Tax-Advantaged or Tax-Deferred? Do you know the difference?- copy

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Jim Lorenzen, CFP®, AIF®

Tax-deferred and tax-advantaged are two terms often used interchangeably and, as a result, often lead to a lot of confusion; but, the difference can be significant in planning how you will be drawing income from your nest-egg during your retirement years.  The key, of course, is to discover your options and do advance planning.

Tax-deferred investing is familiar to us.  Many employers match employee contributions up to a certain dollar amount to a company-sponsored retirement account, which usually offers tax-deferred growth.  Contributing to your account up to the employer match is a significant first step to retirement success.

However, many have found that their company-sponsored plan has proven inadequate due to contribution limits and other factors.  Most investors would likely be well served seeking out other sources of tax-advantaged retirement funds.  When used properly, tax-advantaged money is taxed up-front when earned, but not when withdrawn.  This approach may seem costly; but, that view may very well be short-sighted and far more costly.

Let’s take a look at a hypothetical example of tax-deferred and tax-advantaged money at work.  Our fictitious couple, Mitch and Laura, are starting retirement this year and will need $50,000 in addition to their Social Security benefits.  Assuming a 28% state and federal tax rate, they’ll actually need to draw $69,444 from their retirement account to meet their needs.*

Tax Deferred

Need = $50,000

Taxes = $19.444

Total Withdrawal required to meet spending need: $69,444

What if Mitch and Laura had balanced their portfolio with a tax-advantaged funding source?  What if they could pull the first $30,000 from the tax-advantaged source and the rest ($27,777) from the tax-deferred source?  What would that look like?

its-about-timeTax Deferred Combined with Tax Advantaged

Tax-Advantaged money = $30,000

Tax-Deferred money = $20,000

Taxes = $7,777

Total Withdrawal to meet needs and taxes = $57,777

Because Mitch and Laura balanced their portfolio, they saved $11,667 each year during retirement – almost 24% of their year’s living expenses each year!   Simple math reveals a savings of over $116,000 during ten years of retirement; and it they’re retired for 30 years, as many are, the savings is over $350,000, not counting what they could have made by leaving the money invested – which could be rather substantial:  At just 3.5% annualized, the total would come to over $600,000!

A Plan that Self-Completes

Most savings plans, including employer-sponsored retirement plans, are dependent upon someone actually continuing to work and actively contributing to the plan.   If work and contributions stop, the plan does not complete itself.    

It’s been my experience that relatively few individual investors have self-completing retirement plans, while a rather large percentage of high net-worth investors do.

What financial tool can accomplish the goal of being self-completing?  Not stocks, bonds, mutual funds, or even government-backed securities of any type.   There’s only ONE I know of – and, it’s tax-advantaged, too.   Believe it or not, it’s a “Swiss Army Knife” financial tool called life insurance.    It’s not your father’s life insurance; it’s specially designed

It can ‘self-complete’ a retirement plan – and it doesn’t matter if the individual dies early or lives a long life.  Few people realize they can win either way.    As I said, stocks, bonds, real estate, commodities, and company retirement accounts simply can’t match it; but, the design must be customized.

If you’d like to learn more about this and other smart retirement strategies, feel free to contact me.

————–

 

*This has always been a source of misunderstanding for many individual investors:  The fact is not all the money in Mitch and Laura’s retirement account belongs to them.  Their retirement account might show a $500,000 balance, for example, leading them to believe they have $500,000.  The truth is less comforting.  The truth is, given a 28% tax-bracket, that $140,000 of that money belongs to the government, not Mitch and Laura.  They’ll likely never see it.  Their real balance – the one the statement doesn’t show them – is $360,000; and, as we’ve seen, they’ll need to draw-down $69,444 each year to meet their needs.  How long do you think that money will last?

 

 

Disclosures

Jim Lorenzen is a CERTIFIED FINANCIAL PLANNER® professional and An Accredited Investment Fiduciary® serving private clients since 1991.   Jim is Founding Principal of The Independent Financial Group, a fee-only registered investment advisor with clients located across the U.S.. He is also licensed for insurance as an independent agent under California license 0C00742. The Independent Financial Group does not provide legal or tax advice and nothing contained herein should be construed as securities or investment advice, nor an opinion regarding the appropriateness of any investment to the individual reader. The general information provided should not be acted upon without obtaining specific legal, tax, and investment advice from an appropriate licensed professional.

Should You Graduate From Mutual Funds?

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Jim Lorenzen, CFP®, AIF®

It’s probably a safe assumption that most individual investors began their investment programs with mutual funds and have built their 401(k)s, IRAs, and/or taxable accounts with mutual funds ever since.

While those mutual funds may have been appropriate for them in those early days, are they appropriate today?

If you’re one of those who’s built your retirement portfolio with mutual funds over the years and now have more than $500,000 invested in your long-term nest-egg, you may want to consider how much you may be losing to factors that have little to do with “the market”.   It begins with the Four Pillars of Investment Success.

 

For this post, we’ll talk about the bottom-left pillar, particularly as it relates to cost.

By now, most people are aware of the difference between ‘load’ and ‘no-load’ mutual funds.  Loads are basically sales charges that pay compensation to the selling registered representative of a broker -dealer.   They’re not necessarily bad.  A small investor can seldom be economically serviced by a fee-based registered investment advisor and this economic model provides that investor access to help that otherwise may not be available.   Either way, those charges aren’t hidden; they’re disclosed.   Here are some additional charges worth discussing:

Annual expense ratio

This is also disclosed in a mutual fund’s prospectus.  For example, assume a growth mutual fund has an expense ratio of 1.40%.   You’ll find it disclosed; but here’s what that 1.4% doesn’t include:

Turnover.  Turnover is an important factor in determining a fund’s true costs.  You see, turnover impacts other costs, as you’ll soon see.

Transaction/trading costs:  When a fund manager makes a trade on an exchange, that trade incurs a commission – just like your own trade would – and the fund manager receives a `confirm’ reflecting the net proceeds of the trade AFTER commissions have been taken… the same kind of ‘confirm’ you would receive.   They report the NET proceeds after the cost of the trade.

Look on your most recent mutual fund statement – any fund.  Do you see trading costs or any other fees or expenses disclosed on the statement… anywhere?  You might think it’s all in the annual expense ratio; but think again.  Transaction costs are NOT included in the fund’s annual expense ratio!

In the book, Bogle on Mutual Funds, the former Vanguard Fund chairman estimated trading costs generally average 0.6%  I don’t know the real number, so for illustration, I’ll use his.    If hypothetically a fund’s turnover is 120% – check the prospectus for your fund’s turnover – here’s what it means in calculating expenses:Trading Costs (use a low-end figure) x Turnover = Total trading costs.  So, 0.6% x 2.2  = 1.32%.

Why use the 2.2 factor for a 120% turnover?  Simple:  You have to establish a position in a security before you can turn it over; and, that’s true for each security in the portfolio.  The entire portfolio is established, then 120% is `turned over’ in a year.   If you used 1.2, you’d be computing only a 20% turnover, far from what’s really happening.  So, trading cost  times turnover gives us 1.32% in trading costs, to add to the fund’s annual expense ratio to get combined annual expenses plus trading costs.

According to Morningstar, the typical equity fund has annual expenses of 1.4% annually.   If we use that figure for illustration – remember to look at your own funds’ prospectuses to see what applies to you – 1.32% + 1.40% = 2.72% in annual costs.

Market impact costs:   When you or I sell 100 shares of a security, it doesn’t really impact the price.  But, when an institution buys or sells huge blocks of a security, the price can be affected.  How much?   Market impact costs can range between 0.15-0.25%.   And, of course, you would apply that figure to turnover, too.   We’ll use the lower number for our hypothetical illustration.0.15% x 2.2 = 0.33%.  So our hypothetical fund with a 1.4% annual expense ratio that experiences a 120% annual turnover could actually be costing the shareholder 3.03% annually.

Annual Expense Ratio                            1.40%
Turnover 2.2 x 0.6%                              1.32%
Market Impact Costs 2.2 x 0.15%          0.33%
Total                                                   3.05%

This means, according to this calculation of our fictitious fund – the one we assumed had an annual expense ratio of 1.40% –  the total real annual expenses to the shareholder are actually 3.05%, more than twice the annual expense ratio reflected in the prospectus; and those additional costs are nowhere to be found on the statement.

Okay, you now know what to look for.  Pull out your statements and prospectuses and do your own math.  You may have to make a guess for market impact and trading costs, or you can use Mr. Bogle’s – you probably won’t be far off.

Here’s another point worth remembering.   Using our hypothetical fund example, if you’re paying 3% all-in for a $100,000 investment, you’re paying about $3,000 per year; but, the percentages don’t drop as your assets increase!  If you have a $1 million dollar portfolio, you’re now paying $30,000 per year – and, that’s just for the fund!

As I said at the outset, if your portfolio is over $500,000, there’s probably a better way to get responsible management, a good investment allocation, and even professional guidance – all for less than you may be paying simply to be in mutual funds now.

You may want to check into it.   Naturally, I’d be happy to help.

Jim

 

If you have $500,000 or more and are looking for an independent fiduciary advisor, you can get started here.


Jim Lorenzen, CFP®, AIF®

Jim Lorenzen is a CERTIFIED FINANCIAL PLANNER® professional and an ACCREDITED INVESTMENT FIDUCIARY® serving private clients since 1991.   Jim is Founding Principal of The Independent Financial Group, a  registered investment advisor with clients located across the U.S.. He is also licensed for insurance as an independent agent under California license 0C00742. The Independent Financial Group does not provide legal or tax advice and nothing contained herein should be construed as securities or investment advice, nor an opinion regarding the appropriateness of any investment to the individual reader. The general information provided should not be acted upon without obtaining specific legal, tax, and investment advice from an appropriate licensed professional.

How Will Rising Interest Rates Affect Stocks?

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Jim Lorenzen, CFP®, AIF®

… and what do rising interest rates (and inflation) mean to your long-term success?

Maybe less than you think… or is it maybe more than you think.

We don’t really know, do we?   Planning isn’t about what we know; if it were, we’d all just go with our guts and get rich!  Planning is about what we don’t know.

But we do have indicators.   Past performance is no guarantee the future will repeat – we know that; but, maybe – just maybe – it can provide a little idea of how markets have reacted to rising interest rates in the past.  Here’s a chart from Bloomberg; I apologize for the fuzziness.

As you can see (I hope) since March of 1971, there have been 21 periods of rising interest rates.  Of those 21 periods, the S&P declined only 5 times and the largest decline was around 5.5%.   Comforting?  Well, good reading  anyway.

The problem, of course, is we’re dealing with real money and real people’s lives.

It pays to have a ‘back-up’ in your financial plan that can help ensure there’s a ‘late life income’ even if everything else falls victim to the incompetency of elected officials who’ve become self-anointed economic experts.

For that reason, I thought you might enjoy a report I’ve put together about how to create a ‘late life income’ by adding another component to your investment diversification strategy.

I think you might enjoy it -it’s based on an actual case study.  You can access your Late Life Income report here.

Enjoy!

If you would like help, of course, we can always visit by phone.

Jim


Jim Lorenzen, CFP®, AIF®

Jim Lorenzen is a CERTIFIED FINANCIAL PLANNER® professional and An Accredited Investment Fiduciary® serving private clients since 1991.   Jim is Founding Principal of The Independent Financial Group, a  registered investment advisor with clients located across the U.S.. He is also licensed for insurance as an independent agent under California license 0C00742. The Independent Financial Group does not provide legal or tax advice and nothing contained herein should be construed as securities or investment advice, nor an opinion regarding the appropriateness of any investment to the individual reader. The general information provided should not be acted upon without obtaining specific legal, tax, and investment advice from an appropriate licensed professional.

Why Do Individual Investors Seem to Always Lag Behind Market Returns?

Jim Lorenzen, CFP®, AIF®

A recent study by Morningstar, a leading mutual fund research firm, compared mutual fund returns with the gains individual investors actually received. The study found that investor returns typically lagged fund returns.  The reason: Investors tended to move cash in and out as markets would rise and fall, often buying high and selling low.[1]

The study covered 10 years through the end of 2012, and found that funds posted an average annualized return of 7.05%, compared with a 6.1% average return realized by investors. (The returns factor in all stock and bond funds that Morningstar tracks. Investor returns are weighted based on asset owes into and out of all share classes of open-end mutual funds tracked by Morningstar.  [To learn more on why many individual investors have trouble reaching goals, see your report, Why Most Financial Planning Will Probably Fail.

Although a gap of a single percentage point may not seem like a big difference, it can make a significant impact over the long term, thanks to compounding. In fact, a hypothetical $10,000 investment returning an average of 7.05% annually would produce a total of $19,856 over 10 years compared with $18,078 for an average annual return of 6.1% over the same period. Over 30 years, the gap becomes even wider: $78,286 for the 7.05% return vs. $59,082 for the 6.1% return.[2]

The findings in the Morningstar study are apparently no fluke.  Similar findings were discovered in a study by Dalbar back in 2010 (see graph).

What’s the reason for this?  While I have admittedly not conducted a back-tested analysis on this, I do have what could be considered an informed opinion.   It’s investor behavior – to be sure not a ground-breaking epiphany.

When investors buy in good markets and sell in bad ones, they generally lose – no news there.  What is worth consideration is something Warren Buffett said years ago:  If you think investing is fun, you’re doing something wrong.  Real investing is boring; what you see on tv is financial porn.   However, if you’re investing properly, you will virtually always be buying low and selling high.

Why?  It’s as simple as having a properly constructed portfolio, designed to implement your formal financial plan, and adhering to a disciplined rebalancing process.  Not all financial plans are sound, however.  See our report.

Rebalancing is key.  Regardless of your rebalancing schedule,[3] it helps ensure you will be selling high and buying low.  Important:  Rebalancing does not guarantee gains nor does it guarantee against loss; but, it sure beats trying to ‘call’ markets.

Let’s use a simple hypothetical example using a simple stock and bond portfolio.   If your financial plan indicates the best balance for you is 60% bond and 40% stocks and your investment portfolio is valued at $500,000, you’d be allocating $300,000 to bonds and $200,000 to stocks.

Using easy to grasp numbers, let’s assume that when it’s time to rebalance, based on a schedule you and your advisor have chosen, your bonds have lost 10% in value, due to rising interest rates while your stocks have gained 20%.

Your bonds are now valued at $270,000 (down by $30,000) and your stocks are now valued at $240,000 (up by $40,000).  Your total portfolio is now valued at $510,000.  Not bad, but our schedule says it’s time to rebalance and we do believe in investment discipline.

40% of $510,000 would indicate a stock allocation of $204,000; but the current value of that portfolio is $240,000 due to the run-up.  That means trimming our stock exposure by $36,000 – we’re automatically “selling high”.

Our bond portfolio, now valued at $270,000 is down $30,000 due to rising interest rates.  At a 60% allocation, we should have $306,000 (60% of $510,000) in bonds.  Obviously, that’s where the $36,000 from our stock sales will go.  We’re “buying low” into a rising interest rate market.

In the real world, portfolios aren’t quite so elementary.  There are investment styles within each asset class and there are sectors within each style.  It can get rather sophisticated, but technology helps.

You may have heard it a thousand times; it still bears repeating:  It begins with a plan.  If you don’t have one, you’re lost – and if you think you have your plan in your head, your heirs will be helpless, even if you aren’t already.

[1] Russel Kinnel, “Mind the Gap: Why Investors Lag Funds,” Morningstar, February 4, 2013.

[2] Results are for illustrative purposes only and in no way represent the actual results of a specific investment.

[3] Transaction costs and tax implications should not be ignored.

As I noted earlier, many plans will likely fail.  See our report.  Hope you find this helpful.

If you would like help, of course, we can always visit by phone.


Jim Lorenzen, CFP®, AIF®

Jim Lorenzen is a CERTIFIED FINANCIAL PLANNER® professional and An Accredited Investment Fiduciary® serving private clients since 1991.   Jim is Founding Principal of The Independent Financial Group, a  registered investment advisor with clients located across the U.S.. He is also licensed for insurance as an independent agent under California license 0C00742. The Independent Financial Group does not provide legal or tax advice and nothing contained herein should be construed as securities or investment advice, nor an opinion regarding the appropriateness of any investment to the individual reader. The general information provided should not be acted upon without obtaining specific legal, tax, and investment advice from an appropriate licensed professional.

Should You Buy TERM Insurance and INVEST the Difference?

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Jim Lorenzen, CFP®, AIF®

BUY TERM INSURANCE!  INVEST THE DIFFERENCE!   That’s the mantra that’s been preached (mostly by tv gurus selling their DVDs) since the 1970 (they were selling tape cassettes back then) and even before.

It seems logical:  You buy term insurance and get pure protection with insurance dollars while you invest remaining dollars for retirement or other needs.

It even sounds catchy:  Buy term insurance and invest the difference.  That’s what your dad did, and grandpa before him.   Of course, they may not have majored in economics or finance.

Does the old “buy term” maxim they’ve been preaching really hold up under real number-crunching analysis?

Well, here’s an analysis using numbers you might find interesting.  While not exhaustive, it certainly will shed some worthwhile light worthy of discussion.   You can access it here.

Hope you find this helpful.

If you would like help, of course, we can always visit by phone.


Jim Lorenzen, CFP®, AIF®

Jim Lorenzen is a CERTIFIED FINANCIAL PLANNER® professional and An Accredited Investment Fiduciary® serving private clients since 1991.   Jim is Founding Principal of The Independent Financial Group, a  registered investment advisor with clients located across the U.S.. He is also licensed for insurance as an independent agent under California license 0C00742. The Independent Financial Group does not provide legal or tax advice and nothing contained herein should be construed as securities or investment advice, nor an opinion regarding the appropriateness of any investment to the individual reader. The general information provided should not be acted upon without obtaining specific legal, tax, and investment advice from an appropriate licensed professional.

Thinking of Buying An Annuity? Do Your Homework.

Jim Lorenzen, CFP®, AIF®

 

If you’re thinking of purchasing an annuity, here’s a report you might find helpful.

I seldom use annuities for client portfolios; but, that doesn’t mean they’re bad.  Any financial instrument will have it’s good and bad points; the question is really whether the instrument in question is appropriate for a particular client, and given that I take fiduciary status for my clients, it MUST be in a client’s best interest.

Television commercials abound – some advisors telling you they have annuity strategies no one else has (uh huh) and others telling you they’d rather die before they’d ever sell one (neglecting to either differentiate what annuities they’re talking about – variable and fixed annuities are two entirely different animals with virtually nothing in common – or to tell the viewer they’re not licensed to sell annuities to begin with).   The truth is both types of commercials are misleading and tend to target those who don’t know what questions to ask – convenient.

If you’re considering purchasing an annuity, and I’m not recommending that you should,  you might find this report about the things you should consider helpful.  You can access it here.

Hope you find this helpful.

If you would like help, of course, we can always visit by phone.


Jim Lorenzen, CFP®, AIF®

Jim Lorenzen is a CERTIFIED FINANCIAL PLANNER® professional and An Accredited Investment Fiduciary® serving private clients since 1991.   Jim is Founding Principal of The Independent Financial Group, a  registered investment advisor with clients located across the U.S.. He is also licensed for insurance as an independent agent under California license 0C00742. The Independent Financial Group does not provide legal or tax advice and nothing contained herein should be construed as securities or investment advice, nor an opinion regarding the appropriateness of any investment to the individual reader. The general information provided should not be acted upon without obtaining specific legal, tax, and investment advice from an appropriate licensed professional.

Here’s Your Important Document Checklist!

Jim Lorenzen, CFP®, AIF®

 

A fiduciary advisor is good to have; but, YOU are a kind of fiduciary, too!

Your family depends on you, which means you have the responsibilities a fiduciary would have.   Step one, of course,  is knowing where your important documents are.

Here’s a checklist to help you get your ducks lined up.

Hope you find this helpful.

If you would like help, of course, we can always visit by phone.


Jim Lorenzen, CFP®, AIF®

Jim Lorenzen is a CERTIFIED FINANCIAL PLANNER® professional and An Accredited Investment Fiduciary® serving private clients since 1991.   Jim is Founding Principal of The Independent Financial Group, a  registered investment advisor with clients located across the U.S.. He is also licensed for insurance as an independent agent under California license 0C00742. The Independent Financial Group does not provide legal or tax advice and nothing contained herein should be construed as securities or investment advice, nor an opinion regarding the appropriateness of any investment to the individual reader. The general information provided should not be acted upon without obtaining specific legal, tax, and investment advice from an appropriate licensed professional.

What To Do With Business Sale Proceeds

Jim Lorenzen, CFP®, AIF®

 

When you receive business sale proceeds, you’ll likely pay a capital gains tax; but, that may not be the end of the story.

Suppose you have $1 million or more after the sale – money you’d like to put somewhere for future use – but you also want growth with safety and tax-deferral, too!

You could use our 401(k); however, there are funding limits in any given year and those limits don’t carry over.  Besides, the safety issue could be problematic.

Bank certificates of deposit can provide safety, but not growth or tax-deferral.

If you’re selling your business next year, you’ve waited too long to plan.  However, if your sale is scheduled for ten, fifteen, or twenty years from now, this IS the time to get your ducks lined-up – and this report might help.
Click Here!
By the way, when you get the report, you’ll also be subscribed to our free ezine.  If you decide you don’t want it, simply unsubscribe at any time – your name will be removed immediately.  IFG will never share your email address with anyone for any reason.

If you would like help, of course, we can always visit by phone.

Enjoy!

Jim


Jim Lorenzen is a CERTIFIED FINANCIAL PLANNER® professional and An Accredited Investment Fiduciary® serving private clients since 1991.   Jim is Founding Principal of The Independent Financial Group, a  registered investment advisor with clients located across the U.S.. He is also licensed for insurance as an independent agent under California license 0C00742. The Independent Financial Group does not provide legal or tax advice and nothing contained herein should be construed as securities or investment advice, nor an opinion regarding the appropriateness of any investment to the individual reader. The general information provided should not be acted upon without obtaining specific legal, tax, and investment advice from an appropriate licensed professional.

Business Owners Face Potential Tax Law Changes

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Jim Lorenzen, CFP®, AIF®

1954

1986

2017

What do those years have in common?    If you guessed those were the years of major tax reform, you’d be right—at least about the first two.  2017 is still a question mark.

While tax law changes can occur quite often, major reforms appear to come around about every thirty years.    Business owners, unlike the rest of America, will have to deal with the impact of any changes on both the personal and business front.

Most Americans don’t own businesses and can be excused for not understanding many of the issues business owners face.    First, most businesses tend to be small – proprietor-owned – and are therefore taxed at individual rates; and that includes partnerships.  They don’t get taxed at the lower corporate rate; yet, these owners represent most of the job creation.  Those who are successful, pay at high rates – and even more if they’re in a high tax state!   It’s not uncommon for a successful small business owner in a high-tax state, like California or New York, to be faced with having to make $300,000 in pretax profit, only to see half of it go to federal, state, and local government, leaving about $150,000.  Sound like a lot?  Not if you’re in one of those high cost-of-living states, which usually happen to be the same ones, in which case $150,000 is often just middle-income.   Makes it pretty hard to create jobs for other people – often the reason many of these businesses often relocate to low-tax states (with a lower cost of living) to grow their businesses, where they find it easier to create jobs.

How about corporations?  Most Americans don’t realize that those who incorporate their businesses are taxed twice.   Their business pays a tax on profits BEFORE the business pays a salary to the business owner, who then must pay a second income tax!  And, of course, we’re back to the high income-tax state issue.

The government drains money from the people who create the jobs; so, no wonder – as people want to see more jobs in the economy – tax reform is such a big issue.

Proposed Changes for Business

Under the proposed tax bill, which still faces much debate, the corporate tax rate would be reduced to 20% – a substantial cut.  S-Corps would see their rate drop to  25%.  Well, maybe not – what day is it?  This all changes with the wind until it’s law.

One of the proposed changes, favored by many business owners,  would allow for the expensing of capital expenditures—no doubt in an  effort to spur growth.   However, there could be a fly in the ointment for many business owners in a provision no one’s talking about.

You’ve heard about the  ‘border tax’.  Under this provision, there would be no cost-of-goods deduction on imported goods—a potential problem for many retailers, as well as manufacturers who outsource some or all of their supply chain.

Many businesses that have spent years researching and developing their supply chains may face some formidable challenges.  There would be a deduction for the cost of goods exported.

Finally, there would be no deduction for business loan interest under the proposed plan.  This may not be a big issue now, given today’s low interest rates; but, it could become a major issue if we should ever experience the double-digit interest rates similar to those of the late 1970s.

Business owners are individuals, too.

As if dealing with all a business owner faces isn’t enough, there’s also the personal side.   There are  some potential changes looming on the horizon there worth knowing about.

Individual tax rates would come down and reduced to three brackets.

The elimination of all itemized deductions except for mortgages and charitable contributions is also popular with many, but not everyone.  The proposed change for charitable deductions limits those deductions to $100,000 for a single payer and $200,000 for a married couple.  It may become difficult for a  charity to convince a multi-millionaire to donate that $1 million work of art !

And, while there’s talk of repealing the estate tax, it doesn’t appear to be a complete repeal.  The government still wants that unrealized appreciation taxed!  The talk is about going to a system similar to what they have in Canada.

The idea would be to tax unrealized appreciation over $5 million at a capital gains rate.  Taxes on gifts would correspond to eliminate people using gifting to avoid the estate tax.

Finally, the newest proposal would also do away with deductions for medical expenses—or at least have a very high threshold.

All these are proposed—not passed.  But, it’s good to be aware

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of what could be on the horizon.

What Should Business Owners Do?

You might discuss these points with your tax advisor—I am not a CPA.  I am a CFP®, AIF®,,,,  EIEIO.

 

Planning Point

If you don’t have an executive bonus plan, you may want to consider starting one and paying the bonus before March 15, 1018.  Same if you do have one.  Your business gets the 2017 deduction while the employee may be paying tax on the bonus received at lower tax rates.   If you’re `grossing up’ the bonus to cover the employee’s  tax payment, that would be under the 2018 rates, as well—remember, talk to your tax advisor.   If you want to learn more about these plans, you can access my special report here.

Planning Point

Don’t neglect what is probably the most versatile financial tool available today:  cash value life insurance—it has tax benefits that no other financial vehicle can provide and is an ideal retirement supplement—especially for high-earning executives and owners who are limited in what they can put away in qualified tax-deferred vehicles.  Quite often, these executives are stunned to find out those limits simply will not allow the account to provide enough capital at retirement for them to preserve their desired lifestyle.

As David McKnight points out in his book, Tax Free Retirement, life insurance is used as a key retirement strategy by more than 85% of Fortune 500 CEOs and many members of Congress.  The book was also endorsed by retirement guru and CPA Ed Slott, as well as David M. Walker, former Comptroller General of the United States.

Sometimes, I will see arguments against this approach in the media – arguments that are little short of idiotic – but, the simple truth is that insurance, including indexed universal life (IUL) in particular, is becoming widely accepted among leading experts in the profession as a true asset class (in addition to cash, stocks, bonds, real estate, and commodities), probably as a result of an aging population with changing priorities and increasing economic uncertainty (where the government’s future need for tax revenue is concerned).

  • Your tax advisor can provide the best insight regarding tax strategy;
  • your estate planning attorney can help you make sure your documents are updated and in order; and
  • your financial advisor should be able to help you arrange assets to fit your needs.

Never use a podiatrist for dental advice.

I hope you found this helpful.

If you would like help, of course, we can always visit by phone.

Enjoy!

Jim


Jim Lorenzen is a CERTIFIED FINANCIAL PLANNER® professional and An Accredited Investment Fiduciary® serving private clients since 1991.   Jim is Founding Principal of The Independent Financial Group, a  registered investment advisor with clients located across the U.S.. He is also licensed for insurance as an independent agent under California license 0C00742. The Independent Financial Group does not provide legal or tax advice and nothing contained herein should be construed as securities or investment advice, nor an opinion regarding the appropriateness of any investment to the individual reader. The general information provided should not be acted upon without obtaining specific legal, tax, and investment advice from an appropriate licensed professional.

There’s More than One Path to Retirement Security

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Jim Lorenzen, CFP®, AIF®

People often think investment strategies for retirement security involve a either/or choices, i.e, risky stocks or savings as a zero-sum choice, or active vs. passive investing as an either/or choice; Believe it or not, there’s more than one path to retirement security.  Sometimes (often) they can be blended.

Active vs. Passive

Vanguard on active vs. passive investingFor example, low-cost passive investments are attractive simply because it’s widely believed that active managers can’t beat their relevant indexes’ average return on a consistent basis.

That’s probably true, however the argument often ignores the downside protection active management can offer – something index investing doesn’t provide, and something important to investors for retirement security.

Does that mean there’s only one path to financial security… that active is better?  No – it’s just different.  Sometimes, the extra fee an active manager charges can be worth far more than the alternative downside exposure.   Vanguard has created a client education piece about active and index investing that you might find helpful.  You can download it here.

Active Institutional Management

Investors with smaller accounts often achieve diversification by investing in mutual funds.  While these investors can benefit from the diversification they offer, those with larger accounts can be penalized.  The reason is simple:  Mutual fund costs don’t scale.

For example, if you have $50,000 invested in a mutual fund that carries a 1.25% expense ratio (just to pick a number), you’re paying $625 a year in annual expenses.  Not too bad.  But, suppose your investment is $500,000 and you have a basket of mutual funds and all charge about the same 1.25%.  Your annual expenses would now total $6,250 per year.

Fund expenses don’t go down as the asset level increases.  1.25%, in our example, would stay 1.25%, regardless of how much your account increases in value.  And, those aren’t the only expenses!  You can learn about the other hidden expenses in another report, Understanding Mutual Funds, which you can also download instantly, right here.

Institutional money managers – at least all those I use – have fully disclosed fees; but, furthermore, their fee percentage actually declines as the investor’s asset level grows.  They can also provide tax-managed benefits not available in mutual funds.

Institutional managers seem to do far better than the individual investor.  As you can see from this independent Dalbar study, individual investors didn’t even come close- and the time period for the study included the famous ‘meltdown’ of 2008.

Institutional investors tend to outperform individual investors.

Screening for investment managersThe selection process for institutional managers, of course, is important, if not critical.

If you’d like to see the process I have been using here at IFG, you can get it here.

Of course, it’s not an either/or proposition:  Blending active institutional management with passive indexes can be quite effective.

It begins with a philosophy.

The key to successDo you know your investment philosophy? By the way, “I don’t want to lose money” is not a philosophy; it’s a wish.  A philosophy goes deeper – it’s the roadmap that helps you as you go through the investment/manager selection process.  IFG’s can be accessed immediately here.

Managing the Downside.

There’s a tv commercial sponsored by a mutual fund/insurance complex that asks the question, “Do you know your number?

While it’s a good question, it doesn’t go far enough.  The real question may not be how much you have, but how long it will last!   After all, that’s the key to almost everyone’s definition of retirement security.

Longevity risk – “Will I run out of money?”

This is the key issue for most Americans; even those with $1,000,000+ who want to maintain their standard of living, let alone the vast majority of Americans who have less.  You might enjoy getting our Money or Income report when you sign-up for the IFG ezine (you can always unsubscribe later).   You can get the report here.

 

 

What’s right for you is likely no one strategy, but a blend of this – and other strategies not even covered here – that best fits your particular needs and desires.

If you would like help, of course, we can always visit by phone.

Enjoy!

Jim


Jim Lorenzen is a CERTIFIED FINANCIAL PLANNER® professional and An Accredited Investment Fiduciary® serving private clients since 1991.   Jim is Founding Principal of The Independent Financial Group, a  registered investment advisor with clients located across the U.S.. He is also licensed for insurance as an independent agent under California license 0C00742. The Independent Financial Group does not provide legal or tax advice and nothing contained herein should be construed as securities or investment advice, nor an opinion regarding the appropriateness of any investment to the individual reader. The general information provided should not be acted upon without obtaining specific legal, tax, and investment advice from an appropriate licensed professional.