Your Money Matters More

Retirement is Personal

Retirement is personal:  it can be an elusive goal or it can be a well -planned gift to yourself after a long career.  There are key milestones in this process. To avoid tax penalty waiting until you reach the age of fifty-nine and a half to take distributions from your qualified plan maximize your benefit. Contribute the maximum matched dollar value—the more the better—and keep it invested.  When you do reach fifty-nine and a half you have more options. Remember though, fifty-mine and a half is a number; retirement is a goal.

 

To avoid any penalty from a qualified plan your birthdays count. Once you are fifty-nine and a half, there is no longer a penalty to remove your money, but your money can still work for you if you leave it.  The penalty is considerable: it not only becomes taxable income, but there is an additional ten percent tax on the amount of the withdrawal. Conversely, if your money is not in a qualified plan these restrictions do not apply…you will have already paid tax each year as it accrued but you will have less to invest and you will have less accumulating tax defered. As always, talk to a Certified Financial Planner (CFP) before making any move.

Putting away the maximum dollar amount matched by your employer makes you less dependent on the rate of return as your investment accumulates funds. If you can add other moneys to this amount they too can grow tax deferred. The tax deferral allows you to accumulate money faster. For example if your 401(k) is being invested at the rate of $3,000 a year, you are not only saving the whole $3,000, but you are also compounding interest on that investment tax defered. If you are able to leave it until you are fifty-nine and a half, you will not pay tax until it is distributed.

Waiting until you are at the optimal age, you can take the entire amount or you can take any amount you need to live on and let the balance ride.  Determine with your CFP what supports your lifestyle. You can control your taxable income by controlling your distributions. The ability to combine your defined contribution plans gives you better economy of scale when it comes to selecting your investments, also.  

Although fifth-nine and a half is the point where penalties no longer occur, retiring later can have even greater benefit.  Your CFP can walk you through these options based on your personal financial standing. Begin planning as soon as possible to allow for the optimal benefit when using a defined contribution plan.  When the time is right—enjoy! 

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

 

Portfolio Construction

When developing a portfolio for the average investor the key points you need to consider are: time horizon, taxability, liquidity, risk and diversification. 

 

• The first thing you have to figure out is what time frame you are going to need the money.  The longer time you have before you need the money the more aggressive you can be.  Due to the time you have to ride out cycles of the stock market.  Saving for retirement is different than saving for the down payment for the purchase of a house.  You can invest for the long term if you have a number of yours until you need the funds.  By increasing the amounts of risk you are taking you can statistically increase your returns.

 

• The second thing to take into account is how the money is going to be taxed.  Investments that are in a tax-free environment can stand more ordinary income. With taxable income you can write-off losses that you incur.  Also capital gains are preferable to ordinary income in a taxable environment.

 

• The next area that you need to worry about is the amount of liquidity available with your portfolio.  The longer you have to invest the more able you are to use illiquid assets like real estate.  Real estate functions on a longer cycle than stocks.

 

• You can’t expect return without taking a little risk.  Risk translates volatility. The level of risk that you take is what you personally can tolerate.  Risk is measured in different ways including standard deviation and/or beta.  They are measured relative to the standard deviation and/or beta respectively of the market as a whole.

 

• Last but not least to be sure that your portfolio is diversified by having enough holding, by industry and by type of investment.  Income oriented investments tend to have different characteristics than appreciation driven investments.  International funds add an extra level of risk in the fact that there is an exchange rate in play in addition to the underlying stock making then inherently more volatile. 

You needn’t go it alone; contact a financial planning professional.

Gain Distributions

When people prepare their taxes they are often surprised at the amount of gain that is on their 1099 from the mutual funds that they own.  I am often asked, "How can my mutual fund distribute gains in a down market?" 

The answer is evident if you look through the mutual fund to the underlying portfolio. The mutual fund portfolio manager will often build up cash heading into downward trending market and may have sold stocks that had accumulated gains over the life of the holding.  As the mutual fund manager attempts to accumulate cash in preparation for the down market these gains may be triggered.  These gains are accumulated over many years consequently the tax has been deferred for this same period.  This is especially the case with value funds that have low turnover ratios.

If you have a net loss in the fund then you can simply sell all of the fund by the end of the year and this negates the gains.  If you still have a net gain in the fund then this strategy does not work.  But you should consider yourself fortunate if you have a gain.

You should look at your mutual fund as a portfolio rather than just one investment. It provides a convenient way to diversify for the individual making smaller investments.  It has economies of scale that you may not get purchasing individual stocks as well as expert management, in most cases.  Mutual funds provide the best managers within their respective specialty. This is why I only use mutual funds.

I can explain this in greater depth just contact me.

Trust Decisions

I am often asked the question, what do I need to consider when daftng a trust. Below I have listed the top 3 items I think are important when creating a trust.

First you need to consider the beneficiaries. What are their ages and their spending habits? Are they a minor or an adult? They will have very different needs and you will have different decisions to make for different situations.  For a minor, you need to provide your spouse or the minor directly with income as well as a way to pay for college.  If some of them have been to college and others have not you need to determine when to make distributions from the trust and how long you keep the money in, and trust.

Next you have to determine how many distributions you make from the trust. I suggest to clients that they make more than one but not more than three. The reasoning behind this is that two gives them a second chance and handling the money.  However if they have not learned their lesson by the time they receive the third distribution they probably are a lost cause.

The final main decision are the trustees. While corporate trustees such as banks provide for a knowledgeable trustee, you don't know who you're going to get when your trust actually comes into existence.   A private trustee, although less expensive, may not know what to do.

These are the main decisions you need to make.   Although there are many more decisions that have to be made.  You should consult with an attorney before drafting any trust documents.

It's the beginning of a new year!

Starting into the new year is the prime time to plan for the future. Basic planning is dependent on three things, cash flow planning, tax planning, and projecting your asset growth based on these two previous categories.

Cash flow planning consists of projecting future revenue streams as well as future expenses. An estimation of your future expenses needs to be as accurate as possible. Things such as capital expenses, buy a new car, or buying a new house needs to be included with the ongoing expenses. It pays to be specific with these items even though you might be off by the year in which they occur.

Tax planning is based on the revenue you project and the deductible expenses that you incur. These items should already be in your cash flow projections and the two projections need to be interactive with each other.

The net worth projection needs to be based on the taxes, cash flow, and pure asset growth. Items such as the net cash flow need to be included in the investment detail of the projection. As well as the purchase of capital assets, the car, the new house, need to be added to the assets already on the books. You may find it advantageous to have the net cash flow to flow in and out of a cash account.

You may seek professional help with this task. A true comprehensive planner is out there you simply need to do your homework. Professionals come in two forms, the fee only planner who charges by the hour and the commission-based planner who collects commissions on the products that he puts in place. Make sure you understand how they are compensated. They should have to disclose this in their presentation.  Above all they should be a Certified Financial Planner (CFP)

Buy Smart

    I have always had medical professionals as clients. One thing this has taught me is that being smart enough to pass med school doesn’t necessarily translate into financial intelligence. Doctors, as well as any professionals who have a steadily increasing salary at the start of their careers, can often make purchases that hurt their cash flow down the road once their income plateaus. This makes it all the more important to develop an emergency or “slush” fund early in your career no matter what your occupation. Then later in life, once your rainy day money has grown, the finer things are less of a strain on your bank account. The two main purchases that can set an individual up for financial distress are expensive cars and big houses. Making the right buys can lead to a life of comfort, if done correctly.

 

Fancy Cars 

 

When individuals jump up into the six figure income bracket one of the first things they want to do is buy an expensive new car. What they fail to realize is that when they drive their so called “investment” off the lot, it loses thousands in value immediately. Their new car will then continue to lose value until the wheels fall off. But Chuck, “How am I supposed to show off my financial superiority while I’m on the go?” It’s  simple. Buy used. Say you think you would look nice in a Mercedes-Benz SLK350. You’ve worked hard to bring in the money and its time to reward yourself. A new SLK350 costs over $55,000. A used last year model costs $36,000. Paying an extra nineteen grand for that “new car” smell seems quite ridiculous. Any other investment that declined in value by 35% its first year would make you furious. Even for individuals with more modest tastes, a Honda Civic loses four thousand in its first year off the lot which is still a 20% decrease. Do yourself a favor and let someone else be the sucker who has to unload their bad investment in a year’s time.

 

Living Large 

 

The other mistake many make is purchasing a house that is too big early in their careers. If your job is putting fat stacks in your slacks the worst thing you can do is tie yourself down to a house that will pull cash out of your pocket for the next fifteen to thirty years. We at Prospero Financial always push to develop a solid emergency account before purchasing an expensive home. Buying a less expensive home allows you to build that emergency fund faster.  You will then be able to make a larger down payment on your next home. This will give you more equity to build on. You will need 20% equity in the property in order to avoid private mortgage insurance and decrease your mortgage payment.

 As unpredictable as the housing market is, you want to make sure that your house and property are sellable when the time comes. Choosing your neighborhood wisely can make a huge difference in the future. Picking the right house in that neighborhood can be just as important. The most expensive house in a neighborhood will be the hardest to sell. When prices in housing go up your palace might increase in value, but a home is worth nothing if there’s no one to buy it. The cheapest house in the neighborhood can be just as tough. Look for a home that is in the upper middle price range for the neighborhood you are moving into and you will have made a safe choice if you ever need to liquidate the property. Lastly, when  it comes time to sell a house, you need to leave yourself at least six months time to keep from leaving money on the table. Selling a home can be profitable, as long as you make smart decisions along the way.

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