Your Money Matters More

The most wonderful time of the year!

It’s the most wonderful time of the year…for worrying about cash.  In the next few weeks I will be addressing healthy cash flow going into the New Year.  Credit management,budgeting, and taxation are the focus of this series to help achieve a robust financial picture so that this time next year you will be on better footing.

Few people appreciate the impact of cash flow management on their financial health. Good management reduces the need to borrow, which in return keeps unnecessary interest payments at bay. By having a budget, knowing what you are actually spending money on, allows you to better manage your cash flow.  There are products available for your computer, some on-line banking features and even apps that can simplify the process.

Going into December the strain of the season manifests itself in an artificial need to spend money.  A budget of the previous eleven months can be negated by one month of uncontrolled spending.  We have a tendency to rely heavily on credit, especially store cards.  The more cards used the more minimums there need to be hit to get those discounts or points.  Actually, it is all well and good to do this if you have set aside cash to pay them off in January, if not you are incurring major high percentage rate payments.

Credit cards can be tricky.  The fantastic zero percent offer quickly morphs into a huge rate after the fixed period of time elapses.  Keeping an eye on the clock or in this case calendar is beneficial if you are prudently paying off the card before the rate jump. Stores, for example, often offer a discount if purchases are made on their cards, but it isn’t a true savings unless they are kept paid off interest free. Cash back options are frequently a moving target offering differing amounts on different types of purchases.  Let’s say you are getting one rate on fuel and another for grocery purchases make sure that t you are aware of this and use the card to your advantage.  Don’t rack up invisible savings that you aren’t actually taking advantage of.

These cards may also come with a bonus that has an expiration date.  If you are counting on this bonus as a reduction in the cost of future purchases, you have to make a point of using the bonus before it is no longer valid.  If you don’t it isn’t a bonus at all.

The discounts are attractive on the surface.  Retailers are not naive, they encourage you to use those cards to get the discounts, but a 10 - 20 % discount is recouped by the 21-27% you will pay if it not paid off in the January.  Not only have you purchased extra goods, but you are paying more for them than you think.  Do the math...if you had a 10% discount, but are paying it off at a 27% interest rate you would have saved by paying full retail. 

Concentrate your purchases on your lowest interest rate card.  Buy only what you can pay off, use cash when possible, and as you pay them off, pay the highest rated card first.  Prudence isn’t Scrooge’s first cousin; you can still be thought in giving, while at the same time making wise decisions about spending.

The series will continue with a look at ways to budget going forward to ensure a prosperous New Year.

 

From the Prospero Financial Planning Family to your family, Happy Holidays.

Children are Expensive

 Children are expensive. That is a given: but the cost of higher education is growing at an unprecedented rate. A 529 Plan, a type of college savings fund, is a tax free way to accumulate money for college expenses. After the birth of a child, begin to put money away for college. The owner of the account can contribute for a named beneficiary. If for some reason the beneficiary chooses not to use it the owner can transfer it later to a different student. 

There are a wide selection of plans available. Each State has its own plan with some offering more than one, and an investor can choose from any of these. Each state provides its own residents additional incentives, but these tax incentives should be subordinate to the underlying returns of the investments of the plan. Always seek the advice of a Certified Financial Planner (CFP) when selecting a plan. 

Recent graduates have left college with a crushing debt load. An alternative to this is paying out of pocket. Making wise investments early allows compounding of returns to work for you. This is just one of the tools that your CFP has in their arsenal.  

Financial Rules of Thumb

I have relied on general rules of thumb for the financial well being of clients.

Financial security results by adhering to basic principles:

Controlling Debt
    o Not exceeding 20% of your net worth (excluding the mortgage and net equity in the home)

Housing Costs
    o should not exceed 28% of your net income
    o includes all the expenses related to your house

Emergency Fund
    o Represents three to six months living expenses
    o Should be liquid and not volatile
This would include your money markets, short-term bond funds, and other cash equivalents.

Retirement Funding
    o Contribute 6% on a pretax basis to an IRA or a 401(k)
    o Or 8% funded on an after tax basis

Following these four steps should result in the accumulation of enough wealth to retire comfortably

If you would like more ideas contact.:

Charles T Shearman, CFP

Prospero Financial Planning
23 S 8th Street, Suite 3400
Noblesville, IN 46060
Work (317) 774-5136

www.prosperofp.com

 

Not Ready To Retire Yet?

 I was looking around my networking group and it seemed to be made up of a large group of people on their second or third careers due to company downsizing. They probably had a retirement plan, 403(b) for not-for-profit entities or 401(k) for any other entities, after leaving a previous employer.  They may be spending this to maintain their lifestyle and that's probably alright as long as that doesn't go on for very long. It is better to reduce your lifestyle then drain your retirement plans.  You not only don’t have the money for the retirement years you also don’t get the growth on that money that you withdraw from these accounts.   

Not only do you pay tax on the withdrawls but this can be doubly bad if you're paying tax penalties on an IRA or 401(k).  The IRS may charge a 10% premium to withdraw funds.  This is if you haven't reached the age of 59½.  There are several exceptions to the age 59½ rule. Even if individuals receive a distribution before they are age 59½, they may not have to pay the 10% additional tax if they receive a distribution from a retirement plan (other than an IRA) after leaving a job and are age 55 (age 50 for qualified public safety employees).  Or they are receiving a series of distributions in equal payments based on your life expectancy.  These are not the only exceptions but those most likely to apply.    

Another way to avoid the 10% penalty is to prove hardship. A retirement plan may (but is not required to) allow participants to receive hardship distributions. A distribution from a participant’s elective deferral account can only be made if the distribution is because of an immediate and heavy financial need, and limited to the amount necessary to satisfy that financial need.  

You should consult your tax Advisor before you undertake this.

Credit Card Interest Rates Rising - Is This Fair?

Should banks that are in receipt of TARP money be allowed to increase rates across the board, even though rates are not rising in other areas?  Isn’t this asking the consumer to pay twice since most of the borrowers who use these credit cards are the same ones paying taxes?

According to www.creditcards.com, the rates have increased on average a whole percentage point.  According to a recent article in the Wall Street Journal, one credit card company increased a man’s late fee from 7.9% to a whopping 29.4%, even though he had a history of always paying on time.  To support their decision, the credit card companies blame this on the change in the current risk environment.

An Additional Thought  - Check-Cashing Businesses

And what’s with all these check cashing places anyway?  I thought loan-sharking was illegal.  These places are getting 120% annualized just for cashing your check and extending you a loan.  Granted their risk of default is fairly high, but that’s the business model that they choose to pursue.  But watch out.  Sadly, many people are unaware of the amount of interest they are paying. 

Cost of Credit Card Debt: Which Card to Pay Off First?

My wife sat down last night to pay down some of our credit card debt, and she questioned me as to what ones to pay down first and the real cost of each.  This is a question I’ve been asked numerous times by young doctors who had a substantial number of school loans and large credit card debt.

What to Consider

The first thing to consider is the impact this has on your taxes.  In other words, can you deduct the interest or not? You need to determine what is and what isn’t deductible; then you can rank them in the order of debt pay-down.

• Deductible:  Mortgages and home equity loans. You have to apply your tax rate and reduce the amount you pay in interest by this amount.  For example, if you are in the 33% tax bracket, roughly a third of your interest is deductible.  So if you are paying 6% on a home equity line of credit, then in reality you are only paying 4% after tax.  This means you put this into a worksheet at 4%.
• Not Deductible:  Automobile loans and credit cards.These loans can be entered into the worksheet at the rate shown on your statement.
• Rank Debt According to Cost. Primarily, once you have translated everything into after-tax dollars, the second phase is to rank everything according to cost.
• Gradual Pay-Down of Debt. And the third phase is to whittle away with any extra dollars you have.  As you pay off debt, these dollars will grow until you are debt-free.

The Road to Success

To successfully begin credit card management and other debt management, you can pay these debts off in the order shown on your worksheet.  When you get done with one, move on to the next until it snowballs and your cash load builds. During this period and going forward, make every effort to pay cash for purchases when possible.

On the surface, this formula sounds simple.  Unfortunately, it’s very easy to put more debt on a card once it is paid down.  Obviously, this is not advisable.  It is also inadvisable to have debt transferred to a zero-interest credit card for reasons I stated in a previous credit card article.