2014 in the Books

Credit: Stuart Miles

2014 has flown by. I’m starting to relate more and more to Ferris Bueller’s famous quote: “Life moves pretty fast. If you don't stop and look around once in a while, you could miss it.” That being said, this is not a time to take your foot off the financial planning gas pedal.

As I’ve proposed in years before, I’d strongly advise you to take a few moments during the holidays and look at your financial situation. Don’t just say you’re going to lose weight, take a trip, or volunteer more in 2015, make some financial resolutions, too! My wife and I plan to try to boost our cash savings by 25%, make Roth IRA contributions, and increase what we contribute to our employers’ 401(k) plans by a few percentage points. What are you going to do in 2015 to make progress financially?

2014 was a good year for 2MuchCents as there have now been more than 27,000 unique views! Viewership was up over 200% this year! I thank all of you for your support and continued sharing of my posts. I couldn't do it without your help!

The top five posts for 2014 were:

1. Tips for Buying a Car
2. How to Plan an Affordable Trip
3. Freedom from Student Loans
4. Quit It! (bad financial habits not to do)
5. Summer Jobs, Life Lessons

If you missed any of them, please give them a read now.

 

It’s my plan to keep at it in 2015. I’m already working on a few posts that will cover topics such as buying vs. renting a house, freezing your credit, things to consider if you’re moving, stress-free ways to pay down debt, and why watching your portfolio go down hurts more than watching your portfolio go up feels good. I hope you’ll check them out.

 

Happy holidays. I wish you and your family a happy, healthy, and fulfilling 2015!

 

-Tom

My Default Savings Plan

Credit: stockimages

I don’t know about you, but I often do better with a plan. To my wife’s credit, she’s helped me become more able to enjoy going along with an unexpected or unanticipated opportunity, but there are still some areas in my life where I need some “navigational buoys” so to speak. One of those areas is savings, and I don’t think I’m alone in that regard. Without a savings plan in place, money seems to burn holes in pockets and disappear.

With that in mind, I’d like to offer up my default savings plan. Now, this plan is not exactly what I always do, it is not what I always advise accumulating clients to do, and it might not even be what I’d specifically recommend for you, but I do believe it is a good place to start for most people. Here goes:

1. Try to live off of 60% -70% of your take-home pay. If you so choose, tithe or donate 10%, spend 10% on fun, and save 10% - 20%.
2. Of the 10% - 20% I recommend you at least save, I’d suggest you consider doing the following, and in the following order:
1. Save six months’ worth of your monthly expenses in a cash savings account separate from your day-to-day checking account.
2. Pay down any and all outstanding credit card debt you may have and keep it paid off!
3. If applicable, make sure you are contributing to your employer’s retirement plan the amount or percentage you need to in order to maximize their matching contribution.
3. Once you’ve addressed number two, I’d propose making maximum IRA contributions (probably to a Roth IRA if you can, but it could depend…).
4. Once number two and number three are checked off, I’d propose you utilize your savings in the following ways:

• 1/3 as additional contributions to your employer’s retirement plan.
• 1/3 as contributions to a taxable brokerage account (after all, you may want to be able to access some of your investments penalty-free before your 50s).
• 1/3 as additional principal payments to reduce your school, car, home, or other debt(s).

Sure, there might be a college fund for a little one, a pending basement renovation, or an upcoming anniversary trip that needs some of your savings firepower, but this should at least get you started. It is my hope that you will use my plan as your plan. It is my hope that you will use this plan as your policy as your personal and financial situation progresses, so that one day, you don’t look back and wonder where all of that hard-earned cash went. However, if you want to talk specifics about your situation, I’m happy to. You know where to find me.

 

-Tom

Warranties

Credit: nirots

Let’s say you have just finished picking out something such as a new smartphone, a refrigerator, or a car. Doesn’t it feel good? All of that weight that’s been on you as you try to make what you think is an informed decision based on your hasty research and the salesperson’s rapid jargon almost immediately leaves your shoulders just as soon as you utter a derivation of the words, “I’ll take it.” But alas, your relief is short lived. That ever so friendly salesperson has one more devious question at their disposal: "Would you like the extended warranty?" Oh, the humanity!

Personally, I’ve always been inconsistent on extended warranties. Sometimes I go with them, sometimes I don’t. My general rule of thumb has been if it is really expensive or if there is a pretty good chance that I can mess it up, I go with the extended warranty. If it’s not that expensive of a gadget or gizmo, it’s really good quality, or I think there is a pretty good chance I can protect it, I usually don’t. So when someone recently asked me to weigh in on whether extended warranties are a good financial investment or not, I had some work to do, and I’d like to share what I found.

First of all, let’s call a spade a spade. An extended warranty is nothing more than a bet. If we were talking about the Dallas Cowboys and you asked me if you should make a bet on their game this week, the answer is maybe. You might bet correctly, and then of course it was a good idea to bet, or you might bet incorrectly, and then of course it was a terrible idea for you to bet. Only time will tell! Extended warranties are just like bets, only we’re talking about the Whirlpool Front-Load Washers, not the Dallas Cowboys.

Based on my research, and now, in my opinion, extended warranties do not seem to often be a good financial investment. Dr. Rajiv Sinha, a professor of marketing at Arizona State University who is currently working on a research paper about warranties seems to put it best when he says, “From a purely economic standpoint, it usually doesn’t make sense to buy an extended warranty, but consumers aren’t always rational. When buying a car, iPad, phone, home, or any expensive item that might break, they are willing to pay for peace of mind.” In a recent U.S. News and World Report article, Dr. Sinha continues making his case by offering, “Consumers aren’t buying extended warranties for such products because they think they’ll break, but because they’ll feel bad if they do break and didn’t buy the warranty. You wouldn’t expect a washing machine to fail, but if it breaks after a year, you’ll have wished you bought the warranty.” How true are his words? They are somehow profound and obvious at the same time.

Other tidbits I found were...

• If you are buying a typically reliable product from a reliable brand, you likely don’t need an extended warranty. If it’s going to break, the odds are it will happen within the original warranty or return window.
• Laptops and tablets are more likely worth getting warranties on than desktop computers. Their parts are smaller, and they will probably face more wear and tear.
• If the price of an extended warranty is anywhere near the fair market value of whatever widget you are about to purchase, you probably don’t want it. Besides, aren’t you going to want the latest and greatest version that’s faster and more lightweight in a few years anyway?
• Used cars and previously lived in houses may be good items to buy an extended warranty on. No matter what CARFAX or the convincing home inspector tells you, there has got to be a reason someone doesn’t want that car or house anymore; otherwise they’d still be driving it or living in it! Like all warranties, this could be hit or miss, but no one wants to get stuck with a lemon - especially a big one!
• Before you add on an extended warranty, see what basic warranty you are getting. If the product, store, or even your credit card offers you a longer time frame or additional guarantees, you may not need that extended warranty emotionally or financially!
• If you are negotiating something big, such as a house or a car, and you’re close to agreeing on a price, see if you can get a more favorable extended warranty. There is no harm in asking, and as long as you are not paying a lot more than you were already willing to pay, you’re sort of getting an extended peace of mind for free.

 

So what should you say the next time someone asks you if you want an extended warranty? It depends. I’d listen to your head and consider your wallet or purse, but I’d probably still go with my heart. After all, it’s just a bet - one that I hope you win.

 

-Tom

Landing the Plane

Credit: potowizard

Many of you know that I love analogies. One of my favorites that I use with people who are nearing the end of their careers is that they should think about entering into retirement like landing a plane. Whether the gainfully-employed ride has been smooth sailing or more than a little turbulent doesn’t really change the fact that you need to be prepared to land the plane. The retirement landing can be graceful and you can reach your home destination smiling, or the landing can go pretty poorly and even end in a fiery crash of sorts. Most people prefer the graceful landing that ends with smiling, so if you’re thinking about retirement, I thought I’d share a few tips on how you might want to land your very own plane.

1. Get Your Cash Up – When working, I recommend most people keep around three to six months’ worth of their core living expenses in cash. In retirement, I’ve found that most people prefer a little more. If you have a particular cash number that helps you sleep better, go for it, but otherwise I normally recommend one to two years’ worth of your core living expenses in cash. That may sound a little crazy to you, but when your paycheck goes away (or goes down) when you do retire and there is a cyclical pullback in the stock market, you might feel differently.
2. Have a Plan for Where Your Income Will Come From – If you have a pension, that’s really great, but where is the rest of the cash you need to fund your lifestyle going to come from? Randomly pulling cash from various investment accounts and haphazardly deciding when to turn on an annuity or start drawing Social Security is usually not a good strategy. You need a plan! There are tax implications and timing implications that need to be considered if you want to land as efficiently and effectively as possible!
3. Strive to be Debt-Free – This may require using a decent chunk of your assets, or you might even decide that you want to work a year or two longer so you can do this, but if you can go into retirement debt-free, it is huge! Imagine how it feels to still get that mortgage bill you’re used to when you’re not getting that pay check you’re used to. Being debt-free going into retirement not only really seems to help many of my clients psychologically, but it also helps take pressure off cash and investment accounts. If your monthly mortgage payment is making up a sizable chunk of your fixed expenses, and you can make it disappear before you lower your landing gear, I’d be willing to bet you’ll feel a lot better.
4. Make the Big Purchases Before You Retire – What? I’m telling you to spend money? Well, sort of. This may also sound a little batty, but if you are going to need something such as a new car or a new roof in the next couple of years, I’d probably suggest you go ahead and accelerate that purchase while you’re still working and making the big(ger) bucks. Assuming your retirement income will be a little lower than your working income, I’ve found that going ahead and taking care of some of the big ticket items can make your landing feel a little smoother. Put simply, big expenses can hurt the psyche and the pocketbook, but they seem to hurt less if you’re still working.
5. Get to Know Your New Boss/Co-Worker – I’m certainly not a therapist, but I am observant enough to have noted that some people’s transition to a little more family time seems to go better than others. Sure, you’ll have to get used to spending a lot more time with your husband or wife, but that knife cuts both ways; they will have to get used to spending a lot more time with you, too! Working to improve your relationship with your spouse and developing some mutual and separate activities before you retire are probably really good ideas. I’ve heard it said that retirement is twice as much spouse and half as much money! I don’t know about that, but you get the point. Consider some relationship planning before you exit your plane and head to baggage claim.
6. Think About What You’re Going to Do Once You’ve Landed – I know I said I’m not a therapist, but you need a plan for you when you retire. My busy, ambitious, and hardworking clients who eat, sleep, and bleed what they do for a living tell me that retiring can feel like jumping off of a moving train. The emotions of that jump and coming to a relative stop can be a tough adjustment. Take a trip, sleep in for a few weeks, do the crossword, but have a plan for after that. Things such as volunteer work, periodic consulting, gardening, car restoring, or woodworking can be good things. You’re going to want to have something to do. Retiring is a treat for some, but I’ve seen it be a difficult pill for others to swallow. Do as you wish, but I’d suggest you have some hobbies and groups lined up before you bid your boss adieu.

 

I don’t know about you, but I think the landing is one of the most important parts of a flight. If you’re beginning your descent and could use a little help making your approach, please let me know. This has been your captain speaking.

 

-Tom

Quit It!

Credit: Stuart Miles

A lot of my posts aren’t meant to get you to actually do something. Most of them are just supposed to make you think about life and your finances, and occasionally laugh a little. Some of my posts are more of a “call to action,” where it is my hope that you will either continue doing the good practices you are already doing or change potentially troublesome ways and proceed differently. Either way, today’s post is a little different. I’m not going to suggest that you do this or that you do that. Instead, I’m going to share several, common, bad financial habits that I see a lot of and ask you NOT to do them.

1. Carrying a Credit Card Balance – You should pay off your credit cards each and every month without exception, period. If there is an exception or you’re not at a place where you can pay off all of your credit cards, you really should adjust your lifestyle until you can. The impending doom of credit card debt and its frighteningly high interest rate(s) just aren’t worth it. Use credit cards for your convenience and to earn perks, but not to buy what you will have trouble affording.
2. Having Too Small of a Rainy Day Fund – Do you really have savings? I’m not just talking about specifically having a savings account – I mean actual savings. If you could not withstand a temporary period of unemployment, you could not afford a used car should something happen to your current mode of transportation, or you would have trouble paying your maximum health insurance deductible, you probably haven’t saved enough. Sure, it’s not fun seeing all of that cash just sitting there, but it does feel good knowing it’s there if you need it, and unless you’re a lot luckier than most, at some point in life, you are going to have a rainy day.
3. Having No Idea Where It’s Going – Want to try something that can be a little scary? Annualize your take-home pay (your paycheck after taxes, insurance, 401(k) savings, etc.), and then back out your annualized fixed expenses such as your mortgage, car payment, and utilities. What happened to all that’s left? Where did it go? If you can’t speak to where a large part of your remaining income went, that may mean you could have better utilized your cash flow towards savings, investing, and debt reduction as opposed to, well, wherever it went.
4. Saving for College, Not Retirement – This one leads me to a serious and not so pleasant question: Would you rather your child have to pay for college or have to pay to look after you in retirement? I know the answer is neither, but in some cases, that may not be an option. Saving for a child’s college expenses is an admirable act of love, but it probably should not be done if it jeopardizes your own financial independence. Children could get scholarships, they could be athletes, they could be artists, and they might not even want or need to go to college. Save for both if you can, but please remember that looking after your own retirement is helping your children in the long run, too!
5. Letting One Spouse Do It All – Unfortunately, I see this time and time again where one spouse is the dominant financial spouse. I’m not necessarily talking the largest “bread winner” here, I’m talking about the situation where one spouse pays all of the bills, balances all of the cash accounts, knows all of the passwords and secret question answers, and keeps all of the files. As long as no one becomes disabled, decides to get a divorce, or dies, having a dominant financial spouse could be fine, but it is a little dangerous. If you have a spouse, I’d encourage you to either split up and alternate some of the duties or at least agree to formally go over your finances once or twice a year. This builds trust, leads to good conversations, and helps make sure the back-up financial quarterback gets some reps should the starting financial quarterback go down.

 

If you’re reading this post, it’s my hope and belief that you are already not plagued with many of these bad habits, but if you are, quit it! If you know a friend or family member who is plagued with some of these bad habits and think of this post, please share it!

 

-Tom

What You Need to Save to Reach $1M

Credit: cooldesign

There is something magical about one million dollars. A lot of people seem to view it as the line between rich and not rich. I don’t buy that as I’ve seen plenty of people with less than seven digits who are personally and financially wealthy, and I’ve seen plenty of people with seven digits or more who are personally “starving” and somehow still feel financially poor. Now that I have car payments and house payments and see taxes and health insurance expenses deducted from my paycheck, I can also see how, over time, someone could go through a million dollars. I think it’s the act of having to use a second comma to write out "$1,000,000” that makes it such a big deal.

I don’t know whether you’re trying to become a millionaire or not. I don’t know whether you’re going to have a pension, what your Social Security may or may not look like, or what type of lifestyle you are looking to sustain in retirement, so I can’t really tell you that a million dollars will even be enough for you. Besides, who knows what taxes will look like when you are ready to retire? Who knows what inflation will be between now and then? What I can tell you is that saving and investing is important, and that saving and investing sooner rather than later can have a critical impact on your future outlook.

Below, please take a look at a graph showing how much you would need to save per year, based on when you start saving (assuming a flat, six percent annual rate of return), to reach one million dollars by age 65.

For me personally, all of these annual savings figures represent a significant amount of money, but some of them look a lot more feasible than others. If you start saving early by living below or at least within your means, you save diligently paycheck after paycheck, and you have a little bit of luck and good fortune, I think most people should have a shot at saving up a lot of money for retirement - maybe even a million bucks! That being said, if someone keeps buying the latest gadget or accessory, living paycheck to paycheck, and carrying on like there is no tomorrow, starting to save at age 55 or so is not going to be a lot of fun, and more frighteningly, it might not even do that much good.

In short, no matter how old you are or how much you can save, I’d suggest you start saving now! In the words of the hit novel and movie franchise The Hunger Games, by saving now, the odds will be ever in your favor.

-Tom

Lessons from a Castle in the Clouds

While on our vacation to the Northeast seeking out beautiful fall leaves, quaint bed and breakfasts, and scrumptious cider doughnuts, my wife and I also paid a visit to Thomas and Olive Plant’s mountaintop estate, Lucknow. The old residence was impressive, but the views were truly breathtaking; hence the more commonly heard name, Castle in the Clouds.

As we learned from our tour guide, Thomas Plant’s story was initially a fairy tale. Thomas did more than achieve the American Dream as he rose from a relatively poor immigrant to a millionaire shoe manufacturer with a castle in the clouds, literally. Unfortunately, though, there was not a happily ever after. Thomas Plant committed three very common financial mistakes that would consume his hard-earned wealth and leave him at the mercy of his creditors on his deathbed.

1. Lack of Diversification – I cannot reiterate how important it is to not have all of your eggs in one basket. For whatever reason, as a fifty-one-year-old retiree with more money than he could have ever imagined, Thomas Plant decided to put a lot of his money into one thing, Russian bonds. His timing could not have been worse. In 1917, the Russian Revolution would forever change the fabric of Russia, and also cost Thomas Plant most of his investments.
2. Losing at Poker Mentality – You know how when you are already losing at poker you often find yourself betting more aggressively in hopes that you will recoup your losses? Well some of that typical behavior seems to carry over into the investment world. Thomas Plant was probably more than a little miffed about his Bolshevik bond returns (or the lack thereof), so he decided to double down by investing a lot of the money he still had in sugar futures. Don’t understand sugar futures? Don’t feel bad; neither did Thomas Plant! He had already lost a considerable amount of money, so he decided to invest even more aggressively with the hope of making his money back. That doesn’t usually end well.
3. Too Much Real Estate – I may have some dissenters on this one, but I think it’s important to realize that real estate is not exactly an investment. Real estate is land, a house, or a building. Historically, it often goes up in value over a long enough period of time, but not always. Real estate is not as liquid as cash or stocks and bonds, so someone cutting it too closely financially with too much invested in real estate could very well find themselves trying to sell at an inopportune time or when they don’t want to.  Real estate can also require debt, upkeep, insurance, and property taxes. Even if you are renting your real estate to someone, these expenses can be a hole in your financial bucket, slowly draining away your wealth. Believe me when I tell you that Thomas Plant’s house was awesome. It had a pool table, a knight in shining armor, a long driveway, and even a secret passage, but it also chewed up a considerable portion of his net worth to build and maintain. After his bond debacle and failed “all in” with sugar futures, Thomas Plant didn’t have much more than his house. Try as he did, he couldn’t sell his house when he needed to (as the Great Depression was in full swing), and Lucknow was eventually auctioned off. His creditors happened to be friends, so they were kind enough to let him live in his Castle in the Clouds until he died, but according to our tour guide, the bank actually changed the locks before Olive Plant got home from the hospital the day her husband died!

Thomas Plant seemed like a nice enough guy. He did a lot of things right, but he also did a few things wrong that cost him dearly. Please don’t let any of the mistakes Thomas Plant made cost you your castle, wherever it may be.

 

-Tom

Donor Advised Funds

Credit: Renjith Krishnan

Do you want to give money to a good and noble cause, but haven’t really found one that you like? Do you already give cash or appreciated stock to several charitable organizations, but wish you could give more? Are you already giving about as much as you realistically can and still wish you could give more? Perhaps you’ve had a really good year at work, you sold a business, or one of your stock holdings shot up like a rocket, and you want to give charitably over time and not all in one year? If you or anyone you know can relate to the above scenarios, you are not alone, and I may have just the solution you have been looking for: a donor advised fund.

A donor advised fund is an account that is maintained by a sponsoring charitable organization and lets donors give to charity with greater flexibility while still realizing the tax benefits associated with charitable gifting. In English, if you wanted to open a donor advised fund, you would open an account with a sponsoring charitable organization such as Schwab Charitable or Fidelity Charitable, and you would contribute your donations directly to them. This would allow you to lock in your immediate tax deduction just as if you had given a check to the American Heart Association. However, with a donor advised fund, you don’t have to immediately distribute your contribution. For example, if you gave $2,000 worth of appreciated Apple stock in 2014, you could distribute the contribution in 2015, 2021, or whenever you like. You could certainly distribute the funds in 2014 if you wanted to, but you wouldn’t have to, because once you contributed the Apple stock to your donor advised fund, it’s no longer yours. Essentially, you made an irrevocable gift, but you reserved the right to direct where the distribution goes at a later date.

By contributing to a donor advised fund and not immediately distributing your contribution, your contribution “lingers” in your account for a longer period of time. During this time, your contributions can be invested, and any growth will be tax-free. As with any investment, the value of your account could go up and it could go down, but your deduction won’t change (remember, you locked that in at the value of your donation when you originally contributed). This ability to let contributions linger can give a donor time to decide which organizations they want to benefit, and it can give a donor’s invested contributions time to grow and one day potentially offer a greater monetary benefit to a particular charity than the smaller, initial contribution could have offered. (That being said, I know of plenty of good charitable organizations that need money now to advance their cause and further their mission, so you’ll have to personally weigh immediate impact versus long-term financial magnitude.)

If you have a big tax year or your income stream is pretty sporadic (a lot one year, a little for a few years, then a lot again one year), donor advised funds can really be a good fit for you. If you’re charitably inclined, your CPA and financial advisor are probably encouraging you to give in those good income years so that you can fulfill your charitable desires and hopefully maximize your charitable deductions. As we discussed earlier, a donor advised fund will allow you to lock in your donation in that high tax year, but it will also allow you to give as you wish. Another way of saying this would be that a donor advised fund lets someone make charitable contributions sporadically and strategically (to their donor advised fund) and charitable distributions (to qualifying charitable organizations) smoothly, or however they wish.

Finally, what happens if you pass away and still have money left in your donor advised fund? Well, there are several possibilities. You could name charitable beneficiaries that would receive whatever is left in your account, or you could name another person or people as your contingent successor(s) to direct the distribution of assets left in your donor advised fund. Simply naming a charitable beneficiary is smooth and clean, but I have seen cases where naming spouses and children as contingent successors has worked really well. It allows contingent successors to benefit organizations they feel strongly about, and it also powerfully instills how important “giving back” was to the deceased one last time.

A donor advised fund is not for everyone, but I think it’s a pretty nifty tool considering all of the flexibility it offers. It’s sort of like having your own private foundation!

-Tom

What Mark Twain Might Say

Credit: tungphoto

You might think that a vast majority of my job as a financial planner would involve number-crunching, graph-making, and technical reading. My job does encompass some of those activities, but I have found that the majority of my time is actually spent counseling people. Sure, many of my conversations with clients involve talking people through the financial pros and cons of things such as moving, starting a family, or retiring, but a lot of my counsel and advice sometimes borders on being more personal. With that in mind, I’d like to share some thoughts based on tough conversations I’ve had recently with some people about their jobs.

I read recently that the average workweek in America has crept close to 50 hours a week, or 2,400 hours per year. Many of my clients seem to affirm that statistic, and sadly, make me wonder if that statistic might be a little understated. Either way, 50+ hours a week means that outside of sleeping, eating, commuting, and football, there’s not a lot of time left for anything else. I imagine I could write a couple of books on how your job can interfere with your family, friends, health, and faith if you’re not careful, but I’m just a humble blogger. So to summarize, let me just say that legendary adventurer and intellectual, Mark Twain, provided one of my favorite quotes as I went through school: “Don’t let schooling interfere with your education.” I bet he’d offer something similar in regards to work and life. I might even speculate that he would have said something along the lines of: “Don’t let work interfere with your life.”

“There is a limit to how much I’m willing to work no matter how much they pay.”

“If I quit working, I’ll have to spend time with my wife.”

 “Since I’ve retired, I thought I would have heard from my former co-workers more.”

“The way I’ve worked, there’s no way I’ll make it past 80.”

“I have to sleep on Sundays, or else I’ll never make it.”

Unfortunately, those are all quotes I’ve heard from various acquaintances, clients, and friends over the past few weeks, and frankly, it makes me very sad. My parents raised me to give 100% towards everything I do, and I’ve made that mantra part of my core personality, but as I’ve gotten older, I’ve also learned there is an important caveat to always giving all that you possibly can. I believe there is only so much one person can give, and I know you only live for so long, so if you’re giving too much to your career, chances are you’re not giving enough to another area of your life, whether that be your own happiness, your own health, your family, your friends, or your faith.

Just as I would never have the audacity to pressure someone about what they should do with their money, I would never tell someone how they should live their life. One of the differences between being a trusted financial advisor and a broker is that a trusted financial advisor is supposed to be more interested in your overall well-being than just your money. In short, I believe it is my duty to do what is best for clients, and as you might expect, what is best for someone personally and what is best for someone financially isn’t always the same thing. I don’t take lightly the opportunity to help people talk through what’s going on in their personal lives and to help them consider the current and future financial impact of any decisions they’re thinking about making. Seeing people go to less financially lucrative jobs that give them weekends, seeing people take that family vacation they kept putting off, and seeing people change careers to something they actually find enjoyable and meaningful makes me happy. In my opinion, you need to put food on your table and a roof over your head, but life is too short to let work ruin your life. 

As I’ve said before, I love math, numbers, history, and trying to keep up with all that’s going on in our crazy little world, but I do what I do so that I can help people. If today’s post speaks to you, I hope you’ll give it some serious thought. If you need a neutral party to listen or to help you think things through financially, or even personally, please know I’m here for you.

-Tom

Why I Don’t Fix My Own Car

Credit: Naypong

A question I’m sometimes asked that I don’t particularly look forward to is why someone should pay for financial planning and investment management services that they could do themselves. It’s certainly a valid question, but it’s also an awkward question for me to answer because it forces me to offer what feels like an arrogant response as nice as I possibly can. The gist of my response to, "Should someone be willing to pay a reasonable amount for financial planning and investment management services?" is usually something to the effect of “Yes.”

I’ve found that most potential clients who ask this sort of question are either very fee-conscious, they are do-it-yourself investors, or both. They may like me as a person, and they may even be impressed with my initial presentation or dialogue, but they are hung up on the irrefutable fact that if they devised the same financial and investment strategy that I’m going to work with them to develop, they’d be better off because they wouldn’t have to pay my firm’s fees. They are quite right if they devised the same (or even a better) financial and investment strategy, but what I really want to tell some of them is that I don’t fix my own car!

I don’t fix my own car not because I can’t or am not smart enough to learn how to, but because I work and have family and friends. Like many of you, I’m a busy man, and I simply cannot dedicate the amount of time it would take for me to be comfortable driving a car that I worked on. Not to mention, I don’t personally enjoy working on cars, nor am I a trained mechanic. I might pop the hood in an emergency or try to fix a blown brake light from time to time, but when it comes to something like a knocking sound in the engine or noticeably out-of-balance tires, I’m out. When it comes to something as important as my daily mode of transportation that happens to be worth several thousand dollars and could impact my family’s well-being, I want an expert mechanic whose sole focus is my car.

I hope you know me well enough to know that I’m not trying to be self-serving in anyway, but I have to say that when it comes to something as important as people’s financial well-being and their ability to fulfill their financial and life goals, I really wish they’d go with a “financial mechanic.” Whether you don’t understand finances, don’t want to understand finances, don’t have time to understand finances, are incredibly fee-conscious, or are a do-it-yourself investor, I really wish you’d let someone help you or at least occasionally offer a second opinion. Maybe from time to time you’ll want to fix a blown “financial brake light,” but when it comes to a knocking in your financial engine or an out-of-balance investment portfolio, wouldn’t you like some professional help?

Prudent, long-term investment advice can absolutely be a huge deal, but don’t underestimate the potential financial and emotional value of financial planning and wealth counsel. Figuring out a way for new parents to know they will be able to send their child to college is worth something. Figuring out how to implement a little-known tax strategy that saves real dollars is worth something. Having someone to convince you the sky is not falling some years and not to go all-in at the top of the market cycle other years is worth something.

As I said earlier, I’m not trying to be braggadocios in any way, and I’m not trying to pressure you into seeking financial advice from me or any other quality advisor out there, I’m simply trying to make a point. When I don’t feel well, there are some things I’ll try, but at the end of the day, if I’m still not well, I’ll go see a doctor. When it’s somebody’s birthday and I need a cookie cake big enough to feed a small army, I'll go see a baker. When something isn’t working with my car, I’ll go see a mechanic.

Do what you do, but please be careful if you fix your own car.

-Tom

Savings is a Bill!

Credit: stockimages

I’ll be the first to tell you that I have some quirks. For example, I have to write out a to-do list every week, my office desk has to be clean before I can go home (I throw stuff in drawers), and seeing a lot of unread emails causes me a lot more angst than it probably should. Another one of my quirks is that I cannot stand unpaid bills. Paper or electronic, if a bill comes in, it gets paid that very day (unless I’m on vacation or seriously ill). Maybe you’re not quite as crazy as me, but if you’re reading this post, I trust you pay your bills pretty promptly, too.

My wife and I are also pretty good savers, but even I must admit that my love for saving money pales in comparison to my hatred of unpaid bills. That’s why when I heard about a new approach, or more accurately, a new twist on how to think about saving, I got excited. The twist is this: What if we viewed savings as a bill?

When the power bill comes in, I pay it. When the mortgage statement comes in, I swear, and then I pay it. When my wife’s credit card bill comes in, she pays it. At the end of the pay cycle, or month, or year, we usually have a little bit more income left over than we have expenses, so we try to save it, but that doesn’t always work out. Luckily, my wife and I have been blessed to have enough coming in to be able to save a little, but we also have to constantly work at being disciplined and diligent enough to save. Even though we’re pleased with our savings efforts, at times, we could do better, and I bet viewing our savings as a bill would help.

The “savings is a bill approach” is not earth-shaking, and it’s certainly not complicated, but if you or your family are struggling to save enough to meet your financial goals, or to save at all, I’d recommend you try this tweak. If savings is a bill, it comes out at the front of the pay period, not at the end. If savings is a bill, it’s a regular expense and must be viewed as a recipient of part of your income pie, not just the residual crumbs. If savings is a bill, I bet you and I will both save more, and more regularly.

Sorry, but I’ve got to run. The water bill calleth!

-Tom

Freedom from Student Loans

Credit: ddpavumba

While reading an article recently published in InvestmentNews, I was surprised to learn that 71% of college graduates coming out of school with a bachelor’s degree have student loan debt. I was also surprised to learn that student loan debt has passed credit card debt and is now the largest form of consumer debt after home mortgages. When considering the 71% of college graduates with student loan debt, the average debt is close to $30,000!

I knew student loan debt was a burden for many people, but I’ll be honest, I didn’t have any idea that it impacted nearly three out of four college graduates. I was also a little shocked by the magnitude of the average debt. So, what if you’re like the majority of college graduates out there, and you’ve got some significant student loan debt relative to your current salary weighing you down? What should you do? I’d like to share some thoughts.

If it were me, I’d get a job after college graduation as quickly as I possibly could. Even if it was not my ideal job and was just a short-term opportunity, I’d want some income so that I could hopefully avoid taking on any additional debt and maybe even begin to think about attacking my student loan debt principal. 

If it were me, I’d look into consolidating my student loans (if I had more than one) so that they would be easier to manage. One check per month would feel less overwhelming, and the interest rate on the consolidated loan could even be beneficial.

If it were me, I’d obviously keep making minimum payments on my student loan debt, but I’d set aside a reasonable cash emergency fund, I’d contribute whatever it took to get my employer’s maximum company match to my 401(k) or retirement plan, and I’d pay down any credit card debt I had before attacking my student loan debt principal. My goal would certainly be to get my student loan debt paid off, but I need to make sure I can survive a “rainy day” and go ahead and begin saving for my retirement, as retirement dollars contributed now have a longer time frame to really appreciate than retirement dollars contributed years from now. After I had my rainy day fund built up, my retirement contributions in order, and my credit card debt zeroed out, it would be full-fledged war on my student loan principal until I was able to remove the giant debt stone that had been tied around my neck as I pursued a higher education and a brighter future.

While I’d do everything I could to eliminate my debt burden, I wouldn’t put my life totally on hold. I admire and respect people who are focused on extinguishing their student loan debt as soon as possible, but putting off things such as getting married, renting your own apartment, and buying a reliable car in the name of paying down student loan debt may not be the best life choice. It may be the best financial choice, but it may not be the best life choice. Do whatever you think is best, but I wouldn’t put off taking the next steps in your life and move back in with your parents solely so you can live as inexpensively as possible and pay down your student loan debt as soon as possible.

I understand that some members of my generation aren’t yet interested in my ramblings about investing, insurance, and estate planning because they are still battling their student loans, but that doesn’t mean I can’t help. Get a job, set aside some cash, start contributing to your employer’s retirement plan, and live thriftily so that you can pay off your student loans as soon as reasonably possible, but don’t “postpone” your life. Once you’re free from your student loans, you’ll have a lot more cash flow free up, and you’ll be ready to take flight towards your other financial and life goals.

-Tom

Current Documents - It Does a Family Good

Credit: Ambro

Have you ever looked in the fridge and been really glad that you had a nice gallon of milk just sitting there? Not to get too crazy, but a gallon of milk kind of proudly stands out in a refrigerator with its crisp labelling, unusual shape, and pristine coloring. There’s just something about knowing that it’s there that can put a smile on your face. If you want cereal, it’s there, if you need to bake something, it’s there, and if you need something to wash down more Oreos than you would care to admit, it’s there.

There’s another scenario, though, and it’s one of my least favorite. Have you ever opened a gallon of milk and given it that customary sniff, just to make sure everything is as it should be, and had your nostrils greeted with the deplorable, putrid, sour smell of rot? Have you ever gone to the trouble of reaching up in the cabinets to retrieve your favorite glass and gone ahead and poured a glass of milk (bypassing the customary sniff test) only to find the inside of your mouth wrenching after that first gulp of spoiled milk? I know I have damaged my nostrils and angered my taste buds doing just that on more than one occasion, and it’s no good. You need milk, and unless you’re a two-gallon kind of family, you’re usually just out of luck. All you can do is pour the expired product down the drain, put the lid back on the jug so it doesn’t stink up your garbage, and head to the trash can.

Unfortunately, I’ve seen some estate planning and health care documents that resemble spoiled milk. They were originally done oh so well. They were crisp documents done by prestigious lawyers, they were printed on the obnoxious, extra-large-sized legal paper, and they were kept in a nice little binder in the family’s safety deposit box or the bottom of a dresser drawer. The documents were like a good gallon of milk – they were there if you needed them. However, time passes. Family relationships and dynamics change. Agents, guardians, and executors pass away themselves or lose their desire or capability to assist you. Minor children become adults and have children themselves. Financial institutions and governments change the wording required for everything to work as it was so intended. Any or all of these events can take a perfectly good set of estate planning or health care documents and spoil them. This will likely go unnoticed (just like a capped gallon of expired milk in a fridge), but when someone gets hurt or passes away and the documents are needed (just like a glass of milk to wash down a peanut butter sandwich), the documents can really stink and show just how "expired" they really are.

Wills, power of attorneys, health care directives, and beneficiary designations are a lot more important than a dairy product. When someone gets sick or passes away they can’t just pour their old documents down the drain and get fresh ones. Their family could be legally required to drink the cup that is put before them based on their loved one's most recent estate planning and health care documents no matter how old they are, even if the family knows it is not what the deceased or incapacitated wanted or intended. I’m not trying to make anyone spend a bunch of money on attorney fees, but if you pull your documents and see that they have cobwebs on them, you may want to consider getting them updated. If you’ve recently had children or become a grandparent, if a family dynamic has seriously changed, if a key person in your documents such as a primary or contingent agent or beneficiary is no longer with us, or if your documents are more than about five years old, it may be about time to get your documents updated.

If you don’t have any documents at all, consider this your proverbial kick in the you-know-what. Living without proper documents in place is a lot crazier than not having milk in your refrigerator!
It wasn’t something I particularly enjoyed, but my family and I have our estate planning and health care affairs in order, and that gives my wife and me a sense of comfort and confidence. I can focus on other things, such as running to the store for a gallon of milk and maybe, just maybe, a pack of Oreos.

-Tom

Summer Jobs, Life Lessons

Credit: foto76

Some of you may recall that my very first 2MuchCents blog post had to do with how my high school job as a dry cleaner taught me how to view the world in terms of cheeseburgers. It taught me that it took an hour of folding pants, hanging up shirts, performing maintenance on the machines, and sweeping the floors to earn $5.15, and that could buy around five cheeseburgers. You and I may both laugh at that now, but at fifteen, it’s not that weird for a boy to think of cheeseburgers as a currency or unit of measure. Either way, when I started viewing all of my purchases and expenses in terms of cheeseburgers, and the corresponding pants-folding, shirt-hanging, maintenance, and sweeping required to purchase those cheeseburgers, my outlook on the real world was forever changed. My experience as a dry cleaner really did teach me a real-world appreciation for having to work so that I could earn enough money to cover my expenses and buy what I wanted, but it also taught me so much more.

• I learned that if I worked harder while I was at work, I would get to go home sooner.
• I learned that if I worked a lot, I got a bigger check, but that it wasn’t always worth it.
• I learned that admitting that I was the one who left the blue pen in the suit jacket that was now ruined didn’t help my boss’s short-term opinion of me, but it helped cement my integrity with my boss and my co-workers.
• I learned that not stepping in the same hole twice and leaving more pens in suit jackets was a wise choice.
• I learned that, most of the time, greeting people with a firm handshake and looking them in the eye garnered me a little more respect in their book.
• I learned that a “How are you?” and a “Have a good day!” are worth the effort.
• I learned that putting your buddy in a dryer is a great idea, but letting your buddy put you in a dryer is a terrible idea.
• I learned that following through on what I said I was going to do when I said I was going to do it was the single most important thing I could do.
• I learned that the customer is not always right, but they are always the customer.
• I learned what “sweat equity” was.
• I learned that if I worked hard and well, I would get raises, and I would gain keys to work at other store locations with less and less supervision.
• I learned that getting to know your co-workers and checking on them when they’re down makes your workplace a lot more enjoyable for you and for them.
• I learned the importance of being careful with transactions so that my cash drawer would balance at the end of the day.
• I learned that what types of clothes you wear don’t necessarily mean you are rich or poor or nice or heinous.
• I learned that the world was a pretty small place and that I would cross paths with many of the people I waited on in other facets of life.

If you’re finishing up your summer job, I encourage you to reflect on what you’ve learned. If you didn’t work this summer or haven’t worked (and you’re old enough to sit behind a steering wheel), I can’t tell you how important it is that you get a job for your future and your personal development, whether it’s temporary or long-term and whether you like it or not. As the great Vince Lombardi once said, “The dictionary is the only place that success comes before work. Work is the key to success, and hard work can help you accomplish anything.”

-Tom

One Size Does Not Fit All!

I love Halloween. Sure, it’s partially because of the Snickers and the Whoppers, and definitely because of the Reese’s, but it’s also because I love dressing up. Ever since I was old enough to trick-or-treat with my trusty, plastic jack-o-lantern in hand, I’ve always enjoyed pretending I’m someone or something I’m not one night a year. You can only imagine my disappointment when I tried on my “one size fits all” Batman outfit a couple of hours before it got dark on an All Hallows’ Eve only to find that one size did not fit Tom!

Sort of like a Batman costume that might look super cool on one person, but look like some sort of oversized armadillo costume on another, one investment strategy does not fit all. One investment strategy may not even fit one individual with multiple accounts!

I get to work with clients of all ages with all sorts of needs from and expectations of their investment portfolios. I get to work with clients who are frighteningly conservative with their investments, and I get to work with clients who are frighteningly willing to roll the investment dice. One of my jobs as a financial planner is to help someone have enough prudently diversified investment assets to sustain their desired standard of living, and I can tell you unequivocally that one size does not fit all! Your age and stage in life can somewhat dictate an appropriate investment strategy that might fit most, but it takes an understanding of your entire financial position, tax situation, tolerance for market volatility, and life goals to make an investment strategy a custom fit.

Suppose you have a taxable brokerage account and a 401(k). Let's say you’re going to need a car in the next year or two, and your taxable brokerage account is going to need to supply the funds. Do you think your taxable brokerage account, which you are going to be taking a significant withdrawal from in the short term, and your 401(k), which you are not going to need to touch for many years, should be invested in the same manner? Maybe, but probably not. You should probably have a little more cash or bonds in your taxable account than you do in your 401(k), so that you can buy that car even if there is a stock market downturn, but you should probably also have a few more stocks in your 401(k), so that you can have a real shot at growing and increasing your 401(k) balance in the long run.

If you’re in one of the higher tax brackets, you might want municipal bonds for your taxable brokerage account. These bonds are tax-free for federal income tax purposes, so even though they pay a slightly lower yield, they may offer a higher net (after-tax) yield. That being said, there is rarely any reason you would want municipal bonds in a retirement account such as a 401(k) or IRA because you don’t have to worry about income taxes until you actually take withdrawals from them. If you don’t have to worry about income generated inside a 401(k) or IRA, you might as well go with a normal, taxable bond that will pay a slightly higher yield than municipal bonds. Just keep in mind that one type of bond might not be optimal for your different types of investment accounts.

What if you find yourself watching the markets too closely and checking your portfolios every day? You may still be making money, but you’re losing sleep. It might not be the ideal investment strategy, but finding a strategy that is a little less volatile and a little more conservative might be the antidote if it helps you sleep at night. Of course there are also people who have set enough prudently diversified investment assets aside to support their lifestyle and really enjoy the idea of trying to “play the stock market.” Setting aside a little extra cash in a “sandbox account” to play with can be just what the doctor ordered for those people. They can give their speculative and undiversified strategy a go without having to worry about sinking their overall financial position.

There are also a lot of age-based or retirement date-based investment strategies out there, and they’re usually pretty good, but they are kind of one size fits all. Maybe you’re “normal” and one of these strategies fits just fine, but you may want to look at it closely and try it on before it gets too late, unlike me and the Batman costume.

I can’t sew a lick. I almost bled to death in Home Economics sewing a pillow, so unfortunately, I can’t help you with a costume. However, I can help with investment strategy and allocations, and make sure they're a good fit.

-Tom

How to Plan an Affordable Trip

If you know me personally, you probably know that I love to travel. Travelling is awesome. You get to experience historical sites, visit beautiful and exotic places, and eat a lot of delicious food. Well, like most of you out there, I’m not lighting my proverbial cigars with $100 bills, so when I travel, my budget has to be within reason. Luckily, my wife shares my love of visiting new places and doing new things, so we save specifically for trips and spend less in some other areas of our lives. Even though this extra saving allows us to spend more on vacations, a lot of our travelling escapades are also the result of careful planning and a few tricks of the trip-planning trade. With this in mind, I thought I’d share a few tips on how you can plan an affordable trip.

• Plan and book your trip really early. That may sound crazy to some of you, but when it comes to getting a good deal on a trip, I really believe the early bird gets the worm. You can sometimes get sweet deals and complimentary upgrades, but if you make your plans early you can also get the aisle seats on airplanes, the window seats at restaurants, and more central seats for shows and concerts. Aisle seats, window seats, and more central seats don’t usually cost that much extra, if at all, but they can certainly make a trip that much better of an experience. Some of you will probably counter that you can get good deals at the last minute, and you’re absolutely right, but last-minute deals aren’t always available for what you want or need. Personally, I don’t want that last-minute stress when I’m trying to enjoy a glorious trip or vacation.
• Don’t make things more expensive than they have to be. Tote your own bags to the room (if you don’t, keep it classy and tip the bellhop), don’t buy the family picture at every landmark you visit, and go with the full-sized rental car instead of the mid-sized SUV. Little things like that can save a little money and not reduce the overall quality of the trip.
• You don’t always have to have a drink. Alcoholic beverages can certainly be a fun treat, but they aren’t always required. Have a few more waters and a couple fewer drinks, and you’ll have a few more bucks and maybe even a few more memories.
• Travel light. Oh my goodness! Nothing irritates me more than baggage fees, so I do everything in my power to avoid them. Pack just carry-on luggage if you can, but if you need to check a bag, make sure it fits the weight requirements so you don’t get charged even more! If you’re travelling on multiple airlines or internationally, consider going with the airline(s) with friendlier (and more economical) bag policies.
• Be careful of tourist traps. Some tourist traps, such as shops or restaurants, are a great part of the experience, but don’t fall into the costliest of tourist traps, such as a gas station at the Grand Canyon or a camera equipment shop at the top of the Eiffel Tower. Think ahead and gather what you need before you travel.
• Look for coupon codes. I know they’re a nuisance to look up and they work a lot less often than I’d like, but a few minutes on Google can save you some real money. In the last few years I’ve found and used promotional codes intended for the guests of a hotel that was hosting a video game convention, for being a return customer, and for being a CPA. If you’re a member of a group such as AARP, have served or are serving in the military, or are an active or retired government employee, there are lots of promotional codes out there for you! It doesn’t hurt to look!
• Consider currency implications. If you want to travel internationally and are trying to decide where to go, look at the currency exchange rates and find somewhere favorable. Not only will doing this make you look smart now, but it could also make you look smart when you arrive somewhere and trade in a few Greenbacks for a lot of local currency.
• Look at websites like TripAdvisor.com. I don’t often specifically “plug” things, but Trip Advisor is my homeboy. It’s the best and most accurate source I’ve found for vetting hotels, restaurants, and landmarks. Look for options with lots of stars and not so many dollar signs. Look for a reasonable number of reviews and make sure the reviews are recent, too. I used to be skeptical, but now I’m a believer. You may think you want the hotel restaurant now, but after looking at a site like Trip Advisor, you may find that hidden jewel of a place that costs a lot less, has better food, is a lot more fun, and is within walking distance.
• Go to National Parks. If you want to feel small, you want to be awed, and you want to experience natural beauty, go to national parks. They usually cost close to nothing to drive in, and visiting them can be a really good and enjoyable way to chew up a lot of time you could be using seeing less amazing things that cost a lot more!

 

These are a few of my tips. What are some tricks of the trade you other travel enthusiasts out there utilize to see the world without taking out a second mortgage?

 

-Tom

How Famous People Lose Their Money

Credit: photostock

One of the saddest lessons I’ve learned during my time in the wealth management/financial advice business is that no amount of money or income can make someone immune from overspending. If you don’t live within your means, you can blow it; if you don’t properly diversify your assets, they can vanish; and if you do something that’s just plain stupid, you can make a lot of dollar signs go bye-bye, too. When I started writing this post I was going to give you some specific examples of how some famous people lost their fortunes, but the more I researched, the sadder I got. I just couldn’t believe what I was discovering. So, I’ve decided I’ll give you the examples, but I’ll remove the celebrities’ names. This will protect the identities of the personally innocent, but financially guilty. After all, they don’t need any more pain; they’ve already lost most of their money.

• Can you believe that an actor who has been in films grossing more than $4 billion has been reduced to having to take almost any role thrown at him because he lost tons of money on highly speculative investments and wasn’t paying his share in taxes? Maybe so, but he also bought a castle, a dinosaur skull, 22 cars, 47 pieces of art, and a bunch of real estate. Are you kidding me?
• Can you believe that a pretty famous golfer nearly lost it all as a result of gambling away $60,000,000? Sorry, but the zeroes were for effect!
• Can you believe an actress walked away from a movie she had agreed to be in knowing it would cost her $9 million not to honor her previous commitment? Oh, and by the way, she probably could have written a check for the $9 million if she hadn’t recently purchased part of an actual town!
• Can you believe a boxer could throw away $250 million through a bunch of divorces and alimony and child support payments? Of course, there was also a 109-room house…
• Can you believe a really successful musician would buy a $30 million mansion? Actually, I can. What I can’t believe is that he paid 200 people to be part of his “entourage,” and it cost him $500,000 per month! How could anyone maintain that sort of lifestyle? Better yet, why wasn’t I invited to be part of his entourage?
• Can you believe a world champion (and likely hall of fame) pitcher would invest almost everything he earned in his entire career in one, single, solitary investment? Guess what? It didn’t work out! And now he’s too old to pitch…
• Finally, can you believe an actor who has made millions and millions of dollars since 1999 thought it would be okay not to file a tax return reporting his income until 2006? Did he think what happened in 1999-2005 would go away? A lot of back taxes (with penalties and interest) and a little jail time just rocked his oblivious world!

Like I said earlier, I started this post intending for it to be funny, but the stories aren’t funny – they’re sad. I can’t help but think of what I could have done for them if they had sought some genuine, unbiased advice. I can’t help but think about what they could have done for themselves if they’d just lived within their ample means, prudently diversified at least a portion of their assets, and avoided doing things that just aren’t smart. They had it, and they threw it away. Grrrrrrr.

 

-Tom

 

A Traditional 401(k) vs. A Roth 401(k)

Credit: Stuart Miles

Another question that came up a few times from readers submitting questions for The Lightning Round was whether I would recommend a Traditional 401(k) or a Roth 401(k). This is actually a very difficult question to answer because it depends on the future tax rates of the individual asking the question. I tried to write an answer (I really did), but I also know that there are times when writing less is worth more. I think this is one of those times. Let’s look at an example…

Suppose Tom has two different 401(k) contribution options. With option one, he can contribute to a Traditional 401(k) plan where pre-tax income is deducted from his paycheck and placed in a tax-deferred account. Tom will have to pay taxes when he takes withdrawals from the account in retirement. With option two, he can contribute to a Roth 401(k) plan where after-tax income is deducted from his paycheck and placed in a retirement account. In this case, Tom will not have to pay any additional taxes when he takes withdrawals in retirement. Suppose Tom’s tax rate is 25% as he contributes and will remain 25% in the future when he takes withdrawals in retirement. Suppose Tom contributed $5,000 per year from his paycheck. Suppose Tom’s investments return a steady 5% per year.

     What would happen if Tom went with a Traditional 401(k)?

     What would happen if Tom went with a Roth 401(k)?

Are you surprised to see $21,239.15 as the answer to both scenarios? Don’t be! In the Traditional 401(k) scenario, Tom is deferring paying taxes now, so it’s only fair that he pays taxes on his contributions and earnings in the future, right? However, in the Roth 401(k) scenario, Tom is paying the piper (aka the IRS) up front, so why should he be taxed any more on his contributions or earnings years from now?

Great. I’ve mathematically proven to you that it might not make a difference whether you decide to go with a Traditional 401(k) or a Roth 401(k). How does that help you? I hope it helps you focus on the fact that saving for retirement is what really matters, not the Traditional vs. Roth decision.
If you’re expecting to have higher income in retirement than you do now (from things such as Social Security, a pension, or a large inheritance), I’d normally recommend you go with a Roth 401(k). If your income (and your tax rate) will be higher in retirement than it is now, there may be a mathematical difference between choosing a Traditional 401(k) and a Roth 401(k), and a Roth 401(k) will likely be in your favor.

If, like most people, you’re expecting to have a lower income in retirement once your big salary goes away, I’d normally recommend you go with a Traditional 401(k). Save on taxes now while you’re at a higher tax rate and gladly pay taxes on your retirement withdrawals at a lower tax rate when your income is lower. If your tax rate is lower in retirement than it is now, there may be a mathematical difference between choosing a Traditional 401(k) and a Roth 401(k), and a Traditional 401(k) will likely be in your favor.

That leaves one last question. What if tax rates or tax law change between now and when you retire and take withdrawals? Neither of us knows the implications of such a change until it is implemented, but based on our growing federal deficit, I’d guess that if tax rates are going to move, they will be going up. If you’re still on the fence choosing between a Traditional 401(k) and a Roth 401(k), that logic might be a small nod to the Roth 401(k).

In closing, saving is what matters the most – not whether it’s a Traditional 401(k) or a Roth 401(k). If you expect higher taxes in retirement, go with a Roth 401(k). If you expect lower taxes in retirement, go with a Traditional 401(k). If you’re still unclear or nervous about tax rates in the future, hedge your bets - contribute half to a Traditional 401(k) and half to a Roth 401(k). You’ll be half right!

-Tom

The Lightning Round: Take 3

Credit: FreeDigitalPhotos.net

Thanks to all of you for the many questions I received. Some of you even submitted more than one! You asked the questions, and now it’s time for me to share my answers to five of them...

1. I recently sold my house and have the profits sitting in a money market account. I'm relatively young,  have no more debt to pay off, already contribute to my work retirement account, have my rainy day fund, and would still like to put this profit toward my future as well. Is having this money sitting in a money market account the best “bang for my buck" or is there a better way to invest it?

- Anonymous                   

First of all, congratulations on selling your house for a profit! Real estate is not always a profitable investment, but it is certainly nice when it works out. Let me get this straight - you’re debt-free, you’re contributing to your 401(k), and you have set aside enough cash to form an adequate rainy day fund? Well done! You are certainly on a path towards financial success!

There are a lot of things you could do with the excess cash you have in your money market account that would provide you a bigger “bang for your buck.” Unfortunately, given current interest rates, the difference between burying your excess cash in your backyard and leaving it in your money market account earning interest is just not that much. I don’t know the ins and outs of your financial situation, but for someone in your shoes I’d usually suggest you redeploy some of that excess cash and put it to work for you. I’d suggest you consider increasing contributions to your 401(k) plan, opening and contributing to a Roth IRA, or opening and funding a diversified brokerage account. For simplicity’s sake, I’d probably lean towards increasing your 401(k) contributions. For 2014, you can contribute up to $17,500 per year (and if you’re age 50 or older, you can contribute up to $23,000 per year), and any additional contributions you make could be a nice boost to your long-term retirement savings. If you’re contributing to a Traditional 401(k) (not a Roth 401(k)), these additional contributions could also lower your 2014 tax bill, which makes increasing your contribution amount kind of a win-win. Two other things to consider, though: 1) Your 401(k) investment returns could provide you a much bigger “bang for your buck” than you would get in a cash account, but you could also see the value of your money go down in the short-term or during market downturns. 2) My guess is that your money market account balance will go down over time to help you sustain your current lifestyle if you decide to contribute more to your 401(k) going forward because your take-home pay will decrease to facilitate that change. I say that because I don’t want you to be surprised or concerned. By contributing more to your 401(k) going forward, you are essentially slowly and surely reducing your cash on hand and putting your excess cash to work. Just remember, if your money market account gets lower than you would like, you can adjust your 401(k) contributions back down to a level that will allow you to normally sustain your desired cash balance.  

Please let me know if you would like to discuss further.

2. Can you explain, in layman's terms, what supplemental income needs to be reported come tax season and how to do so? For example, I sell Thirty-One on the side and it's not a lot of money, so I'm curious if I even need to report it, and if so, how?

- Amanda                         

When it comes to miscellaneous supplemental income tax law implications in layman’s terms you’re asking a lot (just kidding), but I’m happy to try to translate. Your question is a great one and addresses a common misconception held by many taxpayers. Per the IRS, taxpayers “must also report other income such as: cash earned from side jobs, barter exchange for goods and services, awards, prizes, contest winning, and gambling proceeds…. It is a common misconception that if a taxpayer does not receive a form 1099-MISC or if the income is under $600 per payer, the income is not taxable. There is no minimum amount that a taxpayer may exclude from gross income.”

If you have income outside of basic things like your wages, salary, interest, and dividends, it really is best to talk with your CPA, and if you don’t have one, find one. That’s because supplemental income is tricky. I think you’ll agree that based on the IRS wording above, it’s pretty clear that supplemental income must be reported, but what is not always clear and most of the time cannot be put in layman’s terms is where to actually report the income. In some cases it might belong on Form 1040 itself, in some cases it might belong on Schedule C, in some cases in might belong on Schedule E, and in some cases, it might also need a Schedule SE (Self-Employment Tax) filled out, too. There could also be an opportunity to reduce the amount of your supplemental income you will be taxed on by specifically listing any expenses (such as travel expenses or postage expenses) you personally incurred by generating that supplemental income, but of course these expenses might belong on Schedule A, but then again, they could belong on Schedule C or Schedule E depending on how you actually generated the supplemental income. I’m about to answer your question, but for non-Thirty-One supplemental income earners I wanted to make two points: 1) See why the tax law really needs to be reformed and simplified? 2) If you have supplemental income, you probably need more than do-it-yourself tax software to make sure you get it right and report the supplemental income in the most tax-efficient (and legal) way possible.

So, I dug and dug for Thirty-One-specific tax guidance and was able to find buried on page 16 of their Consultant Guidebook some surprisingly helpful advice:

“Yes, you’re required to report your commissions and other earnings from your Thirty-One business as income in your tax filings each year. Your other earnings include your Overrides, free products, hostess and other business credits, etc. For tax purposes, you are “self-employed” and it’s important that you keep complete and accurate records of your business income and expenses.
There are some tax benefits for self-employed individuals that may allow you to deduct certain business expenses. We strongly recommend that you talk with your own tax advisor to learn how the tax laws apply to your Thirty-One business.
As a Consultant, you’re a self-employed, independent contractor of Thirty-One. You’re not an employee of Thirty-One and we won’t issue you a Form W-2.
The U.S. Internal Revenue Service (“IRS”) requires us to issue a Form 1099 to every Consultant who earns $600 or more during the previous calendar year. By January 31st of each year, we’ll issue you a Form 1099 for the previous calendar year. Your Form 1099 will include all of your earnings from your Thirty-One business, including your commissions and the other earnings described above.
You’ll have to report the income from your Thirty-One business on Schedule C of your federal income tax return. Because you are self-employed, you may be able to deduct certain business expenses like the use of your vehicle or home office. You can discuss this with your tax advisor and/or contact the IRS for more information at www.irs.gov or (800) 829-1040.
Also, if your state and/or city collect income tax, you may need to file income tax forms with them too.”


I hope this is what you were looking for. To recap in layman’s terms: you have to report the income, you are deemed to be self-employed, you are deemed to be an independent contractor, and Thirty-One will send you a 1099 by 1/31/15 for Tax Year 2014 to get you started. As always, I’m happy to help you specifically address your tax situation offline, but I really think you’re going to want the services of a paid tax preparer as well!


3. For the life of me, I do not understand the ad valorem tax. I've read a few government documents on it, but none of them are explicitly clear. Can you please explain for us new-to-Georgia folks? 

- Amanda                         

Sure, I’ll be happy to. Don’t you love it when people explain things in a way that’s so complicated no one can understand it?

On March 1, 2013, Georgia changed the way it taxes motor vehicles. For people who have cars that were purchased before March 1, 2013, nothing changed: you renew your tag right before your birthday and you get to pay an annual ad valorem tax (sometimes nicknamed the “birthday tax”) as part of that process. (An ad valorem tax is a tax based on value.) For people who have bought cars (or will buy cars) since March 1, 2013, the rules have changed: you no longer have to worry about paying an annual ad valorem tax when you renew your tag, but you do have to pay a title ad valorem tax all at once when you buy a new motor vehicle. The title ad valorem tax is calculated based on the fair market value of your new vehicle (less any trade-in value you may have gotten from your old car and less any discounts or rebates you may have received from the dealer) times 6.75%. I know the new title ad valorem tax has the words “ad valorem” in it just like the old tax, but try to ignore that and just think of the new tax as a sales tax of sorts. The new tax is essentially tax pain all at once as opposed to slow tax pain by a lash every time you have a birthday.

A couple of additional “nuggets:”
     - The title ad valorem tax also applies to purchases of used vehicles.
     - If you’re a Georgia resident and you buy your car out of state, you’ll still get to pay the Georgia title ad valorem tax even if you've already paid another state's tax.
     - If you transfer the title of a vehicle within your family, you will trigger a reduced title ad valorem tax.
     - The title ad valorem tax rate is scheduled to increase to 7% in 2015.


I hope that’s clear as mud. If it’s not, please let me know. Here are two other links that might help you: 1) a Georgia Department of Revenue Title Ad Valorem Tax Calculator and 2) a FAQs page about the new rules.

4. I have an opportunity to move to a state that I would prefer not to live in for a really good job opportunity. What should I be thinking about financially as I weigh the pros and cons? 

- Anonymous                    

Nice question, and one I’ve never been asked. Whatever you decide, congratulations on earning the opportunity to take the job!

If the job opportunity was something you were really excited about in a state you were really excited about, I don’t think I’d try to be a wet blanket on your job opportunity as long as it was financially lucrative. I believe there are more currencies in life than just money, such as time, happiness, and fulfillment, so I wouldn’t want financial implications to unnecessarily sway your decision. That being said, since the situation you are describing is "only" a really good job opportunity in a state that you are less than excited about, I can definitely see digging into the financial implications a little bit more.

I’d advise you to consider your new state tax rate versus your current state tax rate. I’d look into what your new property tax rates would be, and maybe even more importantly, how much a suitable home would cost you in your new state versus your current state. I’d look into potential cost of living differences in terms of utilities, transportation, and groceries. Once you factor in the cost of the physical move with these cost adjustments, versus any change you would experience if you took the job in terms of compensation and benefits (don’t forget benefits like 401(k) matching, paid time off, health insurance, etc.), I think you may be better able to gauge whether taking the job would be financially good for you or not.

If you’d like more specific assistance, I’d be happy to try to help you. I have also come across this nifty, little tool developed by the National Center for Policy Analysis that attempts to help you determine how much you will gain or lose by moving to another state, and I’d suggest you check it out. I’m not trying to dismiss your question in any way, but unless it really comes down to financially making it or financial ruin (which you should be able to figure out pretty quickly), I’d spend more energy on considering how your potential move could affect your family and friends, what amenities you might gain or lose, how stable your potential new employer is, and what your growth potential in your new role could be.


5. Do you recommend taxable bonds or municipal bonds for your clients?

-David                              

That’s a very good question and is a question that all investors should ask their financial advisors or brokers and CPAs. (Actually, financial advisors or brokers should be discussing this with their clients and their clients’ CPAs, but that’s a different story.)

As I respond to so many “general” questions, I must also respond to this one: it depends. Bond investors are typically looking for investments with high yields and less volatility than the stock market. They basically have two general bond types to choose from: taxable bonds and municipal bonds. Taxable bonds are typically issued by corporations and offer a higher interest rate, but an investor will have to pay federal and state taxes on their gains. Municipal bonds are typically issued by state and local governments and offer a lower interest rate, but an investor will not have to pay federal taxes on their gains. If the municipal bond is from the state or a locality in the state that the investor resides in, the investor may very well not have to pay any state taxes on their gains either!

So, in summary, I recommend both taxable bonds and municipal bonds to the clients I work with, and in some cases, a combination. If someone is in a 25% tax bracket, they’d much rather have a 5% municipal bond than a 6% taxable bond that would only yield 4.5% after taxes. If someone is in a 10% tax bracket, they’d much rather have a 6% taxable bond that would yield 5.4% after taxes than a 5% municipal bond. My recommendations are client-specific, and under the right circumstances, could even be bond-specific. The one other general comment I can throw your way is that in light of municipal bonds usually having lower interest rates than taxable bonds, municipal bonds rarely ever make sense inside a tax-deferred investment account such as a 401(k) or IRA. A 401(k) or IRA is already pretty much exempt from income taxes until you take a withdrawal or distribution, so the potential after-tax “savings” of municipal bonds would really be of little to no value in these types of accounts.


I hope that helps!


Thanks again for all of the questions. The Lightning Round is a lot of fun for me, but please always feel free to reach out to me with your financial questions year round!

-Tom