1. NOT TAKING ADVANTAGE OF TAX BREAKS – Taxes are by far the highest expense any of us have, and the problem is more than likely going to get worse. The tax laws are complex things that change every year. While most people that are employed and have a few bank statements and/or brokerage accounts can get away with preparing their own taxes with one of the many tax software packages on the market, those that have complex returns that have to fill out the “Letter Schedules” (Schedules A, B, C, D, E etc) in depth, or depreciation/amortization items should almost always be using a tax pro.
SOLUTION: Have a tax pro do your return once every so many years, even if you don’t need to. If there is something that you have been missing it could well be worth the one time expense when you capitalize the savings over a period of years. For those that get property tax assessments on a regular basis, do you make appeals when applicable? Here in Allegheny County, where Pittsburgh is located, their assessment method includes taking a picture of the front of the property and going by the land area already on record. Recently a new client’s mom was assessed for a creek that ran through her property. When her son (my client)brought this to the appeal’s board attention, the tax was lowered without question.
2. NOT HAVING OR NOT CHANGING THE BENEFICIARY INFORMATION ON YOUR LIFE INSURANCE POLICIES WHEN APPLICABLE.
John and Mary got a divorce three years ago. John and Mary can’t stand each other, just the mere mention of the other’s name gets the bile flowing up the opposite party’s esophagus. Last year John got remarried to Linda. John and Linda are very much in love. Today, John perished in a traffic accident on the freeway. Today Mary is now a multi-millionaire thanks to John, and Linda is stuck paying huge final expenses from the joint bank and investment accounts? Why did this happen? John never bothered to inform his own insurance agent and his H.R. person at work of the major change in his life, and fill out the applicable paperwork switching the beneficiary from Mary to Linda.
I know first hand this happens, not only from being an insurance professional, but also because I served as Vice-President of my volunteer fire company for a period of 3 years, and the “veep’s” job included maintaining insurance beneficiary information. During my term as VP, a member passed away in a firefighting related death, one of the many things the State of PA did when they came down to guide us through the Line of Duty Death process was to order that the drawer with the members file be sealed until further notice. No new information could be added to or subtracted from ANYONE’S file in that drawer until I was told differently. After the access was re-allowed, several members suddenly remembered changes that needed to be made. Thank God nothing else happened in the meantime
SOLUTION: Check the beneficiary information on your life insurance policies on a regular basis but no less than every two years or when there is a major life change including marriage, divorce, children born etc. Special note: if you leave money to minors, there will have to be a guardian for the money as the court system doesn’t usually release hundreds or thousands of dollars for kids to use at their own discretion. If you don’t appoint someone of your own choosing, the court will appoint a guardian for the money that may or may not be the person you would choose. It may or may not be the person that you chose for the day to day care of your offspring.
3. NOT HAVING OR NOT CHANGING THE BENEFICIARY INFORMATION ON YOUR IRAS
Insurance policies and IRAs have a very important point in common, they are affected by laws outside of the the estate law and probate processes in most cases. I say most cases because if you have a cash value life insurance (permanent insurance as opposed to term) its value could make you eligible to pay the federal estate tax if your estate is large enough. This is NOT a good thing to have happen to you. IRA money could be subject to estate law if you name your estate as beneficiary instead of an individual. Although if you die it won’t cost you anything by not naming a beneficiary, it could potentially cost your loved ones millions. The reason is that IRAs inherited by an individual can benefit by what is called an “IRA stretch.”
Here is a Cliff’s Notes version of the Stretch. Let’s say upon your passing you are of the age where you have to take Required Minimum Distributions (RMDs), which means you are over age 70 1/2. Let’s also say you leave your IRA to your 35 year old son or daughter. Upon inherting the IRA your son or daughter, because they are wise, go to Halas Consulting to learn the best way to hiandle their new wealth. The good folks at Halas Consulting would advise your son or daughter to set up a Beneficiary IRA. Basically what happens is when ownership is transferred properly, your son or daughter must still keep taking RMDs, but they do so based on their younger age and not your older age. This means less is distributed to be taxed, if the IRA is a traditional IRA and not a Roth IRA which may never be taxed. If they also ask Halas Consulting to manage the money and it is set up in a proper asset allocation model, that money can potentially grow very large (we’re talkin’ millions here) on a tax advantaged basis with only smaller amounts of money coming out annually, until your kid hits around the half century mark, to satisfy the RMD. This is a good thing.
HOWEVER (you just KNEW it was coming), if the IRA is set up or transferred the wrong way the stretch is lost FOREVER. What happens if the reason this occurs is because of bad advice? In most cases the IRS says “tough beans,” there are many Private Letter Rulings (PLRs) by people who have claimed this very thing and have lost in the PLR. You could sue the one who gave the bad advice but you still might lose and then you’ll be down legal fees on top of losing your case. For more in depth information on this, I recommend reading books written by IRA expert Ed Slott. These can be found at bookstores or possibly your local library(yeah, that place with all the books that most haven’t been to since they had to write their college thesis or even worse, their senior year of high school)
THE SOLUTION: Always have a beneficiary named on your IRAs and 401ks. Again, if you want to take maximum advantage of the Stretch and name a minor. Please also name an adult you trust with money to act as guardian of the money till the minor reaches an age you feel that they would be responsible.
4. TRANSFERRING HIGHLY APPRECIATED COMPANY STOCK FROM YOUR RETIREMENT PLAN TO AN IRA.
While on the surface this may seem like a good idea, it’s actually not. The reason being is a little known rule called “Net Unrealized Appreciation” or NUA. Here’s a brief synopsis of the way NUA works. Let’s say you had 500 shares of company stock you accumulated during your working years. For simplicity’s sake let’s say you had the option to buy this stock for $3 per share when the stock was priced at 10 back in the heydays of the late 1990s. Now at retirement these shares are worth $20. If you do transfer these shares to a self directed IRA upon retirement, you will owe income taxes on these shares whenever they are distributed from your IRA. Your income taxes could be quite high if you have a lot of retirement income.
THE SOLUTION: If you properly take advantage of the NUA, you will sell the stock and move the money out to a non-qualified(non-IRA) brokerage account. Upon doing this you will pay income tax on $7 per share, which is the amount of the difference between what you paid for the stock ($3) and what the stock was worth at the time you exercised your option to buy ($10). The difference between the price of the stock at purchase ($10), and what it is currently worth ($20), or $10 per share, will be taxed at the capital gains rate which is currently 15% max ( the top income tax tier could be over double that). After the stocks are sold and removed from the IRA, transfer the rest to an IRA for maximum in flexibility and options. The cash proceeds of the stock you just sold are no longer subject to taxes, only the interest and capital gains on this cost basis will be taxed if you invest the money held in the non-qualified brokerage account. To manage your taxes efficiently and not get hammered with high expenses, a well researched growth stock ETF would be a fine choice here. Just make sure it fits in with your asset allocation model.
5. NOT MINDING YOUR CREDIT
With the recent financial collapse still fresh in people’s minds, credit and debt have become four-letter words. But while credit CAN be bad if improperly used it can also be a life saver and allow you to buy many necessary things that can’t be paid for up front in cash because of their cost. Those that are mindful of their credit score and research what makes one’s score look better and what the various credit agencies look for pay less money in interest on cars, houses, home refis, and credit cards. Not to be a braggart, but several months ago when it was looking like the doom and gloom were going to last forever, I was sitting in my kitchen opening mail and some of the solicitations were ready to loan me upwards of $50k in unsecured money because of my good credit, and here were the people on TV that were getting foreclosed on houses where they owed less than that.
Another area where a good credit will help you with lower payments is insurance. ALL insurance companies use something called an “insurance score” when figuring out your insurance score. For example, when buying auto insurance, it makes sense that insurance companies would look at your driving and moving violations record, but what the heck does my credit score have to do what kind of driver I am? Can’t I be unwise with money but a model citizen on the road? Well, according to research done by the insurance companies, no you can’t. Your insurance score is basically a composite of how you live your life, and those that live a responsible life get to save some money. One of those components is money and how responsible you are with it. Likewise, it you have a DUI on your driving record, it could also affect your premiums on your home, health, and life insurance, as well as your auto insurance.
THE SOLUTION- You get a free credit report every year from annualcreditreport.com take advantage of it. I would recommend that every year or every other year you spend around $40 and get a consolidated credit report, or a “tri-merge” of all three companies. This consolidated report will give you much more detail than the freebie, and is the one banks and mortgage brokers use to decide who gets a loan ( at least they did until the govt. stepped in and told them they had to loan to deadbeats and then whole economy crashed. But I digress). Go through this report with a fine toothed comb. One year on mine I found a credit card account that I closed years ago and the bank failed to report it to the credit agencies as closed. This is your “face” and reputation at stake, DON’T be clueless as to what it says.
Well here are five things you can work on to get you started, if I think of more ways I’ll write a sequel to this article. In the meantime, take care of your money, and it will take care of you.