and special things they need to save for – and get them to write down how they’d allocate the cash. This can turn into a real exercise later.

4. Delayed gratification: If budgeting and savings are going to work, kids need to know they can’t spend their money whenever they feel like it. Parents need to lead by example here. If kids always see you paying with plastic and bringing home carfuls of shopping bags each week from the mall, they might get a sense that money is limitless. On the other hand, if they see you making lists, tearing out coupons and talking about saving for particular goals over the long term – they might start to mimic that behavior.

5. Helping others: It’s important for children to know that there is always someone less fortunate than themselves and it’s important to help, even in a small way. Increasingly, kids are involved in charitable and community activities as part of their educational process – such work even figures into college applications. Teaching your children to set aside a little for those who have less might be a good first lesson in what should be a lifetime of sharing with others. Also, don’t forget that charity isn’t always about money. Kids should also learn the importance of giving their time and labor to important causes and people in need. And if they think of unique and effective ideas to help, by all means, praise and encourage that activity.

September 2010 — This column is produced by the Financial Planning Association, the membership organization for the financial planning community, and is provided by John Frisch, CPA/PFS, CFP® , a local member of FPA.

The Smart Way to Review – and Improve – Your Retirement Holdings

Tue, 21 Sep 2010 07:58:35 -0500

A May report by human resources consultant Hewitt Associates showed that the average U.S. employee will need more than 15 times their final pay in retirement resources (including personal retirement savings, employer-based retirement savings and Social Security) to maintain their current standard of living during retirement. Unfortunately, Hewitt found that four out of five workers are still expected to fall short of meeting all their financial needs in retirement unless they take immediate action to improve their savings habits or retire at a later age.

Everyone should set a quarterly review of their holdings in 401(k) plans and other resources because that’s typically when statements come out. But knowing their performance information isn’t enough.

Most people don’t take a comprehensive view of their retirement picture – they might check their individual IRA statements and check on how their employer-based pension accounts are doing, but to make sure their retirement engine is really chugging along, good advice is key.

That’s why it might be wise for investors to get a fresh start with retirement advice this fall. It doesn’t matter if you believe your investments are falling behind or if you’ve never started – make time to consult with financial planning professionals to make sure your personal and work-related retirement savings complement each other.

Things you should do:

Check your allocations first: While you don’t want to make severe moves (many people are tempted to do so after a major market downturn and most end up missing the benefits of a recovery), you do want to know whether your asset allocation fits your age and retirement goals. Also, if a major life event occurs – divorce or widowhood, starting a family – that’s another important reason to re-evaluate your retirement numbers. As we age, we generally need to put less money in volatile investments like stocks and more in conservative investments with guaranteed returns like Treasuries, bonds or CDs. If you’re behind on your retirement goals, you will probably have to take on a bit more risk, but it’s best to do so with proper supervision. After all, no one wants to be left out of a market upswing when they have catching-up to do. But they certainly don’t want to be overexposed in volatile investments when the market heads down – that’s the lesson most people learned in 2008.

Save even if your company has cut or discontinued matching: Matching is one of the greatest things about working for an employer. Unfortunately, many employers retracted the benefit during the recession. Even if your company doesn’t bring back matching, you’ve got to try and pick up the slack. You will still realize the benefit of pre-tax contributions made to your traditional 401(k). And, when you have money automatically taken from your paycheck you are “dollar cost averaging”. That means the fixed dollar amount that comes from your paycheck buys more shares when prices are low, and fewer when prices are high. Thus, your average cost per share is lower than the average price per share.

If your employer doesn’t enroll you, make sure you do it: According to the Profit Sharing/401(k) Council of America’s 2009 statistics, nearly 40 percent of U.S. employers automatically enroll workers in their 401(k) plans. Nearly 83 percent of U.S. employees have some money in those plans. If you’re not in either camp, you need to join, even if your company doesn’t match – the tax advantages are too attractive.

Continue to save while you wait to join a plan: A significant number of companies don’t let you join the 401(k) until you’ve been working there a year. If that’s the case, get in the habit of putting money away for retirement anyway. Start an individual IRA with the funds you would put in the company plan, or set aside money in a savings account so you can supplement your cash flow and put the maximum amount into your 401(k) once you’re allowed to join.

Contribute the maximum: Not every employee can afford to contribute the maximum allowed by the plan, but try. In 2010, the maximum 401(k) contribution will be $16,500, and those 50 and older can make an additional catch-up contribution of $5,500.

Don’t rely on the 401(k) alone: Particularly if matching lags for a while, 401(k) plans can’t be relied upon as a single source of retirement dollars. You must invest outside your company plans.

Don’t over-invest in company stock: Most financial planners advise that you put no more than 15 to 20 percent of your whole 401(k) portfolio in company stock.

Don’t borrow from the 401(k): A 401(k) shouldn’t be a house fund or a source of emergency cash. You’re taking money out of the account that otherwise would grow tax-deferred, and if you fail to pay back the money, you could face income taxes and penalties. Instead, build an outside emergency fund of three to six months of living expenses you can draw from.

Don’t cash out: Some workers think it’s a great idea to treat a 401(k) as a windfall for when they quit a job. Don’t do it. You’ll pay huge penalties and lose your retirement savings momentum.

Keep track of 401(k) accounts left behind at former employers: Maybe you’ve changed jobs several times and never got around to moving older, smaller 401(k) accounts from past employers to current ones or into a self-directed retirement account. Always get advice about 401(k) funds when you leave an employer.

Always re-evaluate if the company radically changes your retirement offerings: Big changes in funds and options require scrutiny. And with recent regulatory changes, governing fees and other once invisible charges that ended up coming out of investors’ pockets, it’s worth having a talk with your financial planner and maybe your HR department.

Teach Your Children Well: Basic Financial Education

Mon, 30 Aug 2010 10:33:01 -0500

Even before your children can count, they already know something about money: it's what you have to give the ice cream man to get a cone, or put in the slot to ride the rocket ship at the grocery store. So, as soon as your children begin to handle money, start teaching them how to handle it wisely.

Making allowances

Giving children allowances is a good way to begin teaching them how to save money and budget for the things they want. How much you give them depends in part on what you expect them to buy with it and how much you want them to save. Some parents expect children to earn their allowance by doing household chores, while others attach no strings to the purse and expect children to pitch in simply because they live in the household. A compromise might be to give children small allowances coupled with opportunities to earn extra money by doing chores that fall outside their normal household responsibilities.

When it comes to giving children allowances:

Set parameters. Discuss with your children what they may use the money for and how much should be saved.
Make allowance day a routine, like payday. Give the same amount on the same day each week.
Consider "raises" for children who manage money well.

Take it to the bank

Piggy banks are a great way to start teaching children to save money, but opening a savings account in a "real" bank introduces them to the concepts of earning interest and the power of compounding. While children might want to spend all their allowance now, encourage them (especially older children) to divide it up, allowing them to spend some immediately, while insisting they save some toward things they really want but can't afford right away. Writing

down each goal and the amount that must be saved each week toward it will help children learn the difference between short-term and long-term goals. As an incentive, you might want to offer to match whatever children save toward their long-term goals.

Shopping sense

Television commercials and peer pressure constantly tempt children to spend money. But children need guidance when it comes to making good buying decisions. Teach children how to compare items by price and quality. When you're at the grocery store, for example, explain why you might buy a generic cereal instead of a name brand.

By explaining that you won't buy them something every time you go to a store, you can lead children into thinking carefully about the purchases they do want to make. Then, consider setting aside one day a month when you will take children shopping for themselves. This encourages them to save for something they really want rather than buying on impulse. For "big-ticket" items, suggest that they might put the items on a birthday or holiday list.

Don't be afraid to let children make mistakes. If a toy breaks soon after it's purchased, or doesn't turn out to be as much fun as seen on TV, eventually children will learn to make good choices even when you're not there to give them advice.

Earning and handling income

Older children (especially teenagers) may earn income from part-time jobs after school or on weekends. Particularly if this money supplements any allowance you give them, wages enable children to get a greater taste of financial independence. Earned income from part-time jobs might be subject to withholdings for FICA and federal and/or state income taxes. Show your children how this takes a bite out their paychecks and reduces the amount they have left over for their own use.

Creating a balanced budget

With greater financial independence should come greater fiscal responsibility. Older children may have more expenses, and their extra income can be used to cover at least some of those expenses. To ensure that they'll have enough to make ends meet, help them prepare a budget.

To develop a balanced budget, children should first list all their income. Next, they should list routine expenses, such as pizza with friends, money for movies, and (for older children) gas for the car. (Don't include things you will pay for.) Finally, subtract the expenses from the income. If they'll be in the black, you can encourage further saving or contributions to their favorite charity. If the results show that your children will be in the red, however, you'll need to come up with a plan to address the shortfall.

To help children learn about budgeting:

Devise a system for keeping track of what's spent
Categorize expenses as needs (unavoidable) and wants (can be cut)
Suggest ways to increase income and/or reduce expenses

The future is now

Teenagers should be ready to focus on saving for larger goals (e.g., a new computer or a car) and longer-term goals (e.g., college, an apartment). And while bank accounts may still be the primary savings vehicles for them, you might also want to consider introducing your teenagers to the principles of investing. To do this, open investment accounts for them. (If they're minors, these must be custodial accounts.) Look for accounts that can be opened with low initial contributions at institutions that supply educational materials about basic investment terms and concepts. Helping older children learn about topics such as risk tolerance, time horizons, market volatility, and asset diversification may predispose them to take charge of their financial future.

Should you give the kid credit?

If older children (especially those about to go off to college) are responsible, consider getting them a credit card. Most major credit card companies require an adult to cosign a credit card agreement before they will issue a card to someone underthe age of 18 (as of February 2010, the Credit CARD Act of 2009 will generally require this for consumers under age 21). Ask the credit card company for a low credit limit (e.g., $300) or a secured card. This can help children learn to manage credit without getting into serious debt.

Also:

Set limits on the card's use
Make sure children understand the grace period, fee structure, and how interest accrues on the unpaid balance
Agree on how the bill will be paid, and what will happen if the bill goes unpaid
Make sure children understand how long it takes to pay off a credit card balance if they only make minimum Payments

If putting a credit card in your child's hands is a scary thought, you may want to start off with a prepaid spending card. A prepaid spending card looks like a credit card, but functions more like a prepaid phone card. The card can be loaded with a predetermined amount that you specify, and generally may be used anywhere credit cards are accepted. Purchases are deducted from the card's balance, and you can transfer more money to the card's balance whenever necessary. Although there may be some fees associated with the card, no debt or interest charges accrue; children can only spend what's loaded onto the card.

One thing you might especially like about prepaid spending cards is that they allow children to gradually get the hang of using credit responsibly. Because you can access the account information online or over the phone, you can monitor the spending habits of your children. If need be, you can then sit down with them and discuss their spending behavior and money management skills.

Interest Rates Drop Slightly on Some Federal Student Loans

Mon, 30 Aug 2010 10:29:17 -0500

If you have a federal Stafford or PLUS Loan issued July 1, 1998 through June 30, 2006, the interest rates on these loans reset every July 1. Beginning July 1, 2010, the new interest rates are 2.47% for Stafford Loans in repayment status (down from 2.48%); 1.87% for Stafford Loans in school, grace period, or deferment status (down from 1.88%); and 3.27% for PLUS Loans in repayment status (down from 3.28%). These new rates will be in effect through June 30, 2011, when they will reset again.

Federal Loan Consolidation

If you have more than one of these variable rate federal student loans, you can convert your variable interest rate to a fixed interest rate by consolidating your loans under the federal government's loan consolidation program.

The interest rate on a consolidation loan is a fixed rate that's equal to the weighted average of the current applicable interest rates on the loans being consolidated, rounded up to the nearest 1/8th of a point (and capped at 8.25%). For example, suppose you have three separate variable rate Stafford Loans that you're currently repaying. If you consolidate them, your new fixed interest rate for the life of the loan would be 2.5% (2.47% rounded up to the nearest 1/8th of a point). Lowering your interest rate can potentially save you hundreds or thousands of dollars over the life of the loan.

There are some things to keep in mind about loan consolidation:

You can only consolidate your loans once, so if you did so previously, you can't do it again

You can't add private student loans into a federal consolidation loan

If you're still in school, you can't consolidate your loans--you must wait until you graduate

If you are eligible to consolidate your loans, you'll need to go through the Federal Direct Loan Consolidation program. For more information, visit www.loanconsolidation.ed.gov.

Loans Issued On or After July 1, 2006

If you have an unsubsidized Stafford Loan or PLUS Loan issued on or after July 1, 2006, your loan will have a fixed interest rate for the life of the loan. For unsubsidized Stafford Loans ("unsubsidized" means the federal government does not pay the interest while you are in school or during grace and deferment periods; these loans are not based on financial need), the interest rate is 6.8%. For PLUS Loans, the interest rate is 7.9%.

However, for subsidized Stafford Loans ("subsidized" means the federal government pays the interest while the borrower is in school and during grace and deferment periods; subsidized loans are based on financial need), the interest rate for the period July 1, 2010 through June 30, 2011 is 4.5% (the rate will decrease to 3.4% for the period July 1, 2011 through June 30, 2012).

Summary

The following table highlights the interest rates on different types of federal student loans.

Stafford Loan: Subsidized

Stafford Loan: Unsubsidized

PLUS Loan

Issued July 1, 1998 through June 30, 2006

2.47% for loans in repayment (down from 2.48%)
1.87% for in-school, grace period, and deferment status loans (down from 1.88%)

same as subsidized Stafford Loan

3.27% (down from 3.28%)

Issued on or after July 1, 2006

4.5% for loans disbursed on or after July 1, 2010 through June 30, 2011
3.4% for loans disbursed on or after July 1, 2011 through June 30, 2012

6.8% fixed

7.9% fixed

They're Baaacck. 2010 Required Minimum Distributions

Mon, 26 Jul 2010 14:50:02 -0500

In response to deteriorating economic conditions in 2008, Congress (as part of the Worker, Retiree, and Employer Recovery Act of 2008, or "WRERA") waived RMDs from IRAs and defined contribution employer plans for the 2009 calendar year. This allowed individuals to avoid having to deplete retirement plan assets while the value of those assets was suddenly depressed. But RMDs are back for 2010. Here's how the rules apply.

IRA Owners and Employer Plan Participants

If you turned 70½ before 2009, your RMD for the 2009 calendar year, which was due by December 31, 2009, was waived. You must now resume taking RMDs. Your next RMD (based on your December 31, 2009, account balance) must be taken no later than December 31, 2010.

If you turned 70½ in 2009, your first RMD (for the 2009 calendar year) was due by April 1, 2010. This RMD was waived. You must now take your first RMD (for the 2010 calendar year, based on your account value as of December 31, 2009) no later than December 31, 2010. You'll need to take your second RMD from the account (for the 2011 calendar year) no later than December 31, 2011.

If you turned 70½ in 2010, your RMDs are not impacted by the 2009 waiver at all. Your first RMD (for the 2010 calendar year) is due by April 1, 2011, and is based on the value of your account on December 31, 2009. You'll need to take a second RMD from the account no later than December 31, 2011.

Inherited Accounts

In general, if you inherit an IRA (traditional or Roth) or employer-plan account, you must begin taking RMDs over your life expectancy ("life expectancy" rule) starting with the year following the year of the account owner's death. Alternatively, you may elect, or your plan may require, that you withdraw the entire account by December 31 of the calendar year containing the fifth anniversary of the account owner's death ("five-year" rule).

Per the WRERA, if you inherited an IRA or employer account, and you were using the life expectancy payout rule, then your RMD for the 2009 calendar year was waived. You must take an RMD for the 2010 calendar year no later than December 31, 2010.

If you inherited an IRA or employer account, and you were using the five-year rule for RMDs, you ignore 2009 when determining when your five-year period ends. So, for example, if your original five-year deadline was December 31, 2009, you ignore 2009 and you now have until December 31, 2010, to complete withdrawals from the account. Similarly, if your original five-year deadline was December 31, 2013, your new deadline, ignoring 2009, is December 31, 2014.

If you inherited an employer plan account, you may have been given the right to elect whether to use the five-year rule or the lifetime expectancy payout rule for taking RMDs. This election is generally required no later than December 31 of the year following the year of the account owner's death. Per IRS Notice 2009-82, if your deadline for making the election was December 31, 2009, you now have until December 31, 2010, to make that election.

If you inherited an employer account from someone other than your spouse, and the five-year rule applies to your benefit, you generally have until December 31 of the year following the year of the account owner's death to make a direct rollover of the account to an inherited IRA, and use the lifetime expectancy payout rule for distributions from the IRA. If the account owner died in 2008, you generally would have needed to complete your rollover by December 31, 2009. Per Notice 2009-82, you have until December 31, 2010, to complete the rollover.

As you can see, the 2009 waiver significantly complicates the RMD landscape for 2010. If you're taking RMDs from an IRA or employer-sponsored retirement plan, you may want to consider reviewing your situation with your financial professional.

Keeping Your Credit Score Healthy

Tue, 27 Jul 2010 08:55:13 -0500

It doesn’t take much these days to damage a credit score. Before the recession, late payments and blasting through credit limits would take its toll. But in the past year, Fair Isaac, the company that developed the algorithm that is the leading determinant of our scores, made an important change in its formula.

It’s now putting much more emphasis on the size of your balances and how close they are to your total credit limit. It’s a behavior trigger that creditors see as a bigger worry than ever. So the best thing you can do for your credit score is to get your balances down to under half of your credit limit.

Even better, pay them off entirely and use them only when you know you can pay them off at the end of the month. Inactive accounts will ding your credit score, but quick payments can only help.

The latest revision in the FICO system will actually allow a bit of lenience on late payment – something that might affect more than a few consumers with the downturn in the economy. Obviously, this won’t mean that someone can chronically pay late, but once or twice won’t make the same impact as in earlier FICO versions.

Yet credit utilization – the amount of credit you’re actually using relative to your credit limit – is a much bigger deal simply because high balances are still prevalent among consumers. From the lender’s perspective, high balances mixed with a tough economy means a higher risk of default among customers.

So, one more time. What’s a good target utilization rate for all your revolving credit accounts? No more than 50 percent of your credit limit, and if you can get it significantly lower than that over time, that’s a good plan. The lower your credit utilization, the better your score.

What does that mean for ordinary Americans who don’t meet that under-50 percent goal? It means you shouldn’t be applying for new credit or refinancing for awhile, and that includes something as innocuous as a department store charge.

So maybe that means deferring gratification for awhile until you get things under control. But look at it this way – you can use this time as a way to develop more knowledge about credit and be in a better position long-term. Here are some things you need to know:

You’ll need at least a 740 score for the best rates: You’ll often hear that credit scores of 700 and up will get you best customer status with lenders. That’s true, but you need to aim significantly higher. For the lowest rates and best terms, you need to get your credit score above 740 (the top credit score, by the way, is 850), so keep that target in mind.

Budget: If you’ve never reviewed your spending and picked out areas where you can cut, you’ve never done a budget. Start tracking your spending either on paper or with financial planning software and start pinpointing what spending you can shift over to paying off debt.

Get some advice: Remember that debt is just one part of your overall financial picture. It might not be a bad time to sit down with a financial planner to talk about your debt issues, planning for retirement, your kids’ college education and any other key financial goals.

Monitor your credit reports: Remember that you have the right to get all three of your credit reports -- from Experian, TransUnion and Equifax -- once a year for free. You can do so by ordering them at www.annualcreditreport.com. Order them individually at different points in the year. That means you’ll get an extended picture of how your credit picture looks because the three bureaus feed each other the latest information. You’ll also be able to clean up errors as you find them -- errors can drag down a credit score – and you’ll also keep an eye on identity theft. Oh, and make sure you use the site above and avoid the businesses that use “free credit report” in their title. It’s easy. If they ask for your credit card number, don’t do business with them.

Make electronic payments: Electronic bill payment will allow you to save on postage while guaranteeing on-time payment, and the budgeting advice mentioned above will allow you to put a few more bucks toward getting that loan or credit card bill paid off. It’s important to always pay more than the minimum payment on your bill – otherwise your balance will barely move.

Short Term Memories, Long Term Discipline

Tue, 27 Jul 2010 08:59:13 -0500

As if the stock market doesn’t already throw us enough curve balls and changeups, our own, all-too-human minds often trick us into swinging at air when it comes to making wise investment decisions. Behavioral finance, an entire field of academic inquiry, sheds light on why we investors do some of the crazy things we do, despite all logic.

Today, I want to focus on a behavioral trick known as RECENCY. Because recency is at its most dangerous during particularly volatile markets, I think it’s important to understand that: (1) you are probably subject to it, and (2) knowing this can help you avoid succumbing to it.

In his book, Your Money and Your Brain, Jason Zweig describes recency bias as, “the human tendency to estimate probabilities not on the basis of long-term experience but rather on a handful of the latest outcomes. … Whatever has happened most recently will largely determine what you think is most likely to happen next.”

Applying this bias to investing, it means that when the recent direction of the stock market has been downward, investors tend to assume that it will stay that way or get worse, onward into the future, with no hope in sight. Ugh. Recency plays the same trick on us in reverse when markets roar forward. In bull markets, investors like to convince themselves that the party will never end. No wonder our poor brains practically short-circuit during highly volatile markets!

Why does recency exist to begin with? Like other behavioral hardwiring, it was probably born out of necessity. Those who mastered it were most likely to survive in dangerous physical surroundings. If you’re in the depths of a prehistoric European winter, for example, it’s best to keep that fire well-stoked, assuming that the recent cold is likely to continue.

Even in our modern lives, recency can be handy in making many quick, correct decisions. For example, if you’ve just emerged from a rush-hour traffic jam into a patch of smooth sailing, I think we can all agree that it’s best to keep a particularly watchful eye for more bottlenecks up ahead.

Thus, these kinds of life lessons were ingrained in us deep along the way and remain valid in much of our daily lives today. However, recency has a way of turning on you when applied to your wealth. Particularly since you are a long-term investor, right?

Remember that chart I showed you in my May President’s Letter, in which all the asset classes squiggled around in the short-term, but kept going up overall? Consider that same ride, viewed closer up.

If you make investment decisions based on recency-induced fear during periods of market doom and gloom, you’re likely to miss out on what is nearly impossible to see except in big-picture hindsight: those unpredictable growth spurts that have resulted in long-term accumulated wealth. Recency may be helpful in Interstate traffic, but when it comes to investing, it can detour you from arriving at your financial destination.

Repeat after me: You are a long-term investor.

Investing with a Big Picture Perspective

Tue, 27 Jul 2010 09:32:35 -0500

An ancient parable tells of three blind men who encounter an elephant along the road. One touches the pachyderm’s belly and declares the obstacle to be a wall. The second man touches its leg and argues it’s more of a pillar. The third man grasps the tail and says, “Why, it’s a rope.”

Making investment decisions in reaction to particular current events is a lot like trying to identify an elephant through a single touch. The facts may be accurate, but they can still mislead you in reaching the right conclusion.

Jumbo-sized financial crises happen. Whenever they do, investors tend to become jittery, especially as we’ve grown highly sensitive to the noise generated by all the recent market volatility. That’s why I feel that one of my most important duties as your investment advisor is to ensure that you are continuously armed with the defensive tools you need to fend off the kind of fear and emotions that are generated whenever apocalyptic headlines trumpet bad news. Because, I’m sorry, but it will happen again. Business cycles repeat themselves. The global economy swings up and down. Investment markets respond with adjustments ranging from incremental to enormous.

Throughout, you should maintain an investment strategy based on how markets have delivered their returns over time. As my client, you’ve probably heard these themes before, but it’s essential to keep them in plain sight.

In the long run, things are looking up. For at least the last 80 years, which is as far back as reliable data goes, our stock and fixed income (bond) markets have been in a steady long-term upward trend. Because a picture speaks a thousand words, I’m including a visual of that, below.

To capture long-term market growth, you must look past the short-term fluctuations. As you’ve witnessed yourself, steady, long-term growth does NOT mean constant growth. Bear in mind:

Periodic declines will occur, some minor and brief, some longer and more serious. While the serious declines have occurred about every five years on average, nobody has been able to predict precisely when or how long they might last, nor when it’s safe to “get back in the water.”
My recommended investment strategy thus focuses on the big picture: seeking to earn an investment rate necessary to reach your own well-planned financial goals.
To that end, it’s possible to design a diversified portfolio specific to your needs, which has the best chance of earning the investment rate of return you seek. But …
To capture the upward market trends and reach your investment goal, you must subject yourself to the declines. You must ride them out.

You are a long-term investor.

But what if our past guiding principles such as diversification and asset allocation are no longer right? Perhaps it’s human nature to fear that this crisis, this political climate, this time … it’s different. Let’s review why that is highly likely not the case and why we remain true to our existing strategy.

Market ingredients remain in place. First, I believe we will continue to experience a steady upward economic trend over time, because all the necessary ingredients remain in place. Crises may come and go, but the constants remain: capital, resources, skilled labor, functioning legal and governmental systems, and the freedom and innate human drive to improve ourselves. In the U.S. and in more countries as time passes, these pieces of a stable economy are in place, bringing us and our loved ones financial and personal satisfaction.

Political climates come and go. Still, I’ve had quite a few conversations with clients this year about whether the U.S. is moving in a direction that might stifle future growth. Perhaps because our perspective of current government policy is large and looming, it’s easy to lose sight of the reality that there have been many examples of similar government interventions in the past. To cite just a few:

During World War I, President Woodrow Wilson had the federal government assume control over the entire railroad industry for more than two years.
In the 1930s, the Roosevelt administration established government-funded power plants in direct competition with private producers.
Not to pick solely on Democrats, you may recall Republican President Nixon’s price and wage controls.

Somehow, our stock market has survived all of these events and many others. So have the markets in countries whose governments have been even more interventionist than our own — such as Sweden, whose market has returned 12.8 percent annualized returns since 1970, compared to U.S. annualized returns of 9.1 percent during the same period.

I’m not suggesting that government policies have zero impact on market returns, but when you analyze the entire elephant, so to speak, the data clearly indicates that government policy has been a relatively minor part among the overall body of influencing factors.

To capture market returns, you must stay invested in the market. Yes, markets must be expected to periodically decline. But it’s relevant today to view past declines in hindsight. The subsequent bull markets have lasted longer than the bear markets, and delivered gains that were disproportionately greater than the bear market losses. Looking back at the 13 bear markets since World War II, we are 13 for 13 on that count. We are 47 for 47 if you go back to the founding of our country.

At the same time, the precise timing of both declines and subsequent recoveries has always been an unknown. Consider recent events, when the CEOs of Lehman Brothers and Bear Sterns didn’t see it coming. They personally lost $1 billion between them and they were in the middle of it. Alan Greenspan didn’t see it coming, despite his access to economic wisdom, the best and brightest advisors and the most sophisticated modeling techniques. Bottom line, there are just too many economic variables at play to be able to predict the outcome of each day in the life of the market.

We see no reason to expect the next decline and recovery cycles to be any different, which is why it’s essential to remain invested for when the recovery occurs. If you can maintain this perspective, you will better fend off any fear caused the next time the markets decline and the news media is proclaiming the next end of the world as we know it. Just remember that:

The long-term market trend is upward, despite continuous upsets along the way.
The markets and economy can be expected to eventually right themselves — often dramatically and almost always without any warning.
When the unpredictable recovery does occur, you’d better be there for it if you want to stay on track.

Repeat after me: You are a long-term investor.

Comment on This Week's Market Volatility

Tue, 27 Jul 2010 09:45:28 -0500

As long-term clients know I rarely comment on market activity at any given time. What markets do over the short-term is irrelevant to my client’s long-term goals. We are not going to change our plan due to market fluctuation. The only reason to modify a plan is if goals or financial circumstances change.

Next week I hope to release my 2^nd in a series of articles entitled the “Bear Market Survival Kit”. The point of this series is to help you stomach the inherent market volatility and our apocalyptic news media by providing perspective and education. Since the markets are not cooperating by waiting for my series to be completed I felt I would provide this quick pick-me-up.

I am aware that for some of you nerves are still frayed from the 2008 market crash. If this week’s downturn is bringing back any of those fears then I suggest you take a breath and step back from the situation to take a look at the bigger picture. Bottom line is our economy is still on the path of returning to health. For example, it was announced yesterday that 290,000 new jobs were created in April. The recent trouble in the markets is concern about the ability of Greece, Portugal and Spain to repay their debt. You may recall that a similar situation occurred back in Jan when the market fell 8% after news broke that Dubai would not be able to repay its debt. If you do not recall this I suggest you won’t recall this Greece situation 4 months from now either. Back in January everything was sorted out and the market ran back up. I’m not trying to belittle this situation and I am not saying that the market won’t fall further in the near term. It may or it may not. This is unknowable. But over the long term I wouldn’t worry about the US or overall world economies or the markets.

Here are a couple articles to give you a larger perspective on things. It’s always best to stick your head up out of the weeds once in a while to see which direction you’re heading. First is a listing and explanation in Wikipedia of all of the recessions we’ve experienced in the US since 1790. There have been 47 recessions. I’m sure you don’t believe that this Greek debt “crisis” (yes, the news media has a new crisis to trumpet) is going to be the catalyst that causes our economy to topple permanently. Our economy has bounced back the last 47 times in a row. It will continue to bounce back this time as well. If you do have the belief that this isn’t the “fall of Rome” then you must believe we will survive this recession and eventually get back on track. Just keep reminding yourself this: market and economic declines are temporary, the permanent trend is UP.

History of US Recessions

The second article is a very big step back from the current situation and argues that this century, like the twentieth, can be an American one. It’s a March Time Magazine article called “The Next American Century” by Andres Martinez of the New America Foundation. Martinez finds that “times of economic dislocation only accentuate America’s competitive advantage – its nimbleness and adaptability”, and that “The dollar’s status as the world’s reserve currency has only been bolstered as the Greek debt crisis…”

The Next American Century

My last piece of advice on how to weather today’s market sentiment is to not watch CNBC. I’m serious. That channel is for short-term traders. You don’t care what they say on that show because they are giving advice on how to supposedly outsmart the market in the short term. First of all, you can’t outsmart the market in the short-term on a regular basis. But most importantly your plan is long-term so nothing they say is relevant or helpful to your personal financial planning, regardless of how well reasoned their arguments. Let all the short-term timers fight it out every day. You remain a passive long-term investor and simply capture the net result of all their buying and selling. Over time the market will continue on its permanent upward path and you will be along for the ride.

Ways to Analyze Charities and Give Smarter

Tue, 27 Jul 2010 10:43:43 -0500

Despite the recession, Americans haven’t shut down much of their charitable giving. According to the Giving USA Foundation, U.S. charitable giving stood at $307.65 billion in 2008, down only 2 percent from the previous year.

This year may not be an exception given the outpouring after the Haitian earthquake. But if you’re going to give, give smart. It makes sense to develop a long-term giving strategy that dovetails with your current finances, your estate-planning strategy and your values.

A visit with a qualified financial and tax adviser is a good first step in the giving process no matter what your age or assets. It’s important to view this process the way you would examine any investment – with solid research and an open ear to advice.

Here are ways to research and give to nonprofits and charities:

Go online: More than ever, the Internet is a great starting point for investigating various charities. Among them: www.Guidestar.org, www.Charitynavigator.org, www.Charitywatch.org and www.Give.org are search engines that give detailed overviews of various charities, but they also help you identify nonprofits that work within specific causes and subject areas. A foundation called Philanthropedia not only rates various nonprofits but allows visitors to make direct donations through the site. If your charity is not on the Internet, request a copy of their Form 990, the form the Internal Revenue Service requests from all nonprofits. The IRS did an overhaul of the form in 2007 to request more information on governance. While the forms are detailed and sometimes tough for neophytes to understand, it’s not a bad idea to keep the information on file as you discuss the material with your advisers.

Figure out if you’ll need income from your gift: There are ways to draw income from donations. Your financial adviser can work with an attorney and CPA help you in understanding the following options:

Charitable gift annuities allow a donor and a charity to enter into an annuity agreement that will allow payments back to the donor that may be partially or all tax free;
Charitable remainder trusts allow someone to donate cash or appreciated property to a trust that can sell the appreciated property and distribute proceeds to the donor on a tax-advantaged basis;
Life estate agreements let someone with a home or farm to keep living there while they receive a tax deduction for the gift. When they die, there may be savings in probate costs and estate taxes.
Pooled income funds are now offered by established mutual fund companies and allow you to deposit money now for distribution to charity in the future while allowing you to receive tax-advantaged income.

Consider making a major direct donation if the charity or foundation will accept it: If you know of a foundation or charity that you want to support, research it first and then see what its policies are toward accepting donations of cash, stock or property. Not all foundations accept such gifts from the general public.

May 2010 — This column is produced by the Financial Planning Association, the membership organization for the financial planning community, and is provided by John A. Frisch, CPA/PFS, CFP , a local member of FPA.

New Medicare Tax for High Income Individuals

Tue, 27 Jul 2010 10:10:11 -0500

The recently enacted health-care reform legislation includes new Medicare-related taxes. These new taxes take effect in 2013, and target high-income individuals and families. While additional details and clarifications will become available between now and 2013, here's what you need to know.

New additional Medicare payroll tax

If you receive a paycheck, you probably have some familiarity with the Federal Insurance Contributions Act (FICA) employment tax; at the very least, you've probably seen the tax deducted on your paystub. The old age, survivors, and disability insurance (“OASDI”) portion of this FICA tax is equal to 6.2% of covered wages (up to $106,800 in 2010). The hospital insurance or HI portion of the tax (commonly referred to as the Medicare payroll tax) is equal to 1.45% of covered wages, and is not subject to a wage cap. FICA tax is assessed on both employers and employees (that is, an employer is subject to the 6.2% OASDI tax and the 1.45% HI tax, and each employee is subject to the 6.2% OASDI tax and the 1.45% HI tax on wages as well), with employers responsible for collecting and remitting the employees' portions of the tax.

Self-employed individuals are responsible for paying an amount equivalent to the combined employer and employee rates on net self-employment income (12.4% OASDI tax on net self-employment income up to the taxable wage base, and 2.9% HI tax on all net self-employment income), but are able to take a deduction for one-half of self-employment taxes paid.

Beginning in 2013, the new health reform legislation increases the hospital insurance (HI) tax on high-wage individuals by 0.9% (to 2.35%). Who's subject to the additional tax? If you're married and file a joint federal income tax return, the additional HI tax will apply to the extent that the combined wages of you and your spouse exceed $250,000. If you're married but file a separate return, the additional tax will apply to wages that exceed $125,000. For everyone else, the threshold is $200,000 of wages. So, in 2013, a single individual with wages of $230,000 will owe HI tax at a rate of 1.45% on the first $200,000 of wages, and HI tax at a rate of 2.35% on the remaining $30,000 of wages for the year.

Employers will be responsible for collecting and remitting the additional tax on wages that exceed $200,000. (Employers will not factor in the wages of a married employee's spouse.) You'll be responsible for the additional tax if the amount withheld from your wages is insufficient. The employer portion of the HI tax remains unchanged (at 1.45%).

If you're self-employed, the additional 0.9% tax applies to self-employment income that exceeds the dollar amounts above (reduced, though, by any wages subject to FICA tax). If you're self-employed, you won't be able to deduct any portion of the additional tax.

New Medicare contribution tax on unearned income

Beginning in 2013, a new 3.8% Medicare contribution tax will be imposed on the unearned income of high-income individuals (the new tax is also imposed on estates and trusts, although slightly different rules apply). The tax is equal to 3.8% of the lesser of:

Your net investment income (generally, net income from interest, dividends, annuities, royalties and rents, and capital gains, as well as income from a business that is considered a passive activity or a business that trades financial instruments or commodities), or
Your modified adjusted gross income (basically, your adjusted gross income increased by any foreign earned income exclusion) that exceeds $200,000 ($250,000 if married filing a joint federal income tax return, $125,000 if married filing a separate return).

So, effectively, you're only subject to the additional 3.8% tax if your adjusted gross income exceeds the dollar thresholds listed above. It's worth noting that interest on tax-exempt bonds, veterans' benefits, and excluded gain from the sale of a principal residence that are excluded from gross income are not considered net investment income for purposes of the additional tax. Qualified retirement plan and IRA distributions are also not considered investment income.

Together, these two new Medicare-related taxes are expected to provide a major source of revenue to finance other parts of health-care reform. The Joint Committee on Taxation projects that the combined revenue attributable to these two new taxes will exceed $210 billion over the ten-year period ending in 2019 (Source: Joint Committee on Taxation, Publication JCX-17-10, March 20, 2010).

Financial PrePlanning During Marriage

Tue, 27 Jul 2010 08:53:02 -0500

By FPA Member John A. Frisch, CPA/PFS, CFP®

Every year in the U.S., over a million women lose their husbands and find themselves widowed. According to the U.S. Census Bureau, there were 11.4 million widows in the United States at the end of 2009.¹

Each widow's circumstances is very different from the next, but almost all widows experience a dimension of grief invading their lives, clouding the decision-making capabilities of even the sharpest among us. That's why one of the greatest gifts a husband can share with his wife is to pre-plan with her. While they are together, couples should pre-arrange a financial plan that will survive the husband's death. The plan will be on auto-pilot, relieving the widow of a significant amount of additional stress during her grieving period. Also a financial support team can be put in place to see to the details that need to be addressed post-death.

Grief and Early Bereavement

Widows attempting to make vital financial decisions are highly likely to find the process exponentially more challenging than it is during happier times. Grief adds an extra layer of complexity to an already challenging process. Emotions can run the gamut, from fear, loneliness and confusion to guilt, even anger. Little wonder that grief can interfere with sound decision-making!

We've identified three phases during the journey from widowhood to "selfhood" (Widow to Widow author Genevieve Davis Ginsburg's eloquent term for the process): a period of initial shock and fog; a period of reclamation; and a third, optional period of regeneration.²

Here, we focus on the first period of shock and fog. Shock is different than grief, which is defined by therapists as a specific type of cognitive dysfunction. In English, that means we can't think straight when we're grieving. Shock is not a dysfunction. In fact, it may be nature's way of helping us continue to function at a basic level, even if we don't remember anything we say or do. A widow may go about her daily activities and appear to be calm and collected, but she is often in a deep — some might say a protective — fog, with little or no lasting memory of the events.

In light of early bereavement shock, the period immediately following the loss of a spouse is usually the worst time for making financial, legal and other planning-level kinds of decisions that could impact her and her family for years to come.

And yet, decisions large and small, familiar and foreign, crowd a widow's life. Certain events and decisions must take place at this time. Clearly, funeral arrangements cannot wait. A death certificate must be obtained; family, friends, business and social associates must be contacted and various levels of government notified. Credit cards should be cancelled, joint assets re-titled, insurance policies examined, outstanding bill payments arranged, and so on.

Pre-Planning: A Pound of Prevention

Pre-planning prior to widowhood plays a critical role in mitigating many of the above challenges. In fact, the plans most effective during the shock of early widowhood and the subsequent grieving period are those crafted by the husband and wife together, well in advance:

Pre-planning can significantly reduce stress and anxiety during crisis periods.
It ensures that decisions are made within a relaxed timeframe, when the family can contemplate their plans in a rational mindset instead of in panicked reaction.
The husband and wife are still a team. They can listen to and support each other in the decisions made, and share preferences under various "what if?" scenarios.
Pre-planning can render stronger legal documents that clearly define the family's wishes.

Planning involves various types of expertise, preferably orchestrated in a coordinated manner to avoid redundant, missing or conflicting directives. A wealth advisor or seasoned financial planner can coordinate moving parts, including funeral arrangements, investment, tax and risk management, estate planning and family business operations. He or she can coordinate the efforts of a team of specialists such as funeral directors, Certified Public Accountants (CPAs), attorneys, insurance specialists and company executives.

Thus, one of the greatest gifts one spouse can leave the other is the gift of freedom from fear of financial concerns. Couples should work together in life with their trusted advisors to put a plan in place that survives beyond the point that death do they part.

Related Resources:

FPA member John A. Frisch, CPA/PFS, CFP® is Founder and President of Alliant Wealth Advisors with 25 years of experience in the industry. Alliant Wealth Advisors focuses on helping families find financial peace of mind.

This article originally appeared on the FPA’s Web site, and is reprinted with permission.

Summary of New Healthcare Reform Law

Tue, 27 Jul 2010 10:54:46 -0500

Recently, two pieces of legislation, the Patient Protection and Affordable Care Act and the Health Care and Education Reconciliation Act of 2010 were signed into law. Together, these pieces of legislation make the most significant reform to health care in the United States since the enactment of Medicare. The Congressional Budget Office estimates that by 2019, approximately 32 million currently uninsured Americans will have health insurance, at a cost of about $940 billion. A major component of the reform legislation is the creation of state-based American Health Benefit Exchanges and Small Business Health Options Program Exchanges to provide health insurance for low-income individuals and small businesses. The following is a brief description of some of the most important provisions of the health care reform legislation.

For individuals

U.S. citizens and legal residents will be required to have health insurance by 2014, with some exceptions. Those without insurance will face a tax penalty of as much as 2.5% of taxable income.
Existing employer-sponsored health insurance plans will be allowed to remain essentially the same except the plans will be required to extend dependent coverage to qualifying children through age 26, lifetime limits (and eventually, annual dollar limits) on coverage must be eliminated, waiting periods for coverage cannot extend beyond 90 days, and insurers will not be able to deny coverage or charge higher premiums to people based on their health status and gender.
Medicaid eligibility will be expanded to include individuals under age 65 whose income is less than 133% of the Federal Poverty Level.
For families with incomes up to 400% of the Federal Poverty Level, tax credits and subsidies will be available to purchase health insurance through state-run exchanges, and to offset out-of-pocket costs.
Contributions to a health flexible spending account will be limited to $2,500 per year. Reimbursements from health FSAs and HRAs for over-the-counter drugs will be restricted, and tax-free reimbursements from HSAs and Archer MSAs for over-the-counter drugs will not be allowed, while the tax on HSAs and Archer MSAs increases for distributions not used for qualified medical expenses.
A rebate of $250 will be available to Medicare Part D (drug coverage) beneficiaries who reach the coverage gap (donut hole) and the coinsurance rate for costs within this gap are gradually reduced to 25%.
Adults with pre-existing conditions will be able to purchase coverage from temporary high-risk pools until 2014, when coverage cannot otherwise be denied for pre-existing conditions.
A national program will be established to provide limited reimbursement for long-term care expenses for individuals who participate by contributing to the program's cost through voluntary payroll deductions.

For employers

Employers with 50 or more employees that do not offer health insurance coverage will generally have to pay a premium tax of up to $2,000 per full-time employee.
Employers with more than 200 employees must automatically enroll employees in health insurance plans from which employees may opt out.
Employers providing health insurance must offer a voucher to qualifying employees to purchase insurance through an exchange.
Qualifying small employers may receive a tax credit for providing health insurance to employees.

Tax changes

The threshold for itemized deductions for qualified medical expenses will be increased from 7.5% of adjusted gross income (AGI) to 10% of AGI, though a temporary exception will be maintained for those 65 and older.
The tax for Medicare Part A (hospitalization coverage) is increased 0.9% for individuals with earnings exceeding $200,000, and for couples with joint earnings greater than $250,000. Also, high-income taxpayers will be subject to a surtax of 3.8% on unearned income, such as capital gains, dividends, annuities, and rental income.
The law imposes a 10% tax on the amount paid for indoor tanning services.

Some of these provisions are effective immediately while others will be implemented over the next several years. Consult with your financial professional to see how these laws may affect you.

Overhaul of Federal Student Loan Program

Tue, 27 Jul 2010 11:06:06 -0500

With the nuances of health care reform getting all the attention, you may be surprised to learn that the recently passed health care legislation—the Patient Protection and Affordable Care Act of 2010, as amended by the Health Care and Education Reconciliation Act of 2010—includes several provisions related to college. The most noteworthy of these provisions involve:

The distribution of federal student loans
Pell Grants
Income based repayment for federal student loans

The Distribution of Federal Student Loans

Currently, there are two ways to obtain a federal student loan—borrow directly from the federal government under the William D. Ford Federal Direct Loan (“Direct Loan”) program or borrow from a private lender who participates in the Federal Family Education Loan (FFEL) program. The FFEL program has been in existence since 1965 (the Direct Loan program since 1994), and private lenders in the FFEL program receive government subsidies to encourage them to loan money to students.

Under the new legislation, private lenders will no longer receive government subsidies to make federal student loans, and the FFEL program will be eliminated. Starting July 1, 2010, all federal student loans will be made directly from the federal government to borrowers under the Direct Loan program.

Generally, student borrowers shouldn't notice much of a difference with this change. If anything, the new system should be simpler and less confusing, because borrowers won't have to "shop around" for a private lender to obtain their federal student loans.

Parents who wish to take out a federal PLUS Loan might find themselves better off because the interest rate on a federal PLUS Loan obtained through the Direct Loan program is capped at 7.9%, compared to the interest rate on a federal PLUS Loan obtained through the FFEL program, which is capped at 8.5%.

Pell Grants

The Pell Grant is the federal government’s largest financial aid grant program. It is available to undergraduate students with exceptional financial need (typically students from families who earn less than about $45,000 per year). Graduate students aren’t eligible.

The new legislation provides for automatic annual inflation-adjusted increases to the Pell Grant beginning in 2013. For the current academic year 2009/2010 (which runs from July 1, 2009, through June 30, 2010), the maximum Pell Grant is $5,350. It is scheduled to increase to $5,550 in 2010/2011, and will remain at that level for the following two years. It will then increase by the rate of inflation (via the consumer price index) in each of the next five years, reaching approximately $5,900 in 2019/2020.

Income Based Repayment

On July 1, 2009, the federal government's new Income Based Repayment (IBR) program went into effect. The IBR program was created to help college graduates manage their increasingly large student loan payment obligations. Under the program, a borrower’s monthly student loan payment is calculated based on income and family size. A borrower is allowed to pay 15% of his or her discretionary income to student loan payments, with any remaining debt forgiven after 25 years. The program is open to graduates with a federal Stafford Loan, Graduate PLUS Loan, or Consolidation Loan made under either the Direct Loan program or the FFEL program.

The new legislation enhances the IBR program. Under the legislation, borrowers who take out new federal student loans after July 1, 2014, will pay 10% of their discretionary income to student loan payments, with any remaining debt forgiven after 20 years.

One Year Later: Why We Do (Did) Not Sell During a Bear Market

Tue, 27 Jul 2010 11:09:05 -0500

As I draft this letter, the S&P 500 Index (which represents about 75 percent of the overall U.S. stock market capitalization), stands at 1120. A year ago today, I sent my clients the enclosed letter, “Why We Do Not Sell During a Bear Market.” Talking about interesting timing. Two days later, as clients received my letter, the S&P 500 dropped to 667, which turned out to be its bottom in the bear market now considered passed. The year’s difference between 667 and 1120 is a 68% increase.

Now, before anyone interprets my comment as a claim to having cleverly predicted the market bottom, let me be very clear. When I dropped that letter in the mail, I had no idea when the market would turn around. I would hate to tempt fate into serving up another bear market to punish any such hubris.

Although I did not know when the markets would turn around, I had total confidence that:

They would turn around eventually.
It would probably happen when least expected. Like chief investment strategist Jeremy Grantham has said, “The market does not turn when it sees light at the end of the tunnel. It turns when all looks black, but just a subtle shade less black than the day before.”
It would most likely follow the trend of the last seven bear markets since 1960; it would be very fast and powerful.

As I stated in last year’s letter, the only way I know to participate in the run-up is to remain in the market, so you’re ready when it starts. Since we can’t know when this is going to be, we just hold tight and wait out the bear market.

The following table was also in last year’s letter. I’ve updated it here to include the decline during our most recent bear market, as well as the Dow Jones Industrial Average (DJIA) performance one year later.

Bear Markets and Their Aftermaths

Period	Market Decline	DJIA Change 1 Year After Decline	DJIA Change 2 Years After Decline (cumulative)
Dec 1961 – June 1962	(27.1%)	32.3%	55.1%
Feb 1966 – May 1970	(36.6%)	43.6%	53.9%
Jan 1973 – Dec 1974	(45.1%)	42.2%	66.5%
Sep 1976 – Feb 1978	(26.9%)	9%	15.1%
Aug 1987 – Oct 1987	(36.1%)	22.9%	54.3%
July 1990 – Oct 1990	(21.2%)	26.2%	32.6%
Jan 2000 – Mar 2003	(35.8%)	34.6%	43.2%
Average	(32.7%)	29.4%	45.8%
Oct 2007 – Mar 6 2009	(55.9%)	68.0%	To be determined

Source: West Coast Asset Management (except most recent bear market which is from Alliant Wealth Advisors).

The reason I have repeated the table above and included last year’s letter for your reference is to take this opportunity to reinforce what history has demonstrated many times over: The worse the bear market, the more powerful the recovery tends to be.

You just lived through one of the most violent periods in stock market history. To you this concept hits so real and so close to home that you almost don’t need a chart to show you long-ago stock market returns and recoveries. This is important because, I hate to “bear” the bad news, but many of us are likely to live to see another bear market. Our children will probably see one as well, and may not take to heart what we’ve just lived through.

When the next one happens, it will be helpful to remember what occurred this time (and relate what you remember to your children who won’t have the personal hindsight that you do). Remember and remind that any future bear markets are highly likely to follow the same patterns as those of the past. This should help you withstand the panic-inducing, popular media predictions which will, once again, forecast the end of the world.

Why should you tolerate stock market volatility to begin with? Because without volatility, there is no expected risk premium, which is necessary to generate higher long-term investment returns then you can get from less volatile investments. Depending on your financial goals, accepting at least some equity risk/return is necessary, so you can withstand an almost certain risk to your wealth: the long-term erosion that inflation has on your purchasing power. That’s another subject, though, which we’ll save for another letter.

While searching for the Jeremy Grantham quote above, I came across some other interesting quotes in my collection. I’ve shared these before in other letters, but I thought you might enjoy revisiting them here, as your reward for reading all the way to the end.

Why We Do Not Sell During a Bear Market

Tue, 27 Jul 2010 11:21:23 -0500

As you are well aware 2009 has seen the investment markets continue the decline begun in October 2007. In this writing I would like to address for you why I do not suggest we sell and go to cash even though the market seems to go down every day and the economic news just gets worse.

If I were omniscient I might know that the market was going to continue to decline. So I would sell everyone’s investments, go to cash, watch the market continue to fall, and then swoop back into investments once I knew the market was about to rebound. But note that (a) I am not omniscient and (b) two separate decisions have to be made correctly in an effort to realize this scenario. The first question is when do we sell? Well I suspect you’ll agree that it feels like we should be selling right now. It does appear that the economy will get worse before it starts to improve and that stocks will continue to decline. Our Fed Chairman Ben Bernanke said last week that the economic recovery is not expected until 2010. Well let’s assume that’s the easy decision and that we sell today and go to cash. Now assume that tomorrow it looks like the right call because the market continues it descent.

But we must also discuss the challenge involved in buying back into the market. It is very unlikely we would buy in at a level lower then we got out. The reason for this is that if the market is continuing to fall, things are looking even worse then they do today. If we got scared out at DOW level X we are not likely to be happy about buying back in when things look worse. We are trying to avoid buying when the market may continue to fall so we would only buy back in when the future looks bright.

But the problem with this is that “the future looks bright” is only realized in hindsight. Frequently the end of a recession is officially called many months after the fact. In the meantime, it is very likely that there will be false market run ups, bear market rallies they are called. These bear market rallies can easily entice us back into the market only to realize later the rally would not be permanent. Imagine if we buy in during a run up that is ultimately a simple head fake and we end up buying high just before another ride down.

So before we can ‘comfortably’ buy back in, we would need to let the market run up for a while. The problem here is that following a bear market investments tend to run up very fast. To know why, we need to understand the term “Market Capitulation.” For the market to bottom during a bear market there needs to be “capitulation.” This is basically where all investors who are considering selling throw in the towel and give up. This is usually when things look the darkest. There is heavy trading volume and things are very scary. Once the sellers are gone it is easy for the market to rebound. Market Capitulation is something that is identified after the fact.

During the bear market cash builds up waiting to reenter the market (this is happening now in a big way). Once it begins to look like investments have bottomed some cash will reenter the market. Since most sellers are gone, a small amount of buyers can move the market up fast. Once the market starts to move other buyers will come back and before you know it, there is a feeding frenzy. The market will frequently be very volatile, but to the upside.

I would assign my ability to get you back in early in this process as slim to none. More likely, understanding the importance of getting in early, I could succumb to a head fake and buy in at the wrong time. If we go back in higher then we got out that difference can never be made up.

Period	Market Decline	DJIA Change 1 Year After Decline	DJIA Change 2 Years After Decline (cumulative)
Dec 1961 – June 1962	(27.1%)	32.3%	55.1%
Feb 1966 – May 1970	(36.6%)	43.6%	53.9%
Jan 1973 – Dec 1974	(45.1%)	42.2%	66.5%
Sep 1976 – Feb 1978	(26.9%)	9%	15.1%
Aug 1987 – Oct 1987	(36.1%)	22.9%	54.3%
July 1990 – Oct 1990	(21.2%)	26.2%	32.6%
Jan 2000 – Mar 2003	(35.8%)	34.6%	43.2%
Average	(32.7%)	29.4%	45.8%
Oct 2007 – Feb 2009	(51.0%)	?	?

Source: West Coast Asset Management.

What makes market timing impossible is due to what trader and philosopher Nassim Nicholas Taleb calls “black swans” – events that are hugely important, rare, unpredictable, and explicable only after the fact. See enclosed article “Why Market Forecasts Keep Missing the Mark.” We may get scared out of the market today then the next day the Federal Government releases a solid plan to get banks back on track and the market could be up 10% that day. Or in April companies report earnings higher then expected and the market is off to the races, without us. Or consumers increase spending (as was announced today for January although it didn’t help much this time, next time it could be a catalyst).

Lastly, and this is likely the most important thing I would like you to remember, the long-term market investment performance has always been positive despite occasional deep declines such as we are experiencing today. The farther the market falls now from its historical upward trend line the faster it will likely recover. I was reading today that one money manager claims that based on his yadda yadda analysis (I’m not making fun of his analysis, I just don’t feel like explaining it and the enclosed article should make you leery of anyone’s analysis) the market may fall another 20%. But, and here’s the thing, if it does fall another 20% his analysis would then expect the stock market to return 14 – 17% per year over the next decade to catch up. Should we stop our decline here, the market would be expected to increase 9% - 11%. This is just a fancy way of saying the more we go down the more we’ll go up later. So keep in mind that the markets overreact but ultimately regress back to their long-term trend, which is up.

I completely understand that it is nerve wracking to watch your investments decline. But you are diversified over thousands of securities all over the world. Along the way some companies you own will, in fact, go under. But many of the rest are simply becoming undervalued. As the economy recovers you can be assured of owning the survivors, and future market leaders, and participating in the ensuring market run up.

So in summary; the reason I do not move you to cash despite all the doom and gloom predications is that I do not know when there will be some “Black Swan” that will move the market up quickly. If I were to sell, you should accept that I am unlikely to buy you in later at a lower price because the lower price indicates fundamentals have only gotten worse. The economy will only be scarier. The world will look that much closer to the end. We would instead stay out of the markets until it is “safe”. But by the time it is safe to invest, the market will have run up without us. The reality is that there is a real likelihood of getting in at a higher price then we go out at. This difference can never be recaptured. It is a permanent loss that will affect your future standard of living. The only way I know to ensure we catch 100% of the next expansion is to be there when it starts, not sitting in cash. The only way I know how to ensure you capture long-term market returns is to be in the market. Not get in and out and back in again.

Lastly, if it helps, I am not any happier that the markets have declined then you are. But I know the decline is temporary. Try to accept this and try not to get caught up in world-is-coming-to-an-end predictions screaming at you from the TV. The world isn’t coming to an end.

I would love to tell you that the decline will end soon. But I don’t know. I do know that investment markets and the economy are decoupled over short periods of time so that the market can start its run up many months before the economy is back to full health. Investors just need confidence the end is in sight and the buyers will return.

I’ve enclosed some charts that show investment performance during contractions and expansions and during recessions, the dangers of market timing, and also the WSJ article.

Do not hesitate to call and discuss your account. I am always happy to hear from you.

Bear Market Survival Kit Series Introduction

Tue, 27 Jul 2010 11:14:06 -0500

One of my primary responsibilities as your advisor is to keep you from making impulsive changes to your investment plan during a bear (or bull) market. Unless changes are warranted by your unique personal financial circumstances, I consider helping you stick to your original plans as vital as any other service I provide. Maybe more so, for if you do not stay the course, the rest is unlikely to do you much good.

Bear markets are inevitable. We know they will happen. We’ve already built them into your investment plan. But historical evidence is that, after bear markets, things eventually get back on track. That’s why one of the main ways to botch up your expected returns is to panic — sell and miss the major run-up that follows. My simple conviction is that the market’s permanent trend is upward. I also accept that it will have temporary downward corrections, sometimes long and severe, with unknowable timing. To capture the market’s rewarding long-term trend, we must stay put as it goes down, so we’re in when it goes back up.

Although the U.S. stock market is up for the year to date (as of March 4), it had a rough start. In mid-February, I noticed that my “index” of anxious client calls spiked upward. It is clear to me that nerves are still raw from the monumental market crash we just survived. So, while the markets are relatively stable, I’d like to share with you some resources you can apply the next time we have a bear market. It may not eliminate the stress, but hopefully it’ll make it easier to withstand.

I plan to send you a series of letters during the next several months. Each will deal with an investment concept that, should you take it to heart, will help you weather the next storm. The enclosed letter is the first in this series. It follows up on my March 2009 client letter, as a reflection on lessons learned from this past year. Enjoy them both, and please be in touch with your questions and comments.

Health Insurance Reform in 2011

Fri, 21 Jan 2011 09:14:19 -0600

The Patient Protection and Affordable Care Act (PPACA), signed into law in 2010, makes significant changes to our health care delivery system. Some of these reforms took effect in 2010 while many others take place in 2011. The following is a brief description of some of the most important provisions of the health care reform legislation that take effect this year.

Individual and group health insurance plans are required to extend dependent coverage for adult children up to age 26. While this requirement was effective November 2010 for active employees, enrollment elections made during the 2011 open enrollment period will be effective on January 1, 2011.
The cost of over-the-counter drugs not prescribed by a doctor can no longer be reimbursed through a Health Reimbursement Account or a health Flexible Spending account, nor can these costs be reimbursed on a tax-free basis through a Health Savings Account or Archer Medical Savings Account. Also, the additional tax on distributions from health savings accounts or Archer MSAs that are not used for qualified medical expenses increases to 20%.
Medicare Part D participants will receive a 50% discount on brand-name prescriptions filled in the coverage gap (i.e., the donut hole) from pharmaceutical manufacturers, and federal subsidies for generic prescriptions filled in the coverage gap will start to be phased in.
Health plans that do not spend at least a minimum percentage of premiums (85% for plans in the large group market and 80% for plans in the individual or small group markets) on health care services must provide a rebate to consumers.
Certain preventive services covered by Medicare are no longer subject to cost-sharing (co-payments); the deductible is waived for Medicare-covered colorectal cancer screening tests; and Medicare now covers personalized prevention plans including a comprehensive health risk assessment.
High income ($85,000 for individuals, $170,000 for married filing jointly) enrollees in Medicare Part B and Part D coverage will likely see their premiums increase. The income thresholds used to determine Medicare Part B and Part D premiums for higher income individuals is frozen at 2010 income rates through 2019 and will not be adjusted for inflation. Also, the federal subsidy for high income Part D participants is reduced, resulting in increased premiums based on income levels that exceed the applicable threshold.
Medicare Advantage (MA) plans can no longer impose higher cost-sharing for some Medicare-covered benefits than would be imposed by traditional Medicare Parts A or B insurance. Also, Medicare Advantage plans cannot exceed a mandatory maximum out-of-pocket amount for Medicare Parts A and B services. The maximum amount in 2011 is $6,700, but MA plans can voluntarily offer lower out-of-pocket amounts. Also, the annual enrollment period for MA plans is changed to October 15 to December 7 each year beginning in 2011 for plan year 2012.
Community Living Assistance Services and Supports Program (CLASS) is to be established to provide national long-term care insurance funded by voluntary participant premiums that can be paid through payroll deductions.
The disclosure of the nutritional content of standard menu items offered through chain restaurants and vending machines is required.
The requirement that employers report the total value of employer-sponsored health benefits on employees' W-2s was to begin in 2011. However, the IRS has deferred this requirement for 2011 so employers will not be subject to penalties for failure to meet this requirement.

These changes may impact your health insurance benefits and costs. To learn more about health care reforms occurring in 2011, consult with your financial professional.