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.

A Long Life Is Wonderful When You Can Enjoy It!

Jim Lorenzen, CFP®, AIF®

We know we’re living longer; a long life can be wonderful… and some of us get to live better, too.

I think you’ll enjoy this little one-minute video –  Say “Hi” to Ida.

….and, enjoy the Holidays!

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.

How To Avoid the Family Business Wealth Evaporation Trap

Jim Lorenzen, CFP®, AIF®

Family business owners face wealth evaporation daily.  It’s like glaucoma.  You can’t tell it’s happening on a daily basis, but the cumulative results can be costly.

Many years ago – before the internet – I was in the business of publishing weekly newspapers and shopping guides.   It was a business that included advertising sales, ad layouts and graphic design, production and composition, printing and distribution, and (of course) all the financial disciplines of managing cash flow and credit lines.

I mention this simply to point out that I know the challenges the owners of closely-held businesses face… and also to point out that there are some common mistakes many such owners have in common.

It was during this period I remember reading an interview with Jack Nicklaus, who was then at the top of his game and was THE golfer that “moved the needle”, as they even said back then.  It was in that interview he pointed out one of the biggest mistakes he made had to do with his approach to cash management, pointing out just how costly his mistakes were – until he corrected them.

I learned from that article and it made a huge difference in my life.    That article, however, didn’t provide much detail; it was, after all, a golf magazine and didn’t have a financial focus.

Santa Barbara-based business expert George Issac, however, has written an excellent piece, entitled, Avoiding the Family Business Wealth Evaporation Trap.   If you own a family business, you just might find this information highly valuable.

I recommend it highly; and you can get your own copy when you subscribe to my ezine –  If you decide later you don’t want the ezine, you can unsubscribe immediately with a single click.  By the way, IFG never shares your email address with anyone.

I recommend this piece by George Issac.  I think you’ll be happy you read it.
Click Here
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.

Managing Retirement Income Decisions During Retirement

Jim Lorenzen, CFP®, AIF®

Managing retirement income has never been easy.  Those who retired in the early 1970s saw interest rates rise dramatically, then fall the same way – all within about a 15-year period.   When interest rates were going up, it made them feel good; but, few paid attention to inflation or tax implications.   During one period, interest rates were in the double-digits, but so was inflation, which meant their “increased” income wasn’t really increasing at all.    Money is worth only what it buys at the checkout counter.

So, the retiree who felt great about a 15% interest rate during 15% inflation (yes, it really happened and could happen again, blindsiding people who didn’t live through it before), weren’t really getting a raise at all – and that was before taxes!

The real problem, of course, came when interest rates began to fall.  During the period that interest rates (and inflation) dropped to 12% from 15%, retirees were seeing their incomes drop by 20% (a 3% drop in rates from 15%) while still seeing prices rise by 12%.

How do you manage income in retirement?  It ain’t easy.

Naturally, you could consider a basic withdrawal sequence using a straightforward strategy to take money in the following order:

  1. Required minimum distributions (RMDs) from IRAs, 401(k), or other qualified retirement accounts.
  2. Taxable accounts, such as brokerage and bank accounts.
  3. Tax-deferred traditional IRAs, 401(k), and other similar accounts
  4. Tax-free money – from Roth IRAs for example

This sequence can provide an order of withdrawals; but, other than the RMDs, it doesn’t tell you how much!

But wait! (as they say on tv).

How much?  And, how can you be sure you won’t run out of money?

RMD can provide a clue!

The RMD calculations can provide sound guidance for your entire portfolio!  Using the IRS formulas, Craig Iraelson, executive-in-residence in the financial planning program at Utah Valley University, did some back-testing with hypothetical portfolios invested in different investment allocations with RMD withdrawals starting in 1970 (the beginning of a relatively flat ten-year stock market).   Using beginning values, and even with a portfolio invested in 100% cash, there was still $850,000 left after 25 years!   And, a portfolio that was 25% stocks had $2 million left.

RMDs appear to address longevity risk pretty well; but, there’s another question.   Is the income level provided by the RMDs enough to preserve the pre-retirement lifestyle – or anything close?

There’s the rub.  In the back-tested portfolios, the initial RMD was 3.65% of assets… and that falls within the widely-accepted 4% rule…  but, that’s only $36,500 of pre-tax income.  Even if the retiree family has an additional $30,000 from Social Security, that’s still just $66,500 before taxes; and, for many successful individuals, that isn’t enough.

So, there’s the trade-off:  Sacrifice income for longevity, or accept longevity risk in order to take increased income.

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Maybe there’s another way.    How can a couple have more freedom to take greater income early while still addressing the risk of running out of “late-life income”?

My “Late Life Income” report shows how many couples have addressed this issue.   You can access it here!

By the way, when you get my report, you’ll also receive a subscription to my ezine.    If you decide you don’t want the ezine when you receive it, you’ll be able to unsubscribe immediately with a single click and, of course, your email is never shared with anyone.

Enjoy the report!  Hope you find it helpful.

 

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 Valuation Matters

Jim Lorenzen, CFP®, AIF®

Business valuation matters!   And, not just when you plan to sell.   Few business owners realize that valuation ‘what-if’s’ can help determine the advisability of major purchases and investments, not to mention the implementation of pre-funded buy-sell arrangements.   Yet, of the more than 200 million businesses in operation globally, fewer than 2 percent value themselves annually.   Over the next 10 years, approximately 10 million businesses will change ownership, according to BizEquity, but 75 percent of small business owners don’t know what their business is worth.

Business owners often hold mistaken assumptions about their business’s value, he says; technology companies often overvalue themselves while retailers, manufacturers and professional firms don’t value themselves highly enough.

The lack of knowledge puts small and midsize business owners at particular risk because they are unaware of how to create the right capital structure for their business, what amount of insurance to buy or how to plan for a business transition into retirement.   According to BizEquity, 50 percent of small businesses are uninsured and more than three-quarters of business owners plan to fund 100 percent of their retirement through the sale of their business.

How do you establish business value?  You might find our report helpful.  You can learn more here.

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.

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.