Monthly Archives: May 2016

A Roth IRA’s Many Benefits

use-logoA Roth IRA’s Many Benefits
Why do so many people choose them over traditional IRAs?

BY GREG OLIVER

The IRA that changed the whole retirement savings perspective. Since the Roth IRA was introduced, it has become a fixture in many retirement planning strategies.

The key argument for going Roth can be summed up in a sentence: Paying taxes on your retirement contributions today is better than paying taxes on your retirement savings tomorrow.

Here is a closer look at the trade-off you make when you open and contribute to a Roth IRA – a trade-off many savers are happy to make.

You contribute after-tax dollars. You have already paid federal income tax on the dollars going into the account. But in exchange for paying taxes on your retirement savings contributions today, you could potentially realize great benefits tomorrow.1

You position the money for tax-deferred growth. Roth IRA earnings aren’t taxed as they grow and compound. If, say, your account grows 6% a year, that growth will be even greater when you factor in compounding. The earlier in life that you open a Roth IRA, the greater compounding potential you have.1

You can arrange tax-free retirement income. Roth IRA earnings can be withdrawn tax-free as long as you are age 59½ or older and have owned the IRA for at least 5 years. (That 5-year clock starts on January 1 of the tax year in which you make your initial Roth IRA contribution.)2

The IRS calls such tax-free withdrawals qualified distributions. They may be made to you, to your estate after you are deceased, and/or to a beneficiary. (If you die before the Roth IRA meets the 5-year rule, your IRA beneficiary will see the IRA earnings taxed until it is met.)3

If you withdraw money from a Roth IRA before you reach age 59½, it is called a nonqualified distribution. If you do this, you can still withdraw an amount equivalent to your total IRA contributions to that point tax-free and penalty-free. If you withdraw more than that amount, though, the rest of the withdrawal may be fully taxable and subject to a 10% IRS penalty as well.1

Withdrawals don’t affect taxation of Social Security benefits. If your total taxable income exceeds a certain threshold – $25,000 for single filers, $32,000 for joint filers – then your Social Security benefits may be taxed. An RMD from a traditional IRA represents taxable income, and may push retirees over the threshold – but a qualified distribution from a Roth IRA isn’t taxable income, and doesn’t count toward it.4

You can direct Roth IRA assets into many different kinds of investments. Invest them as aggressively or as conservatively as you wish – but remember to practice diversification. The range of investment choices is often broader than that offered in a typical workplace retirement plan.1

Inheriting a Roth IRA means you don’t pay taxes on distributions. While you will need to take distributions within 5 years of the original owner’s passing, you won’t pay taxes on the distributions you take from the Inherited Roth IRA.5

You have 16 months to make a Roth IRA contribution for a given tax year. For example, IRA contributions for the tax year that has passed may be made up until April 15 of the succeeding year. While April 15 is the annual deadline, many IRA owners who make lump sum contributions for a given tax year make them as soon as that year begins, not in the following year. Making your Roth IRA contributions earlier gives the funds in the account more time to grow and compound with tax deferral.1

How much can you contribute to a Roth IRA annually? The 2015 contribution limit is $5,500, with an additional $1,000 “catch-up” contribution allowed for those 50 and older. (The annual contribution limit is adjusted periodically for inflation.)6

You can keep making annual Roth IRA contributions all your life. You can’t make annual contributions to a traditional IRA once you reach age 70½.6

Does a Roth IRA have any drawbacks? Actually, yes. One, you will generally be hit with a 10% penalty by the IRS if you withdraw Roth IRA funds before age 59½ or you haven’t owned the IRA for at least five years. (This is in addition to the regular income tax you will pay on funds withdrawn prior to age 59 1/2, of course.) Two, you can’t deduct Roth IRA contributions on your 1040 form as you can do with contributions to a traditional IRA or the typical workplace retirement plan. Three, you might not be able to contribute to a Roth IRA as a consequence of your filing status and income; if you earn a great deal of money, you may be able to make only a partial contribution or none at all.1,3,6

Rollovers are permitted. Since 2010, any individual, regardless of marital status and income level, can roll eligible IRA assets into a Roth IRA. Previously, rollovers were dependent upon the account holder’s income. If you are required to take an RMD from your traditional IRA the year you make the rollover, you must take it before converting it to Roth.3

All this may have you thinking about opening up a Roth IRA or creating one from existing IRA assets. A chat with the financial professional you know and trust will help you evaluate whether a Roth IRA is right for you given your particular tax situation and retirement horizon.

GREG OLIVER
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Citations.
1 – kiplinger.com/article/retirement/T046-C006-S001-why-you-need-a-roth-ira.html [1/15]
2 – fidelity.com/retirement-planning/learn-about-iras/convert-to-roth [2/25/15]
3 – hrblock.com/free-tax-tips-calculators/tax-help-articles/Retirement-Plans/Early-Withdrawal-Penalties-Traditional-and-Roth-IRAs.html?action=ga&aid=27104&out=vm [2/25/15]
4 – fool.com/retirement/general/2014/08/24/social-security-will-a-roth-ira-make-your-benefits.aspx [8/24/14]
5 – schwab.com/public/schwab/investing/retirement_and_planning/understanding_iras/inherited_ira/withdrawal_rules [2/25/15]
6 – irs.gov/Retirement-Plans/Plan-Participant,-Employee/Retirement-Topics-IRA-Contribution-Limits [1/22/15]

This is one reason why you should contribute the maximum to your 401(k) plan.1

2011 no brainer.jpg plus 2Why Aren’t You Maxing Out Your 401(k)?
It may be the best retirement planning tool you have.

BY GREG OLIVER

Do you have a million dollars? At the moment, probably not. But if you invest and save diligently and let your assets compound, who knows? You may be a millionaire someday. In fact, you may need to be a millionaire someday. If you stay retired for twenty or thirty years, it could take well over $1 million to fund that retirement. In fact, Andrés Cardenal, CFA and financial analyst, recommends $1.25 million if you plan to match inflation over a three-decade retirement. This is one reason why you should contribute the maximum to your 401(k) plan.1

Your 401(k) is your friend. For years, employers have wondered: why don’t people contribute more to their 401(k)s? At many large companies, the majority of employees contribute too little, and some find it a hassle to even fill out the paperwork. Most people don’t speak “financial” and don’t look at financial magazines or websites. It’s “boring.” So they mentally file “401(k)” under “boring.” But the advantages of a 401(k) should not bore you; they should motivate you.

Tax-deferred growth and compounding. The money in your 401(k) compounds year after year without tax penalties. The earlier you start, the more compounding you get. Let’s say you put $2,400 annually in a 401(k) starting at age 30, and for the sake of example, let’s assume you get an 8% annual return. How much money would you have at 65? You would have a retirement nest egg of $437,148 from putting in $200 per month. But if you started putting in that $200 a month five years later, you would have only $285,588. You can put up to $18,000 into a traditional or “safe harbor” 401(k), and if you turn 50 or are older than 50 this year, you can put in an additional $6,000 in “catch-up” contributions. You can contribute up to $12,500 to a SIMPLE 401(k), with “catch-up” contributions of up to $3,000 if you are 50 or older. These annual contribution limits are indexed for inflation.2

Potential matching contributions. Who would turn down free money? Big companies will often match an employee’s 401(k) contributions. Usually, the corporate match is 50¢ for each dollar up to 6% of your salary.3

Reducing your taxable income. Many employees don’t recognize this benefit. Your 401(k) contributions are pulled out of your wages before taxes are withheld (pre-tax dollars). So you get reduced taxable income and tax-free growth; you pay taxes on 401(k) assets when you withdraw them from the plan. With the Roth 401(k), the contributions are after-tax (no reduction in taxable income), but you can enjoy both tax-free compounding and tax-free withdrawals.

Why not take advantage? If you don’t contribute greatly to your 401(k), 403(b), or 457 plan, you are ignoring a great retirement savings opportunity. Talk to your financial advisor about your 401(k) and other great resources to save for retirement.

GREG OLIVER
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Citations.
1 - fool.com/retirement/general/2016/01/25/how-much-money-will-you-need-in-retirement.aspx [1/25/16]
2 – irs.gov/Retirement-Plans/Plan-Participant,-Employee/Retirement-Topics-401k-and-Profit-Sharing-Plan-Contribution-Limits [10/26/15]
3 – irs.gov/Retirement-Plans/Plan-Participant,-Employee/401(k)-Resource-Guide-Plan-Participants-401(k)-Plan-Overview [10/26/15]

Tell Your Beneficiaries About Your Accounts and Policies

2007 Stress out ladt look at computer 2007 picLet them know how they will receive retirement assets and insurance benefits.

BY GREG OLIVER

Will your heirs receive a fair share of your wealth? Will your invested assets go where you want them to when you die?

If you have a proper will or estate plan in place, you will likely answer “yes” to both of those questions. The beneficiary forms you filled out years ago for your IRA, your workplace retirement plan, and your life insurance policy may give you even more confidence about the eventual transfer of your wealth.

One concern still remains, though. You have to tell your heirs that these documents exist.

That does not mean sharing all the details. If you have decided that some of your heirs will one day get more of your wealth than others, you can keep quiet about that decision as long as you live. You do want to tell your heirs the essential details; they should know that you have a will and/or an estate plan, and they should understand that you have named beneficiaries for your retirement accounts, your investment accounts, and your insurance policies.

Over time, you must review your beneficiary decisions. In fact, you may want to revisit them. As an example, say you opened an IRA in 1997. Your life has probably changed quite a bit since 1997. Were you single then, and are you married now? Were you married then, and are you single now? Have you become a parent since then? If you can answer “yes” to any of those three questions, then you need to look at that IRA beneficiary form now. Your choices may need to change.

Here is a quick look at how beneficiary decisions play out for a few of the most popular retirement accounts.

Employer-sponsored retirement plans. These are governed by the Employee Retirement Income Security Act (ERISA), which rules that if the late accountholder was married, the surviving spouse is entitled to at least 50% of the account assets. That applies even if another person has been designated as the primary beneficiary. In such a case, the spouse and the primary beneficiary may split the assets 50/50. (The spouse can actually waive his or her right to that 50% of the invested assets through a Spousal Waiver form. A spouse usually has to be older than 35 for this to be allowed.) These rules also apply for other types of ERISA-governed retirement assets, such as pension plan accounts and corporate-owned life insurance.1,2

The Supreme Court has decided that these rules take priority over state laws (Egelhoff v. Egelhoff, 2001; Hillman v. Maretta, 2013) and divorce agreements (Kennedy Estate v. Plan Administrator for the DuPont Saving and Investment Plan, 2008).3,4

If a participant in one of these retirement accounts remarries, the new husband or wife is entitled to 50% of those assets at death. While a plan participant may name a child as the beneficiary of a retirement account after a divorce, remarriage will leave only 50% of those assets with that child when the accountholder dies, rather than 100%, unless the new spouse waives his or her right to receiving 50% of the assets. The new spouse will be in line to receive that 50% of the account even if unnamed on the beneficiary form.1

IRAs. Unlike an employer-sponsored retirement plan, a spouse does not have automatic beneficiary rights with an IRA. That is because IRAs are governed under state laws rather than ERISA. One interesting estate planning aspect of an IRA rollover is that the owner of the new IRA has the freedom to name anyone as the primary beneficiary.1

Life insurance policies. The death proceeds go to the named beneficiary; occasionally, a beneficiary may not know a policy exists.

Recently, 60 Minutes did an expose on the insurance industry. Major insurers had withheld more than $7.5 billion in life insurance death proceeds from beneficiaries. They had a contractual reason for doing so: the beneficiaries had never stepped forward to file claims.5

While many of the policies involved were valued at $10,000 or less, others were worth over $1 million. The deceased policyholders had either failed to tell their heirs about the policies or misplaced the copies and the paperwork. Their heirs did not know (or know how) to claim the money. As a result, the insurance proceeds lay unclaimed for years, and the insurers only now feel pressure to pay out the benefits.5

Update your beneficiaries; let your heirs know how vital these forms are. Make sure that your beneficiary decisions on retirement, brokerage and bank accounts, college savings plans, and life insurance policies suit your wealth transfer objectives.

GREG OLIVER
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Citations.
1 - 401khelpcenter.com/401k_education/connor_beneficiary_designations.html [4/21/16]
2 – nolo.com/legal-encyclopedia/claim-payable-on-death-assets-32436.html [4/21/16]
3 – marketwatch.com/story/check-your-beneficiary-designations-now-2013-09-17/ [9/17/13]
4 – forbes.com/sites/deborahljacobs/2013/06/03/supreme-court-favors-ex-wife-over-widow-in-battle-for-life-insurance-proceeds/ [6/3/13]
5 – cbsnews.com/news/60-minutes-life-insurance-investigation-lesley-stahl/ [4/17/16]

How Millennials Can Get a Good Start on Retirement Planning

2013 new end of july 4th 2020
Some simple steps may make a major financial difference over time.

BY GREG OLIVER
If you are younger than 35, saving for retirement may not feel like a priority. After all, retirement may be 30 years away; if your employer does not sponsor a retirement plan, there may be less incentive for you to start.

Even so, you must save and invest for retirement as soon as you can. Time is your greatest ally. The earlier you begin, the more years your invested assets have to grow and compound. If you put off retirement planning until your fifties, you may end up having to devote huge chunks of your income just to catch up, at a time when you may have to care for elderly parents, fund college educations, and pay off a mortgage.

Do your part to reject the financial stereotype that the media places on millennials. Are you familiar with it? According to the mainstream media, millennials are wary of saving and investing; they are just too indebted, too pessimistic, and too scared get into the market after seeing what happened to the investments of their parents during the Great Recession.

In truth, savers of all ages were traumatized by the 2007-09 bear market. Last month, Gallup asked American households if they had any money in equity investments; just 52% said yes. That compares to 65% in April 2007. In 2014, Gallup asked Americans if investing $1,000 in equities was a good idea or a bad idea; 50% of those surveyed called it a bad one.1

A recent study from HowMuch.Net found that 52% of Americans aged 18-34 have less than $1,000 in savings. Well, guess what: another study from Go Banking Rates reveals that 62% of all Americans have less than $1,000 in savings.2

Now is the time to take some crucial financial steps. According to a poll taken by millennial advocacy group Young Invincibles, only 43% of 18-to-34-year-olds without access to a workplace retirement plan save consistently for retirement; whether your employer sponsors a plan or not, though, you can still make some wise moves before you turn 40.3

Make saving a top priority. Resolve to pay yourself first. That is, direct money toward your retirement before you do anything else, like pay the bills or spend it on needs or wants. Your future should come first.

Invest some or most of what you save. Investing in equities is vital, because it gives you the potential to grow and compound your money to outpace inflation. With interest rates so low right now, ultra-conservative fixed-income investments are generating very low returns, and most savings accounts are offering minimal interest rates. Thirty or forty years from now, you will probably not be able to retire solely on your savings. If you invest your retirement money in equities, you have the opportunity to retire on the earnings and compound interest accumulated through both saving and investing.

The effect of compounding can be profound. For example, suppose you want to retire with $1 million in savings. (By 2050, this may be a common goal rather than a lofty one.) We will project that your investments will yield 6.5% a year between now and the year you turn 65 (a reasonably optimistic assumption) and, for the sake of simplicity, we will put any potential capital gains taxes and investment fees aside. Given all that, how early would you have to begin saving and investing to reach that $1 million goal, and how much would you have to save per month to reach it?

If you start saving at 45, the answer is $2,039. If you start saving at 35, the monthly number drops to $904. How about if you start saving at 25? Only $438 a month would be needed. The earlier you start saving and investing, the more compounding power you can harness.4

Strive to get the match. Some companies reward employees with matching retirement plan contributions; they will contribute 50 cents for every dollar the worker does or, perhaps, even match the contribution dollar-for-dollar. An employer match is too good to pass up.

Invest in a way you are comfortable with. In the mid-2000s, some Wall Street money managers directed assets into investments they did not fully understand, a gamble that contributed to the last bear market. Take a lesson from that example and avoid investing in what seems utterly convoluted or mysterious.

Realize that friends and family may not know it all. The people closest to you may or may not be familiar with investing. If they are not, take what they tell you with a few grains of salt.

Getting a double-digit annual return is great, but the main concern is staying invested. The market goes up and down, sometimes violently, but there has never been a 20-year period in which the market has lost value. As you save for the long run, that is worth remembering.2

GREG OLIVEER
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Citations.
1 – gallup.com/poll/1711/stock-market.aspx [4/28/16]
2 – usatoday.com/story/money/personalfinance/2016/02/04/7-ways-millennials-can-get-jump-start-retirement-planning/78310100/ [2/4/16]
3 – marketwatch.com/story/the-real-reason-many-millennials-arent-saving-for-retirement-2016-02-17 [2/17/16]
4 – tinyurl.com/zmncqz6 [4/27/16]

Wisdom from Warren Buffett

395733_10151348382652115_230363230_nWisdom from Warren Buffett
One of the world’s most heralded investors simply keeps calm and carries on.

BY GREG OLIVER

If you ask someone who the “world’s greatest investor” is, the answer more often than not may be “Warren Buffett.” That honor has never formally been awarded to him, and many other names might be in the running for that hypothetical title, but one thing is certain: the “Oracle of Omaha” is greatly admired in investing circles.

Warren Buffett is often a voice of reason in volatile times. Through the years, the Berkshire Hathaway CEO has dispensed many nuggets of investing wisdom. Like Ben Franklin’s aphorisms in Poor Richard’s Almanac, they are grounded in common sense and memorable. Here are some particularly good ones, culled from recent articles posted at Bloomberg, TheStreet, and Zacks Investment Research:

“The most important quality for an investor is temperament, not intellect. You need a temperament that neither derives great pleasure from being with the crowd or against the crowd.”1

“Games are won by players who focus on the playing field — not by those whose eyes are glued to the scoreboard. If you can enjoy Saturdays and Sundays without looking at stock prices, give it a try on weekdays.”2

“If you aren’t thinking about owning a stock for 10 years, don’t even think about owning it for 10 minutes.”1

“The key to investing is not assessing how much an industry is going to affect society, or how much it will grow, but rather determining the competitive advantage of any given company and, above all, the durability of that advantage.”1

“Price is what you pay. Value is what you get.”1

“The cemetery for seers has a huge section set aside for macro forecasters.”2

“A business with terrific economics can be a bad investment if it is bought at too high a price.”3

“Risk comes from not knowing what you’re doing.”1

Buffett’s clarity and candor stand out in a financial world marked by jargon. Some of the quotes above are from his annual letters to Berkshire Hathaway shareholders, and show his genius for distilling investment lessons into plain English.

A classic value investor (if not a strict one), Buffett is also a great optimist. He has never stopped being bullish on America. “America is great now. It’s never been better,” Buffett told the audience at Fortune Magazine’s 2015 Most Powerful Women summit. “The stock market does wonderfully over time because American business does wonderfully over time.” He remains bullish on China, as well; he thinks Chinese stock benchmarks will sustain their momentum at least through 2017 because businesses and consumers in China have “found a way to unlock their potential.”4,5

Buffett’s blend of optimism and pragmatism have helped make him the world’s third-richest person, and the average investor might do very well to keep some of his maxims in mind, day after day.5

GREG OLIVER
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USA
OHIO
Citations.
1 – zacks.com/stock/news/181853/15-memorable-investing-quotes-from-warren-buffett [7/15/15]
2 – bloomberg.com/news/articles/2016-02-24/here-s-what-buffett-wouldn-t-do-and-maybe-you-shouldn-t-either [2/24/16]
3 – thestreet.com/story/13494470/1/3-new-warren-buffett-quotes-you-can-t-live-without.html [3/20/16]
4 – fortune.com/2015/10/16/why-the-most-powerful-women-and-warren-buffett-are-bullish-on-the-economy/ [10/16/15]
5 – globaltimes.cn/content/919951.shtml [5/4/15]