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Tuesday, July 22, 2014

Pre-tax and Post-tax IRA contributions: Eat your vegetables first



Marginal income tax rates are at an historical all-time low. Our Government debt is at an all-time high and currently 17.5 trillion dollars. Ten thousand baby boomers are retiring every single day. Social Security is expected to only be able to pay .77 cents for each dollar of scheduled benefits by the year 2033, and we have recently overhauled the health care system, which is likely to cost us all a lot of money as we shift health care responsibility from individuals to the government. These are just a few of the reasons that so many people are considering tax planning as part of their overall financial well being, and these are some of the reasons why I’ve recently converted more of my traditional IRAs to Roth IRAs. But what about those who have both pre-tax and post-tax contributions inside of a traditional IRA. Should an investor convert the post-tax contributions to a Roth?
One of the questions I am getting asked more and more these days has to do with the mechanics for conversions from a traditional IRA to a Roth IRA. As you probably know a traditional IRA is typically funded with pre-tax dollars and defers taxation into the future while a Roth IRA is funded with post-tax dollars and future distributions are, in most instances, free from federal income tax. So should you be deferring taxes into the future given the reality of our current economic conditions or not?
I recently consulted with a person who had made both pre-tax and post-tax contributions to his IRA.  He was interested in converting only the post-tax portion of his IRA to a Roth.
Before I get too deep into the weeds, let me explain that most individuals can make contributions to an IRA, but depending on the amount of income they have will determine if  the contribution is tax deductible in the year they make the contribution or not. A pre-tax contribution is money that was contributed to the IRA and was not taxed at the time of the contribution. Pre-tax contributions are what the majority of  people contribute to an IRA.
A post-tax contribution is where the individual already paid taxes on the income received and made a contribution to their IRA, but did not receive a tax benefit in the year of the contribution. This usually occurs for high income earners and they may also be precluded completely from being able to contribute to a Roth IRA. For example a married couple filing a joint tax return in 2014 covered under a workplace retirement plan will have tax deductions phased out for contributions to an IRA when their income is between $96,000 – $116,000.  That same married couple not covered by a workplace retirement plan will have tax deductions phased out when contributing to an IRA when their income is between $181,000 – $191,000, and a married couple filing jointly with a modified adjusted gross income of more than $191,000 is ineligible to contribute to a Roth.
If all of the money being considered for conversion to a Roth IRA was in traditional IRAs and was pre-tax dollars, then the rules are very clear and easy to understand. You simply pay tax on the amount you convert in the year you convert.
Things get a little more complicated when you have both pre-tax and post-tax contributions to a traditional IRA since it is not possible to convert only the post-tax contributions of a traditional IRA to a Roth IRA. The IRS has a pro-rata rule that requires you to add the value of all your IRAs and determines what percentage is post-tax vs pre-tax. Then when you convert dollars from your traditional IRA to a Roth IRA, a portion of the conversion is considered taxable and a percentage is not taxable based on the pro-rata formula.
For example, you had a rollover IRA with $90,000 of pre-tax contributions and a traditional IRA with $10,000 of post-tax contributions. The IRS would require you to add $90,000 + $10,000 = $100,000 of total IRA assets. Then you divide $10,000 / $100,000 and find that 10% of the IRA assets would be considered tax free upon conversion. So if you were to then convert just the post-tax traditional IRA of $10,000, then the IRS would consider 10% of that IRA conversion to be post-tax money and 90% to be pre-tax. On the $10,000 dollar conversion, $9,000 would be taxable as ordinary income  and $1,000 would not be taxable.
When consulting with people on these rules they sometimes express frustration and feel this is unfair and double taxation because they have already paid tax on the $10,000 in the post-tax traditional IRA. I understand why people feel this way however these are how the IRS rules work, and the IRS uses the sum of all your IRA accounts and does not view them independently of one another for the purpose of converting traditional IRAs to a Roth IRA.
When people have both both pre- and post-tax IRA contributions, they should track the basis of the post-tax contributions in their traditional IRA using form 8606 when filing their taxes every year. This way they will know how much of their future distributions will be taxable vs tax free when they begin taking money out of their retirement accounts.
When I was growing up my dad used to teach us to delay gratification. To eat our vegetables first and dessert last. One of my favorite quotes is from Jim Rohn who said, “All men will experience pain. The pain of discipline or the pain of regret. The pain of discipline weighs an ounce compared to the pain of regret that weighs a ton.”  Paying taxes now may not be fun, but I have a feeling paying taxes in the future might really be painful.
Everyone of us are lucky to live in the greatest country in the world and most people I know don’t mind paying their fair share of taxes. For a lot of people it makes sense to diversify future tax liabilities. In my mind converting a traditional IRA to a Roth IRA is the equivalent of eating your vegetables first and saving the dessert for later. I personally really like the idea of a tax-free retirement.

Thursday, June 12, 2014

A Map for Your Family

Your financial life is probably more complicated than you realize. You may have multiple bank, retirement, and investment accounts; insurance policies; a safe-deposit box; and more. You have bills to pay and perhaps a mortgage and other outstanding loans. And then there are the people you might depend on for financial matters: your attorney, financial advisor, insurance agent, and accountant, just to name a few.
Now think for a moment about how your family would navigate this financial sea if you were gone.

A letter of instructions can help guide your loved ones. Because a letter of instructions is not a legal document, you can simply sit down and write it yourself. Here are some topics you may want to include.
  • A list of documents and their locations, including (but not limited to) your will, financial account documents, insurance policies, tax returns, real estate deeds and mortgage documents, vehicle titles, Social Security and Medicare cards, marriage and/or divorce papers, and birth certificate.
  • Contact information for the professionals mentioned above as well as others who may be helpful, such as a business partner or trusted friend.
  • A list of bills and creditors, including when bills and payments are typically due.
  • Passwords and logins for any important online information.
  • Your final wishes for burial or cremation, a funeral or memorial service, organ donation, and charitable contributions in your memory.
Keep your letter of instructions in a safe, yet accessible place and tell your loved ones where it can be found. It would also be wise to give the letter to the executor of your estate and other trusted friends or advisors.
A letter of instructions is an important step to help your family during a difficult transition period. Because your wishes may change, be sure to update the letter regularly.

The information in this article is not intended as tax or legal advice, and it may not be relied on for the purpose of avoiding any federal tax penalties. You are encouraged to seek tax or legal advice from an independent professional advisor. The content is derived from sources believed to be accurate. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. This material was written and prepared by Emerald. Copyright © 2014 Emerald Connect, LLC.

How to make your money last until your 100

Let's suppose that you -- or your spouse or partner -- live to age 100. Will your money last that long? You don't want to experience "money death" before leaving this planet for good. Even if you don't live to be 100, it's smart to make sure your retirement income will last a long time, because there's a good chance you'll make it to your 90s.
If you're currently in your 60s, it'll take a lot of money to be fully retired for 30 years or more. Let's just do one simple reality check to illustrate. Suppose you spend $50,000 per year on all your living expenses -- housing, food, utilities, medical premiums, medical expenses, entertainment and so on. This isn't a bad assumption, given that the average American household spent $51,442 per year on these expenses in 2012, according to the Consumer Expenditure Survey. If you live 30 years, that's $1.5 million, and we haven't even factored in inflation, which is sure to increase your living expenses.
Do your IRAs and 401(k) accounts total $1.5 million?
The good news is, they don't have to. You have other sources you can also count on, such as Social Security, employment income or an employer-sponsored pension, if one is coming to you. But you'll still want to plan your finances carefully to make sure you'll have enough to cover your living expenses until age 100 and beyond.
You'll want to maximize the sources of retirement income that are paid for the rest of your life, no matter how long you live. That means delaying Social Security benefits until age 70, the age at which you will have maxed out the delayed retirement credits.
If you're eligible for a traditional pension that pays you a monthly income for the rest of your life, you'll also want to wait until the normal retirement age, typically age 65, to start benefits. At that age, there's no longer a reduction taken for early retirement. If your employer attempts to seduce you with the offer of a lump sum payment in lieu of the monthly pension, turn it down -- you'll get more money over your lifetime by taking the monthly pension.
One good retirement strategy is to cover your basic living expenses with sources of income that are guaranteed for life and indexed for inflation. This way, you don't need to worry about the roof over your head and food on the table if you live a long time or inflation kicks in.
Social Security is a good source of such income, which is one valid reason to wait until age 70 to start benefits. Another good source is an immediate annuity that's indexed for inflation or that increases at a fixed rate, such as three percent per year. You can use your retirement savings to buy such an annuity.
Note: Employer-sponsored pension plans aren't indexed for inflation, so they don't fit the parameters of this retirement strategy, but they're still a valuable benefit because they're paid as long as you live.
For your discretionary living expenses, such as travel and entertainment, it's not quite as critical that your retirement income lasts for life or is indexed for inflation. For these expenses, you might consider investing your remaining savings in stocks with the potential for growth. Then you can make periodic withdrawals, either with a systematic withdrawal method or as needed, to cover these type of expenses.
The possibility of living to age 100 is another reason it's a good idea to work until your 70s. This lets you wait to start Social Security benefits, and by working longer, you'll need less retirement savings.
For example, suppose you need an annual retirement income of $20,000 to supplement your Social Security income. If you purchase an immediate lifetime annuity that increases at three percent per year, according to Income Solutions, a 65-year-old couple would need about $461,000 in savings, but a 75-year-old couple would need only $349,000. Plus, if you waited from age 65 to 75, you'd have 10 more years for your savings to grow.
If you don't want to buy an immediate annuity to generate $20,000 per year, then you'll need more savings. The so-called "four percent rule" is intended to use invested savings to generate retirement income for 30 years, which gets a 65 year-old only to age 95. The four percent rule would require savings equal to about $500,000 to generate an annual retirement income of $20,000. And lately, the four percent rule has been called into question as delivering a retirement income that may be too high, given the low level of interest rates and the drag of fees for investment and advisor expenses.
The bottom line is that if you expect to live to your mid-90s or even age 100, buying a lifetime annuity with some portion of your savings is a good idea.
Finally, you'll want to have a strategy for paying for medical and long-term care expenses. You can remove most of the uncertainty and exposure for high medical expenses through participating in Medicare and buying the appropriate Medicare supplement plan.
Medicare and medical insurance, however, don't typically cover long-term care expenses. In this case, you'll either want to buy long-term care insurance, keep your home equity in reserve to tap in case you need long-term care, keep an investment account that's dedicated to long-term care expenses, or -- more likely -- some combination of these strategies.
The bottom line is, it will take some careful planning to support yourself and your spouse or partner until age 100. You'll want to consider working as long as you can, saving as much as you can, carefully managing your living expenses and creating a fulfilling and engaging life that makes it all worthwhile.

Wednesday, May 21, 2014

Legal Documents

A Will to Help Your Children
Half of Americans with children do not have a legal will to protect their families.¹ The most common excuses people give for not having a will are procrastination and the feeling that it is unnecessary.² If you have children, it is important to have a will, regardless of your financial assets.
A will can serve a variety of purposes. One of the most important is to designate a guardian for minor-age children if you should die or become incapacitated. Otherwise, the probate court may need to select a guardian, and your child’s financial matters might be managed through the court. A legal guardian can provide daily care as well as financial oversight; you can always name a different person as custodian for specific accounts.
It’s generally not a good idea to name a minor child as the primary beneficiary of a retirement account or insurance policy, although you could name children as contingent beneficiaries as long as you also specify a guardian or custodian. Beneficiary designations on these types of accounts typically supercede instructions in a will, so be sure that the guardian/custodian you name on the beneficiary form corresponds with your will, unless you want the account assets controlled by a different individual.

Special Trusts for Special Needs
If you have a child with special needs, you might consider setting up a special-needs trust and referencing the trust in your will. A properly executed special-needs trust can help provide for an individual’s lifetime care and other needs while maintaining eligibility for government programs such as Medicaid, Medicare, and Social Security Disability Insurance. Because the use of trusts involves a complex web of tax rules and regulations, you should consider the counsel of an experienced estate planning professional and your legal and tax advisors before implementing such strategies.

Creating a will does not have to be expensive or complex. If you already have one, review it regularly to be sure it reflects your current wishes.

1) Yahoo! Finance, March 28, 2012
2) AARP, May 1, 2012

The information in this article is not intended as tax or legal advice, and it may not be relied on for the purpose of avoiding any federal tax penalties. You are encouraged to seek tax or legal advice from an independent professional advisor. The content is derived from sources believed to be accurate. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. This material was written and prepared by Emerald. Copyright © 2013 Emerald Connect, Inc.

Monday, April 28, 2014

Retirement Risks to Consider

Retirement Risks to Consider

The road to a comfortable retirement is full of risks, and they don’t end when you stop working. As an investor, you are probably aware of market risk. You might also have considered longevity risk — the risk that you could outlive your retirement assets.
Here are four additional risks that may be worth considering, whether you are in the accumulation phase of your retirement journey or are already spending down your savings.
Inflation. The inflation rate has been relatively low over the last five years, averaging about 2.25% per year. But even that level can eat into the purchasing power of your savings. And long-term inflation trends have been higher, averaging 2.85% annually over the last 30 years.1 Although you may want to tilt your portfolio toward more conservative investments after you retire, you still might allocate some assets to stocks and other investments that have the potential to outpace inflation. Of course, all investments are subject to market fluctuation, risk, and loss of principal. When sold, they may be worth more or less than their original cost.

Unexpected events. A recent survey of Americans aged 50 to 70 found that the average respondent had experienced four “derailers” that temporarily knocked them off track in saving for retirement, with an average loss of $117,000.2 This may sound daunting, but setbacks could be mitigated by maintaining an emergency savings fund. When you are faced with an unexpected event, the wisest approach may be to resume saving at the highest rate you can afford when your life returns to normal. You might also have to adjust your spending habits.
Social Security. According to the 2013 Annual Report of the Board of Trustees, Social Security benefits should be fully funded at current levels until 2033, when the trust funds may be exhausted. After that, payroll taxes would be able to fund only about 77% of scheduled benefits.3 Depending on your age, you might need to scale back your expectations for Social Security as a major source of retirement income.
Sequencing. The most complex challenge could be sequencing risk, which refers to the timing of unfavorable portfolio returns, especially in the early retirement years. This could result from adverse market conditions and/or an inappropriate withdrawal strategy.
The dramatic market downturn during the Great Recession brought this into focus for many retirees, but sequencing is an ongoing issue that could require regular adjustments to your allocation and withdrawal strategies in response to changes in the market and/or your personal situation. Asset allocation is a method used to help manage investment risk; it does not guarantee a profit or protect against investment loss.
Each of these risks presents its own challenges and potential solutions. Addressing them properly requires a solid strategy that balances a variety of factors. You may benefit from professional help in analyzing and addressing these risks as they apply to your own situation. Although there is no assurance that working with a financial advisor will improve investment results, a professional who focuses on your overall objectives can help you consider strategies that could have a substantial effect on your long-term financial situation.
1) Thomson Reuters, 2013, Consumer Price Index for the period 12/31/1983 to 9/30/2013
2) BenefitsPro.com, June 26, 2013
3) Social Security Administration, 2013

The information in this article is not intended to be tax or legal advice, and it may not be relied on for the purpose of avoiding any federal tax penalties. You are encouraged to seek tax or legal advice from an independent professional advisor. The content is derived from sources believed to be accurate. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. This material was written and prepared by Emerald. © 2014 Emerald Connect, LLC

Friday, March 28, 2014

Important Steps to Follow When Creating an Estate Plan

Having an estate plan—designating what should happen to you and your assets if you should die or become incapacitated—is extremely important in order to meet your financial goals and provide for your loved ones.
I recommend consulting with a financial advisor or an estate planning attorney for assistance in designing a plan that works for your specific circumstances. After all, we are all different and have different needs, wishes and desires.
Here are some of the key steps involved:

1. Take Inventory of What You Own, What You Owe and to whom.
Compile a comprehensive list of your assets and debts, including account numbers and contact information for financial institutions and advisors. Keep this list in a safe place. Include original copies of important documents and don't forget to give a copy to the executor of your will.

2. Make a Contingency Plan. Remember Murphy's law. Any thing that can go wrong, will. 
Plan ahead and make provisions to protect your future and your retirement income. Don't forget to include documents that allow your family to handle your affairs if you became incapacitated.
This includes having disability insurance and a strategy to cover potential care-giving expenses.

3. Make arrangements for Children and Dependents. Find a suitable guardian for children under age 18 and provide for dependents who might not be specifically addressed if you plan to leave assets to a current spouse. This might include any children you have from a previous marriage or someone with special needs.

4. Protect Your Assets. Maintain your assets for heirs and your legacy by minimizing expenses, cover estate taxes and outline strategies for transferring or disposing of family owned business, real estate or investment property. Many people use find that using permanent life insurance allows you to leverage your money. Some create different types of trusts for this purpose trusts to handle this.
5. Document Your Wishes in writing. Make certain your wishes can be carried out by creating the necessary legal documents, including an updating your will to dispose of your assets, make sure you have a living will specifying your end-of-life wishes, and powers of attorney for health care and financial matters. Very important step is to confirm beneficiaries for your life insurance policies, retirement accounts and other assets, and ownership of personal possessions such as automobiles and property by making sure they are  properly titled. Having your estate as your beneficiary will cause delays and probate costs while having a named beneficiary may avoid hassles.

6. Appoint Fiduciaries. You need to designate someone to act on your behalf as executor of your will, a trustee for your assets, a legal guardian for your dependents and/or power of attorney if you became incapacitated. If not, the courts will have to make that decision for you and it may not be according to your wishes. Do not assume, check with your fiduciaries to make sure they agree to be appointed and remember where you can find your original estate planning documents.
All that preparation is useless if no one knows where those documents are.

Whether you are very young and just starting out or you have accumulated great wealth over a lifetime, an up-to-date estate plan can help you minimize the impact of unexpected events on yourself and on your family by preserving, protecting and helping to  manage your estate.
A good financial advisor and an estate planning attorney can provide the required expertise to help you in creating a plan that meets your financial and estate planning goals that can impact you well into the future.

Additional things to consider: Is a trust right for you?
Call an advisor or consult with an estate planning attorney.

Sunday, January 19, 2014

Cybercrime Update: Tips to Help Protect Your Money, Privacy, and Identity



Cybercrime Update: Tips to Help Protect Your Money, Privacy, and Identity
Federal prosecutors recently indicted members of an alleged gang of cyber thieves for stealing $45 million from banks in coordinated global attacks, each of which lasted only several hours. Sophisticated hacking techniques were used to remove spending limits on prepaid debit-card accounts at two banks in the Middle East. Organized crime cells then programmed corresponding debit cards to withdraw money from bank ATMs around the world, including $2.8 million from nearly 3,000 ATMs in New York City in two separate attacks that took place in December 2012 and February 2013.¹
The heist is believed to be the second-largest global bank robbery on record. In New York City, the bank theft was second only to the 1978 Lufthansa robbery depicted in the movie “Goodfellas.”²
News of such brazen and costly attacks demonstrates how difficult it can be for individuals, businesses, and governments to detect the latest cyber threats and protect their interests. Unfortunately, millions of American consumers could become victims of cybercrimes such as debit- or credit-card fraud and identity theft each year.
Here’s a closer look at common cybercrimes that could affect you, as well as steps to help safeguard your personal information and financial accounts.

Compromised Accounts
It has become increasingly common for criminals to install “skimmers” that collect the data embedded in the magnetic strip on the back of credit and debit cards. The electronic devices are placed on ATMs, inside gas pumps, or at other retail establishments where cards are swiped, and they may be used in conjunction with small cameras that capture the cardholders’ PIN numbers.
Cloned cards can then be used to make purchases or steal cash until the account is frozen by the bank. In many cases, victims may not realize that “skimming” has occurred until fraudulent transactions appear on their accounts or they are contacted by the bank.
Before swiping your card at an ATM or a gas station, inspect the machine and look closely at the card slot to detect a skimmer. When you enter your PIN, cover your hand to prevent a camera from recording your number.
To help limit the hassles and potential losses of a cybercrime, monitor your accounts regularly and notify your bank immediately if you notice any suspicious activity. Stolen funds are typically returned to customers when claims of fraud are filed promptly. The U.S. Secret Service estimates that ATM skimming is responsible for more than $1 billion in losses on an annual basis.³
Identity Theft Persists
Identity theft is not a new problem, but criminals continue to devise sinister schemes to steal personal information and cash in after they have it. About 12.6 million people had their identities stolen in 2012.4
Cyber thieves are not only after your existing financial accounts. A person who gains access to your Social Security number might apply for credit, file a fraudulent tax return, or receive government benefits in your name.
Phishing schemes are spam emails that try to trick you into giving your personal information or log-in credentials to computer hackers. At first glance, a sophisticated attempt may look as though it was sent from your own bank or a company you do business with. However, legitimate businesses generally won’t ask you to provide sensitive data via email.
Don’t Leave a Paper Trail
Keep important records (including your Social Security card) in a locked drawer at home. If you have a Medicare card, carry only a copy of it with all but the last four digits blacked out. Shred documents or cards instead of throwing them in the trash.
Send outgoing mail from an official or locked mailbox. When you are out of town, have the postal service hold your mail or ask a friend to pick it up.
Be Cautious Online
To help thwart hackers, create strong passwords with a combination of uppercase and lowercase letters, numbers, and special characters. Use a separate password for every account, and don’t use an automatic log-in feature that saves your username and password. Never enter personal data on a public computer unless you can log in and out of a secure account.
Enter sensitive data only on encrypted sites that display a “lock” icon on the status bar of your Internet browser. Mobile devices may also be vulnerable, so it’s important to enable the encryption and password features on your smartphone.
For more information about online security issues and consumer scams (compiled by a coalition of government and consumer protection agencies), visit OnGuardOnline.gov.