Social Security

As more and more of our ‘baby boomers’ come of age and near the time for applying for social security benefits, I thought it might be appropriate to review a little bit about our social security benefit program as it applies to everyone.

It is extremely important to understand what our social security options are before we make a potentially irrevocable decision about taking and receiving our benefits as the dollar amounts received over our lifetimes could be meaningfully more!

Taxes – Funding Benefit and Receiving Benefit
Social security benefits are funded by contributions made through payroll taxes that are half paid by the employer and half paid by the employee with self-employeds effectively paying both halves. When we receive social security benefits they are income tax free unless you ‘make too much money’.

So managing income recognition and managing the character or type of income (cash flow) received when we are drawing social security benefits can be extremely important in maximizing what we keep of this otherwise income tax free benefit!

Social Security Benefits Started Before Full Retirement Age (FRA)
If you start your social security benefits before FRA you will receive a reduced benefit of about 75% at age 62, about 80% at age 63, about 87% at age 64 and age 65 about 93%. Another complication of drawing social security before the year in which you turn FRA is that if you keep working you will have to give back some of your social security earnings.

In 2013 that $1 of ‘giveback’ for every $2 of earned income starts when you make more than $15,120. In the year you reach FRA the ‘giveback’ becomes $1 for every $3 of earnings above $40,080 (2013 amount).

Social Security Benefits Started At Full Retirement Age (FRA)
Social security benefits are calculated based on a minimum of 40 credits (quarters of covered work) to be eligible for benefits. Depending on your birth date, your age of retirement, FRA, will vary between 65 and 67 years of age (if you were born after 1960).

The Social Security Benefits Administration has a calculator for you to run some what-ifs about choosing a retirement date. They also have other calculators that can run estimated benefits, offset effects (see discussion below), etc., etc. Besides the when to take retirement question, there are other strategies to consider in maximizing the social security benefits to be received.

One such strategy is called ‘file-and-suspend’ which may allow a qualifying recipient to suspend payments while the spouse files for spousal benefits.

Another strategy comes available to us when we have been married to another for at least 10 years. In those cases, you may qualify for benefits based upon the former spouses earnings. If you wait until your FRA, you can file on your former spouses earnings for a spousal benefit and delay taking your retirement until age 70. This strategy will not work if you apply for the spousal benefit before FRA!

Social Security Benefits Started At Age 70 (Post-FRA)
By waiting until age 70 to draw upon our social security benefits a person born after 1943 would have their FRA benefit increase 8% per year by waiting until age 70! Very compelling, indeed!

Social Security Benefits Post the Windsor Supreme Court Decision
As a result of the US Supreme Court decision on same sex marriages the Social Security administration is no longer prohibited from recognizing same-sex marriages for purposes of determining benefit claims filed after June 26, 2013. The decision and its social security benefits impact are being discussed by the Administration and exact details on same-sex marriage benefits will be forthcoming.

Medicare Starts At Age 65
Social security is one matter, Medicare is another! If you do not sign up for Medicare at age 65, your Medicare coverage may be delayed and cost more!

‘Other Pension’ Offsets to Social Security Benefits Received
Two issues that could impact your benefit received are the following.

• Government Pension Offset. If you receive a pension from a federal, state or local government based on work where you did not pay Social Security taxes, your Social Security spouse’s or widow’s or widower’s benefits may be reduced.
• Windfall Elimination Provision. The Windfall Elimination Provision primarily affects you if you earned a pension in any job where you did not pay Social Security taxes and you also worked in other jobs long enough to qualify for a Social Security retirement or disability benefit. A modified formula is used to calculate your benefit amount, resulting in a lower Social Security benefit than you otherwise would receive.

Survivors Benefits and Benefits for Children
Benefits can be made available to others based on our benefit should we die or become disabled. Two of those are survivor benefits (spouse) and benefits for children.

• Survivor Benefits. Your widow or widower may be able to receive full benefits at full retirement age. Your widow or widower can receive benefits at any age if she or he takes care of your child who is receiving Social Security benefits and younger than age 16 or disabled.
• Benefits for Children. Children of disabled, retired or deceased parents may be entitled to a benefit. Your child can get benefits if he or she is your biological child, adopted child or dependent stepchild. (In some cases, your child also could be eligible for benefits on his or her grandparents’ earnings.)

To get benefits, a child must have:

• A parent(s) who is disabled or retired and entitled to Social Security benefits; or
• A parent who died after having worked long enough in a job where he or she paid Social Security taxes.
• The child also must be:
  • Unmarried;
  • Younger than age 18;
  • 18-19 years old and a full-time student (no higher than grade 12); or
  • 18 or older and disabled. (The disability must have started before age 22.)

Concluding Thoughts.
Social security benefits have been providing a ‘safety net’ to our citizens since the program came into existence.

Pre-retirement benefit programs like ‘Benefits for Children’ and ‘Surviving Spouses’ provide support to those qualifying families who have lost a breadwinner.

Retirement benefit program options are diverse and not readily understood by many. For some households social security retirement benefits comprise as much as 85% of household income so ensuring that one receives as much as is legally possible of the benefits that they have earned the right to, is so important! Consult with your advisor before you make any decisions. You may well be bound to them for your lifetime!

David Bergmann, CFP®, EA, CLU, ChFC
Managing Principal
The David Bergmann Group
Marina Del Ray, CA

Should I Play The Lottery?

A lot has been written recently about the lottery. There’s a direct correlation between articles written about the lottery and the size of the payouts and with recent ticket price increases, Powerball and Mega Millions jackpots are more often growing to levels that would make even Jay-Z blush. The news hits, the billboards go up and suddenly, there are lines outside of every gas station and convenience store in the country.

I’m not here to bash the lottery. I can even admit, as personal finance expert and blogger Jean Chatzky did in a recent newsletter that when one of the major lotteries reach these fevered pitches, I’ve been known to buy a ticket. But doing a little more digging into our country’s lottery habit has me a little stunned.

For example, a WebMath study reported than one-third of Americans believe the lottery is the only way to become financially stable. One-third. One hundred or so million people who believe that lottery ticket is their only path to financial success.

We know the lottery is a game. We know it is a long shot. In fact, we probably aren’t capable of grasping just how truly big of a long shot it is. Tara Siegel Bernard of the New York Times did a great job in an article earlier this month trying to define the exact odds. Needless to say, they’re staggering.

There’s even a new website, ShouldIPlaytheLottery.com, that will help calculate whether or not the actual payouts and odds of a given lottery are worth the cost.

The point to all this is, the lottery is often most appealing to those who can afford it the least. The pull of potentially solving all of life’s problems with just 5 or 6 lucky numbers overwhelms the facts, which are simple. We’re not going to win.

I hate to be the wet blanket, but as a financial planner, I’m used to the role. If you play the lottery once in a blue moon or as a social activity in a group when the jackpots really get big and know it’s harmless fun, similar to an occasional latte at Starbucks, proceed. We all spend our entertainment money in our own, unique ways. If that few minutes of fun are worth a dollar or two to you, there are worse things you could be doing.

But, if your lottery behavior is much more frequent; if you’re playing both major lotteries, the scratch offs, the nightly state games, etc. in the hopes of winning big. Stop. Take that money and save it. I know you’ve heard this before, but let this be the time you listen.

Save that money. Look at the rest of your spending and where you can cut back there as well. Pick something that you’ve had your heart set on, something that you’d buy without a care with those lotto winnings. Slowly, but surely, watch your money grow. Reward yourself and buy that item, then pick the next savings target. Consider it your own little jackpot. It’s not winning the lottery, but the entertainment value will last much longer and you’ll be well on your way to being a true winner in the long run.

Chip Workman, CFP®, MBA
Lead Advisor
The Asset Advisory Group
Cincinnati, OH

The 5 Biggest Changes in Personal Finance over the Last 20 Years

My son recently turned twenty and it inspired me to reflect on all of the changes in his life as well as in my professional life. My son’s progression has gone from being a baby, to a toddler, to a growing child, to a teenager, and finally to a young adult. He is now trying to figure out his professional place in life as he just finished his first year of college. During that same timeframe, I’ve seen personal-finance go through its own five stages of maturity. Twenty years ago it was more about buying a product, being transaction focused, little reliance on technology, running massive volume plans, and focusing just on the money aspects, not health and psychological aspects.

1. Let’s face it, our culture must sell products and we’re pretty darn good at it. The problem is that the marketing and slick ads of all the things we buy in America today, don’t always match the quality and integrity. I think the biggest move that our industry has made in the last 20 years was to go from selling a product to following a process. The process includes a comprehensive financial plan. The financial plan not only talks about investments but also about understanding debt, figuring out a budget, understanding human capital (what we think of as our skills to make money for ourselves), reviewing your insurance for the major risks in life, and understanding that all of these things are linked together in order to get us all to the finish line.
2. The transaction focus over the years has ebbed and flowed in terms of the hyperactivity in order to get better performance. Back in the olden days, it was about transactions because that’s how many advisers were paid. It was said that advisers are not in the storage business they’re in the moving business. Today the focus is on asset management for a fee, retainers, hourly fees, and project fees rather than commissions. Although I see a bit of a backlash happening in the last few years where it appears technology is getting ahead of the small investor. The advent of massive millisecond transactions have caused us to doubt the integrity of the system which the world of investments is built upon. We had multiple occasions like the “flash crash” and the search for algorithms giving institutions a major-league advantage over the average investor.
3. For those who need help with their finances, the place to start your search is to ask a friend if they know somebody that’s good. Yet the next step is to get on the Internet and search for someone that appears to fit your standards. Even though it’s like trying to take a sip out of a fire hose every time you do a Google search people are finding most of their initial information on the internet. Today, I feel it’s much more of a collaborative effort between the adviser and the client. The adviser gathers the information needed to better help assist the client in making decisions. The best advisers these days are more of a librarian than a master of many disciplines.
4. The financial plans that we put together over the years can be extremely comprehensive and lengthy. The problem with that is that planning by the pound doesn’t always get things done because most people are very busy these days and just want to get down to a summary version. I know that because I do a daily radio show commentary and 14 years ago I had 3 minutes to talk, today I have a minute and 10 seconds. A more modular approach works better because it talks about your specific problem at the moment and how you fix it. I feel that the best plan these days is to have one page versus 100.
5. Probably the most important change that I’ve seen over the last 20 years is that financial planning has gotten much more holistic. It is about looking at the big picture and trying to incorporate wisdom, along with emotions, as we see the springing up of behavioral economics and why we do what we do. Reading a book like Daniel Kahneman’s Thinking, Fast and Slow (he was the first psychologist to win a Nobel Economic prize) should be mandatory for anybody who’s going to invest or put together a financial plan. It’s really critical to try and take health, wellness, happiness, human capital, emotions, relations, and wealth together as they are all part of the playing field.

The world of financial planning and investment advisory has moved steadily in the right direction over the last 20 years and I hope that it will continue to do so. There is certainly a lot of room for improvement yet I feel that some of the breakthroughs that we’ve seen in healthcare and technology over the last two decades are going to find their way into a simpler, more comprehensive blend of our money and life connections. Robbers used to say, “Your money or your life.” The next phase of financial planning is going to be “Your money and your life!”

Dave Caruso, CFP®
Certified Financial Planner™
Coastal Capital Group
Danvers, MA

Young Investors Key to Beating the Market

Want to know how to beat the market? “Sure,” you may say, “it’s possible. If I spent my every waking hour researching undervalued companies.”

But, what if I told you I had a fool proof way for those with time to spare to win against the market, without searching rummage shops for discarded crystal balls, or trusting in your uncle’s stock advice? And on top of that, even the most novice investor can use this strategy and win?

Impossible? Read on.

The way to beat the market isn’t by finding the next hot mutual fund manager or dedicating yourself to becoming the next Warren Buffett, it’s simply how you manage your tilt.

Your “tilt” is how your portfolio is invested in the market. You hopefully are diversified over the universe of stocks, but your tilt tells your holdings of large or mega companies versus small or medium sized firms. It also tells if you tend to invest in companies trading at premiums or discounts to the overall market.

More often than not, most retirement investors I meet are “top heavy,” investing in a mix that doesn’t stray too far from the market represented to a higher degree by largest companies, or a mix that resembles the S&P 500 (most people refer to this as the market). This is often the case if you’re investing in a Target Retirement Date fund, or any other fund or funds, or have a managed account.

However, is this the best mix when you’re young and have time to take risks?

By shifting the weights of your portfolio towards areas of the market that tend to have higher degrees of return (and volatility), you may supercharge your retirement accounts when starting out, specifically by using a greater share than the market of smaller companies with more room to grow, and stocks that are trading at a discount to the market (value stocks).

How much better can you do than the S&P 500 by including more small and value in your mix?
The S&P 500 averaged 9.5% per year since 1928. One can not invest in an index, but if you could and had invested $1 in the S&P 500 way back then, you would have had $3,530 at the end of 2012.

Using a similar strategy of owning the stock market, but by shifting the tilt to include more small, and more value, a portfolio that tracks Dimensional Fund Advisors US Adjusted Market Value Index would have averaged 11.7% during the same period. An investment of $1 would have grown to $11,998.

A strategy of tilting more towards small and value stocks will be more volatile than the market, so don’t think this approach will only lead to gains; you still have to master the skill of not watching your accounts rise and fall in the short run. However, while you’re accumulating and have a long time horizon, volatility can be your friend.

Robert Schmansky, CFP®
Financial Advisor
Clear Financial Advisors, LLC
Royal Oak, MI

Health Care Reform and You

The Patient Protection and Affordable Care Act, or PPACA, has many facets to it and its implementation will be done over several years. Provisions of the Act have ramifications for businesses and individuals so we will focus on the Health Care Reform Act and its impact on you as an individual. Since we are at about mid-year 2013 I wanted to focus on the Act for this year and next. To summarize 2013 and 2014, I offer the following …

In 2013,

• Medicare Part A tax rate on wages goes up from 1.45% to 2.35% for certain individuals making more than $200,000 and couples making more than $250,000.
• ‘Investment Income’ will have an additional 3.8% tax imposed if you make more than the $200,000 or $250,000.
• Your employer must provide employees with info on employer plans, health exchanges and subsidies.
• Your flexible spending account ‘set-aside’ will be limited to $2,500 per individual.
• Medical expense deductions will not be deductible until they exceed 10% of AGI rather than the current 7.5%.

Beginning in 2014,

• Waiting periods before you can enroll in an employer sponsored plan cannot be more than 90 days.
• Insurance carriers will be required to cover everyone, even those with preexisting medical conditions.
• If you are not covered through an employer health plan and do not purchase minimum essential health coverage on your own, you will have to pay a yearly fine of $95 per person ($695 in 2016) or 1% of taxable income (2.5% in 2016), whichever is greater. Individuals who do not have affordable minimum essential coverage from their employer will be eligible for tax credit subsidies for their health insurance purchase on a state exchange if their income is below 400 percent of federal poverty level – about $46,000. Minimum essential coverage includes Medicare, Medicaid, CHIP, TRICARE, individual insurance, grandfathered plans, and eligible employer-sponsored plans. Workers compensation and limited-scope dental or vision benefits are not considered minimum essential health coverage.
• Group health plans, including grandfathered plans, may not impose cost-sharing amounts (i.e., copays or deductibles) that are more than the maximum allowed for high-deductible health plans (currently these limits are $5,000 for an individual and $10,000 for a family coverage). After 2014, these amounts will be adjusted for health insurance premium inflation. Group health plans, including grandfathered plans, may no longer include more than restricted annual or any lifetime dollar limits on essential health benefits for participants. Limits may exist in and after 2014 for non-essential benefits.
• Each State must establish health insurance exchanges for individuals and small businesses defined, federally, as employers with less than 100 employees

What will the health insurance exchanges and pricing look like?

Obviously, each State is different. Some States run their own exchanges others have opted to let the Federal government run their State programs. There has been a lot said and predicted about policy pricing given the mandates of coverage and benefits provided for in the Act.

In California, we got our first look at our health care plans to be offered on California’s exchange. Our State will have 19 rating regions which will have 13 health carriers offering four plan types to Californians – Platinum, Gold, Silver and Bronze. California’s Silver Plan will have region costs that will vary for a 40-year-old from the low $200’s per month to the low $400’s per month depending on the region you live in. This is similar to our ‘zip-code-pricing’ currently used by companies in our State. The silver plan, which is expected to cover 70% of an individual’s health care expenses, has a $2,000 deductible, $45 copay for primary care visits, a $250 emergency room co-pay and a maximum annual out-of-pocket expense of $6,350.

According to Chad Terhune of the LA Times, for our 40-year old purchasing a Silver Plan and living in the Los Angeles County region they will be paying somewhere between $242 and $325 a month whereas a similarly designed plan today would cost $321 albeit with more comprehensive benefits. Statewide, considering all counties, the average premium in the State is $177. So the results thus far seem pleasing given the chatter about price increases.

In Ohio they have opted for the Federal government administered program to run the Ohio exchange. Fourteen carriers have submitted 214 different plans to the federal administered exchange. The price ranges for minimum essential health benefits through the federal administered exchanges range from $282 and $577. According to Ohio officials that will be an 88% increase in individual health policy costs for its citizens. . Other preliminary pricing for the 40-year old purchasing a Silver Plan has come in at a low of $205 in one region of Oregon to a high of $413 in a region in Vermont. The Congressional Budget Office had projected nationwide average monthly costs for the second lowest Silver Plan to average about $433. Results are still coming in so stay tuned.

One of the other provisions of PPACA is that health insurance companies must issue rebates to individuals and small businesses if the health insurance company does not spend at least 80% of their annual premiums on medical care. In recent filings with regulators, Blue Shield of California said it owed $24.5 million in rebates to thousands of small firms and similarly Blue Cross of California will be rebating $12 million.

Comments and Planning Implications.

So there is a lot to be played out yet with respect to the law and its implementation and pricing. Businesses have a lot of hoops to jump through with larger companies, publicly traded for example, probably less (a relative term, obviously) impacted than the smaller businesses especially those with more than 50 employees and less than 200. How the pricing and number of carriers willing to provide policies in your state will pan out between now and the end of the year is still a work in progress. For those who do not have insurance currently, or those who have policies that do not provide minimum essential coverage, consult with your advisor to see how the blend of tax subsidies, tax penalties and other issues of PPACA impact you, your family and your financial plans. To your healthy and successful financial future!

David Bergmann, CFP®, EA, CLU, ChFC
Managing Principal
The David Bergmann Group
Marina Del Ray, CA

I Don’t Understand My Financial Plan

Recently reflecting on some of cinema’s greatest intellectual quotations, I was reminded of movie Detective James Carter’s infamous query in 1998’s Rush Hour. Chris Tucker’s character eloquently asked Jackie Chan’s character, Chinese top cop Detective Lee, “Do you understand the words that are coming out of my mouth?”

Ok, maybe not one of the most memorable moments on the silver screen, but a funny movie that stands up well fifteen years later. But, that’s not what we’re here to discuss. The quote actually jumped into my head during a discussion about how we communicate with one another, especially in advice-based relationships.

A seemingly infinite amount of information is available on virtually every issue known to humankind, all searchable within seconds from any place with access to the World Wide Web. How we process this information, understand its meaning and filter the good, the bad and the ugly really depends largely on whether or not the information is communicated in a manner we can comprehend.

This certainly has its applications in the world of personal finance. I’d argue the personal finance industry at-large, more often than not, adds layer upon layer of complexity to relatively simple concepts in order to add an air of sophistication and justify an unnecessary amount of cost. I won’t go further on that today except to say that if something sounds too good to be true, you can’t understand it, what it costs and what risks are involved, run away.
Instead, I want to focus on the authentic struggle many financial planners and advisors have in working to develop the right communication strategy based on their clients’ needs.

Scalability allows a company to grow, taking a successful model and increasingly diluting it for consumption by an increasingly growing audience. The problem with scale in the financial planning business is that those seeking advice are all at different points in their lives, with different goals, different resources to meet those goals and different ways to achieve success in meeting those goals.

We also all comprehend things differently, learn through different stimuli and apply concepts to our daily lives at different speeds. Confused? Me too. What does all this mean?

It means that we have a gap in the relationship between financial planning professional and client that both sides have to work to fill. Financial planners need to ensure they have a process in place to help identify how best to communicate concepts and recommendations in a manner that best suits each client involved.

The client, on the other hand, has the duty to speak up when they don’t understand something in their plan, be it an investment recommendation, the path to reach a savings goal or a concept or term used to illustrate a point or answer a question. “I don’t know” or “I don’t understand this” are not only acceptable responses to questions posed or information presented by a financial advisor, but should be a welcome opportunity for the advisor to take an improved approach in helping the client comprehend, thereby teaching the advisor a little more about communicating with their client and challenging them to find better ways to illustrate concepts in the future.

The bottom line is, we all need to be more vigilant about what we understand about the decisions we make and are made for us in our daily lives. When it comes to an advice-based relationship, the more we question, challenge, and discuss, the deeper, more rewarding the relationship will be. Wowing someone with the ability to use big, complicated words to make a point isn’t a talent. Effectively communicating in a manner that gives your audience the best opportunity to understand is.

Chip Workman, CFP®, MBA
Lead Advisor
The Asset Advisory Group
Cincinnati, OH

Are You an Investor or Speculator?

How can you tell if you are you an investor or a speculator? Many casual investors buy stocks and assume they are investing, but in reality, they are actually speculating. True investing entails conducting a thorough analysis of a company, determining whether the current price is justified, deciding whether the stock would be a good addition to your portfolio, and repeating the process periodically; speculation is simply buying a stock because you think it’s a good company or you heard a good tip, but you really don’t know how the company makes money, who its competitors are, or in some cases, even what it does. Most people would say they are an investor, but unless you are employing the fundamental analysis discussed below, you may actually be a speculator.

Top-Down

Suppose you believe that the new Affordable Care Act will benefit pharmaceutical companies and you want to capitalize on that potential gain. In a top-down approach, you would first generate a list of all the publicly traded pharmaceutical companies. Then you would compare them among each other using that industry’s metric. If any of the companies are non-US companies, then you need to translate the company’s currency to the US dollar for an equal comparison. Some common comparison metrics include: profit margins, sales, market capitalization, market penetration, debt/equity, etc. In addition, each industry has its own unique metric. For example, airlines use (revenues per passenger miles) and hotels use (average daily rate). Once you have identified the best stock within your filtered list, then you can determine whether the stock price is cheap or expensive versus its competitors.

Bottom-Up

Suppose you are an avid Facebook user and want to invest in the stock. In a bottom-up approach, you would first obtain financial information for Facebook to understand how it makes money. What are its income sources: advertising, selling products, partnerships? How much of their income comes from each source? Who are its competitors and what do their numbers look like? Keep in mind, just because a company makes a ton of money, it still doesn’t make it a good investment. Facebook made $5 billion in 2012 while Microsoft made $74 billion in 2012, yet Facebook stock trades at almost 143 times the value of Microsoft.

Research Reports

Some investors prefer to rely on research reports prepared by prominent analysts at investment banks. One of the many lessons the recent financial crisis taught us is that investment banks have countless conflicts of interest. There is no shortage of headlines where an investment bank issued research reports where they also did investment banking for the company in question. Unless the research is truly independent and neither the analyst nor their firms have a vested interest in the companies they cover, their assessment of a company is tainted by their firm’s relationship with the company being reviewed.

As you can see, researching individual stocks is very labor intensive whether you use the top-down or bottom-up approach. The analysis doesn’t stop when you buy the stock, you must continue to monitor the company (not just the stock price) to ensure it still meets your criteria. It’s ok to invest in stocks, but investors must recognize that unless they conduct ongoing and thorough analysis, they are merely gambling.

Ara Oghoorian, CFP®, CFA
Founder and President
ACap Asset Management
Los Angeles, CA

Before the Eulogy

I recently attended a funeral mass for the father of a client. It was a wonderful occasion to reflect on a well lived life of more than 90 years. Our client and his siblings were able to eulogize and honor their father beautifully in what was a touching ceremony all around.

I was especially happy for this client who, recognizing that his father’s health wasn’t always going to be a certainty, had spent the last year making some extra trips back home to spend time with his Dad. Having this time to share, visit, debate and enjoy each other’s company in the time leading up to his passing must have meant a great deal to both.

I recount all this as it dawned on me during the ceremony how often we miss an opportunity in waiting until someone is gone to really reflect on their role in our lives and how fortunate our client was to not have missed that opportunity. Eulogies serve a great purpose for loved ones to share and remember all the wonderful things about those that have passed, but the greater opportunity is to share those things with those we care about while they’re still with us.

This is certainly not a new concept, but one that often makes the ever growing list we all carry around that contains our “important, but not urgent” best intentions. We take for granted that others know how much we truly value them or, even if we do feel it needs to be said, are too embarrassed, proud or just don’t have the words to explain to another person what kind of impact they’ve had in our lives.

This blog has touched on many of the important issues surrounding proper estate planning, having one’s affairs in order and ensuring that everything that can be done to carry out our wishes is in place. That’s not a message we’re likely to stop delivering any time soon. It’s a crucial component to both our financial and emotional peace of mind. All I suggest is adding letting those we care about know what we value about them to that estate planning to-do list.

Adding to these kinds of lists typically increases the potential burden and reduces the likelihood that we will actually carry them out. My hope is that this particular suggestion will actually incent us to take action. Adding something that should be rewarding for both you and those you love will hopefully move your end of life plans up your to-do list.

So, while you’re deciding who should take care of your affairs after you’re gone, how to manage your estate for minor children, whether there is sufficient insurance in place to cover your income, or any of the other many questions surrounding your estate, be sure to share not only your plans, but what makes your loved ones such a special part of your life.

The result could mean a great deal to you and those you love both during and after all are here to enjoy.

Chip Workman, CFP®, MBA
Lead Advisor
The Asset Advisory Group
Cincinnati, OH

FAMILY TAXATION

Most of what we, as taxpayers, understand about taxation comes from our focus on taxes and how they affect us either individually or as a business. With the business owner, tax strategies will often be managed in aggregate between the business tax return and the owner’s personal return so as to optimize benefits and deductions and minimize taxes.

Rarely, however, do households look at aggregate family taxation to develop strategies for life’s expenditure requirements or desires – college education, first time homebuyer assistance, weddings, family member ‘support’, inter vivos wealth transfers, etc., etc., etc. The concept here is one of wealth and resources management through family income shifting and tax effect optimization. When, as practitioners, we do see family taxation considered in family financial activities there is usually a CERTIFIED FINANCIAL PLANNING™ professional involved.

So what are some of those family taxation considerations that the “pro’s” use for income shifting and tax effect optimization?

ASSETS YOU WON’T NEED AND ASSETS FOR SPECIFICALLY FUNDED PURPOSES

If you gift assets away, $14,000 per individual in 2013, they become the property of the transferee, your daughter for example, presuming you made what is called an irrevocable gift. The income on that asset will now become the income of, in this case, your daughter. If the asset gifted away is sold by your daughter, a gain or loss may be recognized by her based on your original purchase value and the tax rate upon the sale by the daughter will generally be based on the holding period (long term or short term) starting with you, not your daughter’s date of ownership. The strategy here for tax effect optimization is to have the income or gain from the asset taxed at the lowest rate of a family member.

If the gift was made to a minor, it would be made through a Uniform Transfer to Minors Account or a Uniform Gift to Minors Account. The purpose of this type of arrangement is to provide oversight of the asset until the child reaches the age of majority in the state. One issue that comes up with gifts to minors (and to those under age 24) is what is called the “Kiddie Tax”. The “Kiddie Tax” may limit the tax benefit from this income shifting opportunity by subjecting amounts of unearned income exceeding $2,000, in 2013, to taxation at the applicable parent’s tax rate.

This shifting assets (income) strategy also is designed to take assets that might be taxed upon death at an estate tax rate that might reach 40% and puts them into the hands of the beneficiary whose individual tax rates might be, today, perhaps as high as 43.4%. The ‘estate’ tax ‘individual’ tax rate differential obviously is not as compelling today (individual rate is higher than the estate rate) for the avoid estate taxation argument of inter vivos wealth transfers nonetheless they should be looked at depending on the facts of each situation. Additionally estates are not even taxed until they exceed $5,250,000 in 2013 so for most there will never be, lol, an estate tax to worry about.

An advantage to your receiving an asset after someone dies rather than having it gifted to you during their lifetime is that there is a step-up in value (presuming an increased value in the asset) to the value at the date of death. For example, if Mom was the last to die and she and Dad paid $100,000 for a home that you inherit when it is valued at $900,000 and you sell it for $900,000 there is no gain or loss. Under the gift scenario, based on these facts alone, the $800,000 gain would not be ‘stepped up’ so a tax would be due on that appreciated value upon a dispositive event – a sale. With respect to this ‘step up in value concept’, one should be aware that IRA’s, annuities, Pensions and Retirement Accounts that have never been taxed do not get a step up in basis.

So if we know we would not need an asset in our lifetime, or if we know that we are dedicating an asset for a specific life expenditure occurring at some date in the future (college, bar or bat mitzvah, etc.), would we benefit from shifting that asset, and the income thereupon, to another in order to most optimally accumulate funds for our dedicated expenditure purpose? Would that give us more available for the expenditure or, perhaps, give us the amount needed sooner? Should we do this type of thing now, and if not, when? In doing so, would we be putting assets into the hands of someone, a child for example, who then would be precluded, for example, from getting financial aid for school because they ‘owned’ too much in assets? Would the asset transferred become subject to the control or potential attachment of another? There are lots of causes and effects to any strategy hence the need to think not only of tax optimization but asset preservation and protection.

EMPLOYING FAMILY MEMBERS IN A BUSINESS OR IN THE HOUSEHOLD

If we have a business, or if we have a housekeeper or maintenance worker (gardener), rather than employing other than a family member to work in those activities, we could employ our child, family member, or related children in doing that work. An advantage to employing family members in our business or in our household is that they will have earned income shifted to, or earned by, them by being paid a wage. Earned income can be excluded from taxation up to the amount of our personal exemption and standard deduction. So for a 16 year old child claimed as a dependent on her parent’s tax return helping with filing and office clean up during the year in Mom’s business they could earn $6,100 + $1,000 in income and not pay any taxes on that income. With just $6,000 of ‘earned’ income the child could fund a Roth IRA which would not be a tax deduction to the child but it wouldn’t be needed as such anyway. The advantage to a Roth over other types of IRAs is that you can access your contributions to a Roth IRA at any time. You do not have to wait five years. You do not have to wait until age 59 ½. Contributions to Roth’s can be accessed at any time, earnings on Roth’s, however, are another story.

Even if there is not a business for a child to work in they certainly can do work around the home, do gardening or do baby-sitting, for example, all of which are examples of earning ‘earned’ income in a household doing domestic services. Of course, unlike the business activity, employment of your children in the household would not provide a tax deduction to the family just like the gardener or pool man is not deductible to the family today. For certain businesses employing under age 18 family members there may even be payroll taxes avoided (See Pub 15 Page 12).

CONCLUDING THOUGHTS

Making the most of what we are able to earn and keep for ourselves is so important to families today. Parents who have worked their whole lives to have what they have want to ensure what they have earned and accumulated is most fully shared by those they wish to benefit. Having income or transfer taxes eat up what we have or are able to acquire is a terrible thing if it can be avoided. Making the best of good family tax strategies is a wonderful thing. Take the time to think about your fiscal responsibilities and life’s expenditures and see if you are optimizing your resources for them.

David Bergmann, CFP®, EA, CLU, ChFC
Managing Principal
The David Bergmann Group
Marina Del Ray, CA

How Do Options Work?

What if you had had a hunch that Microsoft stock would skyrocket when it introduced Windows 8? Would you have risked purchasing Microsoft stock on just a hunch? Or what if you owned a hundred shares of Apple but wanted to protect yourself from the stock’s recent declines? Well you can do both through options. An option is a standardized contract to either buy or sell a stock at a pre-determined price within a specific date. The key word is option; if you buy an option contract, you have the option, not the obligation, to exercise your contract if it makes financial sense for you at that future date. Option trading has been around for thousands of years and is widely used by many people to either protect the value of an existing investment or speculate on the future movement of an asset. There are two types of option contracts: calls and puts. A call option gives the owner the option to buy a stock at a set price in the future, whereas a put option gives the owner the option to sell a stock at a set price in the future. Let’s see how each one works.

Example of a Put Option:

A put option grants you the right to sell a stock at a set price. An investor buys a put option if she feels the price of a stock is going to decline and wants to lock-in a particular price. Let’s look at a specific example: It is March, and you own 100 shares of Apple stock (symbol: AAPL) that you bought for $400. You think that the price of Apple will decline from its current price of $457 in the coming months and you want to protect your gains. Each option controls 100 shares of the underlying stock, so 1 put option would give you the protection you seek. You could buy a $450 put option that expires in 3 months (May). If the price of Apple goes below $450 between now and May, you can exercise your option and sell your shares at $450. If the price of Apple doesn’t get that low, then you would keep your shares and simply let your option expire.

Example of a Call Option:

A call option grants you the right to buy a stock at a specific price. You would buy a call option if you think the price of a stock will rise within a given time and you wanted to benefit from the expected rise. Continuing with our Apple example, assume you don’t own the stock, but you think that Apple stock will rise in the next couple of months. You could buy an option that expires in May that allows you to buy Apple stock at $500. If the price of Apple rises above $500, you could exercise your call option and buy the stock at $500. Again, if the price of Apple does not rise by the May expiration date, you simply let your option expire.

As you can imagine, options can be useful for certain investors who are interested in: protecting a large gain; benefiting from a stock’s rise/fall without actually owning the stock; and in some cases, diversifying. While there are only two types of options (calls and puts), there are a multitude of strategies an investor can employ by combining calls and puts.

Though it may seem that options as part of your portfolio is a no-brainer, this article is simply an introduction to options. It is important to understand that options are quite complicated and can be rather risky. Options should only be used by experienced investors who really understand the mechanics of options – note, there is no easy money in trading options. Some people brag about making a lot of money in options, but be careful because option prices move very quickly, and while you can quickly make a lot of money, you can also easily lose a lot of money in just a single day.

Ara Oghoorian, CFP®, CFA
Founder and President
ACap Asset Management
Los Angeles, CA