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Ways to Fund Special Needs Trusts

Brent E Chavez

Ways to Fund Special Needs Trusts

A look at the different options & strategies.

If you have a child with special needs, a trust may be a financial priority. There are many crucial goods and services that Medicaid and Supplemental Security Income might not pay for, and a special needs trust may be used to address those financial challenges. Most importantly, a special needs trust may help provide for your disabled child in case you’re no longer able to care for them.

In planning a special needs trust, one of the most pressing questions is: when it comes to funding the trust, what are the options?

There are four basic ways to build up a third-party special needs trust. One method is simply to pour in personal assets, perhaps from immediate or extended family members. Another possibility is to fund the trust with permanent life insurance. Proceeds from a settlement or lawsuit can also serve as the core of the trust assets. Lastly, an inheritance can provide the financial footing to start and fund this kind of trust.

Families choosing the personal asset route may put a few thousand dollars of cash or other assets into the trust to start, with the intention that the initial investment will be augmented by later contributions from grandparents, siblings, or other relatives. Those subsequent contributions can be willed to the trust, or the trust may be named as a beneficiary of a retirement or investment account.1

When life insurance is used, the trustor makes the trust the beneficiary of the policy. When the trustor dies, the policy’s death benefit is left, tax free, to the trust.2

A lump-sum settlement or inheritance can be invested while within the trust, inviting the possibility of growth and compounding. With a worthy trustee in place, there is less likelihood of mismanagement, and funds may come out of the trust to support the beneficiary in a measured way that does not risk threatening government benefits.

The trust may also be funded with tangible, non-cash assets. Examples include real estate, securities, collections of cars or art or antiques, or even a business. These assets (and others like them) can be left to the trustee of the special needs trust via a revocable living trust or will. Just remember that the goal of the trust is to provide the trust beneficiary with cash. Those tangible assets will need to be sold or liquidated to meet that objective.1

Currently, it costs about $3,500 to design a basic special needs trust. Given that initial expense and ongoing administrative costs, most families aim to place at least $100,000 inside these vehicles. The typical trustee is a bank – or more precisely, a bank’s trust division – and annual administration fees commonly range from 0.5% to 1.5%. If the trustee is a relative of the child or a close friend of the family, administration may be done for free or at minimal cost.3 

Care must be taken not only in the setup of a special needs trust, but in the management of it as well. This should be a team effort. The family members involved should seek out legal and financial professionals who are well versed in this field, and the resulting trust should be a product of close collaboration.

Questions? Please contact us: 215-766-7002, info@aeinvestmentsgroup.com

Citations
1 – specialneedsanswers.com/the-top-7-reasons-to-establish-a-special-needs-trust-13358 [7/3/19]
2 – specialneedsanswers.com/funding-a-special-needs-trust-with-life-insurance-the-basics-17359 [10/2/19]
3 – barrons.com/articles/their-child-has-special-needs-heres-how-theyre-planning-for-assistance-51575032400 [11/29/19]

This material was prepared by MarketingPro, Inc., and does not necessarily represent the views of the presenting party, nor their affiliates. This information has been derived from sources believed to be accurate. Please note – investing involves risk, and past performance is no guarantee of future results. The publisher is not engaged in rendering legal, accounting or other professional services. If assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. This is neither a solicitation nor recommendation to purchase or sell any investment or insurance product or service, and should not be relied upon as such. All indices are unmanaged and are not illustrative of any particular investment.

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Annual Financial To-Do List

Brent E Chavez

Annual Financial To-Do List

Things you can do for your future as the year unfolds.

What financial, business, or life priorities do you need to address for the coming year? Now is a good time to think about the investing, saving, or budgeting methods you could employ toward specific objectives, from building your retirement fund to managing your taxes. You have plenty of choices. Here are a few ideas to consider:

Can you contribute more to your retirement plans this year? In 2020, the contribution limit for a Roth or traditional individual retirement account (IRA) remains at $6,000 ($7,000, for those making “catch-up” contributions). Your modified adjusted gross income (MAGI) may affect how much you can put into a Roth IRA: singles and heads of household with MAGI above $139,000 and joint filers with MAGI above $206,000 cannot make 2020 Roth contributions.1

Before making any changes, remember that withdrawals from traditional IRAs are taxed as ordinary income, and if taken before age 59½, may be subject to a 10% federal income tax penalty. To qualify for the tax-free and penalty-free withdrawal of earnings, Roth IRA distributions must meet a five-year holding requirement and occur after age 59½.2

Make a charitable gift. You can claim the deduction on your tax return, provided you itemize your deductions with Schedule A. The paper trail is important here. If you give cash, you need to document it. Even small contributions need to be demonstrated by a bank record, payroll deduction record, credit card statement, or written communication from the charity with the date and amount. Incidentally, the Internal Revenue Service (I.R.S.) does not equate a pledge with a donation. If you pledge $2,000 to a charity this year, but only end up gifting $500, you can only deduct $500.3

These are hypothetical examples and are not a replacement for real-life advice. Make certain to consult your tax, legal, or accounting professional before modifying your strategy. 

See if you can take a home office deduction for your small business. If you are a small-business owner, you may want to investigate this. You may be able to legitimately write off expenses linked to the portion of your home used to exclusively conduct your business. Using your home office as a business expense involves a complex set of tax rules and regulations. Before moving forward, consider working with a professional who is familiar with home-based businesses.4

Open an HSA. A Health Savings Account (HSA) works a bit like your workplace retirement account. There are also some HSA rules and limitations to consider. You are limited to a $3,550 contribution for 2020, if you are single; $7,100, if you have a spouse or family. Those limits jump by a $1,000 “catch-up” limit for each person in the household over age 55.5

If you spend your HSA funds for nonmedical expenses before age 65, you may be required to pay ordinary income tax as well as a 20% penalty. After age 65, you may be required to pay ordinary income taxes on HSA funds used for nonmedical expenses. HSA contributions are exempt from federal income tax; however, they are not exempt from state taxes in certain states.

Pay attention to asset location. Tax-efficient asset location is an ignored fundamental of investing. Broadly speaking, your least tax-efficient securities should go in pretax accounts, and your most tax-efficient securities should be held in taxable accounts.

Asset allocation is an approach to help manage investment risk. Asset allocation does not guarantee against investment loss. Before adjusting your asset allocation, consider working with an investment professional who is familiar with tax rules and regulations. 

Review your withholding status. Should it be adjusted due to any of the following factors?

  • You tend to pay a great deal of income tax each year.
  • You tend to get a big federal tax refund each year. 
  • You recently married or divorced.
  • A family member recently passed away.
  • You have a new job and you are earning much more than you previously did. 
  • You started a business venture or became self-employed. 

These are general guidelines and are not a replacement for real-life advice. So, make certain to speak with a professional who understands your situation before making any changes.

Are you marrying in 2020? If so, why not review the beneficiaries of your retirement accounts and other assets? When considering your marriage, you may want to make changes to the relevant beneficiary forms. The same goes for your insurance coverage. If you will have a new last name in 2020, you will need a new Social Security card. Additionally, the two of you may have retirement accounts and investment strategies. Will they need to be revised or adjusted with marriage?

Are you coming home from active duty? If so, go ahead and check the status of your credit as well as the state of any tax and legal proceedings that might have been preempted by your orders. Make sure any employee health insurance is still there and revoke any power of attorney you may have granted to another person.

Consider the tax impact of any upcoming transactions. Are you planning to sell any real estate this year? Are you starting a business? Do you think you might exercise a stock option? Might any large commissions or bonuses come your way in 2020? Do you anticipate selling an investment that is held outside of a tax-deferred account? 

If you are retired, and in your seventies, remember your RMDs. In other words, Required Minimum Distributions (RMDs) from traditional retirement accounts.There is a new development to report on this, as the Setting Every Community Up for Retirement Enhancement (SECURE) Act just altered a key rule pertaining to these mandatory withdrawals.Under the SECURE ACT, in most circumstances, once you reach age 72, you must begin taking RMDs from most types of these accounts. The previous “starting age” was 70½.6

This new RMD rule applies only to those who will turn 70½ in 2020 or later. If you were 70½ when 2019 ended, you must take your initial RMD(s) by April 1, 2020, at the latest.6

If you have already begun taking RMDs, your annual deadline for them becomes December 31 of each year. The I.R.S. penalty for failing to take an RMD can be as much as 50% of the RMD amount that is not withdrawn.6

Vow to focus on being healthy and wealthy in 2020. And don’t be afraid to ask for help from professionals who understand your individual situation.

Do you have any questions? Please feel free to reach out to me at bchavez@aeinvestmentsgroup.com.

Citations
1 – thefinancebuff.com/401k-403b-ira-contribution-limits.html [7/16/19]
2 – kiplinger.com/article/retirement/T032-C000-S000-how-much-can-you-contribute-traditional-ira-2020.html [1/10/20]
3 – irs.gov/newsroom/charitable-contributions [6/28/19]
4 – nerdwallet.com/blog/taxes/home-office-tax-deductions-small-business/ [1/22/19]
5 – cnbc.com/2019/06/03/these-are-the-new-hsa-limits-for-2020.html [6/4/19]
6 – thestreet.com/retirement/secure-retirement-act-makes-big-changes-to-how-you-save [12/21/19]

This material was prepared by MarketingPro, Inc., and does not necessarily represent the views of the presenting party, nor their affiliates. This information has been derived from sources believed to be accurate. Please note – investing involves risk, and past performance is no guarantee of future results. The publisher is not engaged in rendering legal, accounting or other professional services. If assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. This is neither a solicitation nor recommendation to purchase or sell any investment or insurance product or service, and should not be relied upon as such. All indices are unmanaged and are not illustrative of any particular investment.

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New I.R.S. Contribution Limits

Brent E Chavez

New I.R.S. Contribution Limits

Changes for 2020.

The I.R.S. increased the annual contribution limits on IRAs, 401(k)s, and other widely used retirement plan accounts for 2020. Here’s a quick look at the changes.

• You can put up to $6,000 in any type of IRA. The limit is $7,000 if you will be 50 or older at any time in 2020.1,2

• Annual contribution limits for 401(k)s, 403(b)s, the federal Thrift Savings Plan, and most 457 plans also get a $500 boost for 2020. The new annual limit on contributions is $19,500. If you are 50 or older at any time in 2020, your yearly contribution limit for one of these accounts is $26,000.1,2

• Are you self-employed, or do you own a small business? You may have a solo 401(k) or a SEP IRA, which allows you to make both an employer and employee contribution. The ceiling on total solo 401(k) and SEP IRA contributions rises $1,000 in 2020, reaching $57,000.3

• If you have a SIMPLE retirement account, next year’s contribution limit is $13,500, up $500 from the 2019 level. If you are 50 or older in 2020, your annual SIMPLE plan contribution cap is $16,500.3

• Yearly contribution limits have also been set a bit higher for Health Savings Accounts (which may be used to save for retirement medical expenses). The 2020 limits: $3,550 for individuals with single medical coverage and $7,100 for those covered under qualifying family plans. If you are 55 or older next year, those respective limits are $1,000 higher.4

Have questions? Please contact us at (215) 766-7002 or info@aeinvestmentsgroup.com.

Citations
1 – irs.gov/retirement-plans/plan-participant-employee/retirement-topics-ira-contribution-limits [11/8/19]
2 – irs.gov/newsroom/401k-contribution-limit-increases-to-19500-for-2020-catch-up-limit-rises-to-6500 [11/6/19]
3 – forbes.com/sites/ashleaebeling/2019/11/06/irs-announces-higher-2020-retirement-plan-contribution-limits-for-401ks-and-more/ [11/6/19]
4 – cnbc.com/2019/06/03/these-are-the-new-hsa-limits-for-2020.html [6/4/19]

This material was prepared by MarketingPro, Inc., and does not necessarily represent the views of the presenting party, nor their affiliates. This information has been derived from sources believed to be accurate. Please note – investing involves risk, and past performance is no guarantee of future results. The publisher is not engaged in rendering legal, accounting or other professional services. If assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. This is neither a solicitation nor recommendation to purchase or sell any investment or insurance product or service, and should not be relied upon as such. All indices are unmanaged and are not illustrative of any particular investment.

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The SECURE Act

Brent E Chavez

The SECURE Act

Long-established retirement account rules change.

The Setting Every Community Up for Retirement Enhancement (SECURE) Act is now law. With it, comes some of the biggest changes to retirement savings law in recent years. While the new rules don’t appear to amount to a massive upheaval, the SECURE Act will require a change in strategy for many Americans. For others, it may reveal new opportunities.

Limits on Stretch IRAs. The legislation “modifies” the required minimum distribution rules in regard to defined contribution plans and Individual Retirement Account (IRA) balances upon the death of the account owner. Under the new rules, distributions to non-spouse beneficiaries are generally required to be distributed by the end of the 10th calendar year following the year of the account owner’s death.1

It’s important to highlight that the new rule does not require the non-spouse beneficiary to take withdrawals during the 10-year period. But all the money must be withdrawn by the end of the 10th calendar year following the inheritance.

A surviving spouse of the IRA owner, disabled or chronically ill individuals, individuals who are not more than 10 years younger than the IRA owner, and child of the IRA owner who has not reached the age of majority may have other minimum distribution requirements. 

Let’s say that a person has a hypothetical $1 million IRA. Under the new law, your non-spouse beneficiary may want to consider taking at least $100,000 a year for 10 years regardless of their age. For example, say you are leaving your IRA to a 50-year-old child. They must take all the money from the IRA by the time they reach age 61. Prior to the rule change, a 50-year-old child could “stretch” the money over their expected lifetime, or roughly 30 more years.

IRA Contributions and Distributions. Another major change is the removal of the age limit for traditional IRA contributions. Before the SECURE Act, you were required to stop making contributions at age 70½. Now, you can continue to make contributions as long as you meet the earned-income requirement.2

Also, as part of the Act, you are mandated to begin taking required minimum distributions (RMDs) from a traditional IRA at age 72, an increase from the prior 70½. Allowing money to remain in a tax-deferred account for an additional 18 months (before needing to take an RMD) may alter some previous projections of your retirement income.2

The SECURE Act’s rule change for RMDs only affects Americans turning 70½ in 2020. For these taxpayers, RMDs will become mandatory at age 72. If you meet this criterion, your first RMD won’t be necessary until April 1 of the year after you reach 72.2

Multiple Employer Retirement Plans for Small Business. In terms of wide-ranging potential, the SECURE Act may offer its biggest change in the realm of multi-employer retirement plans. Previously, multiple employer plans were only open to employers within the same field or sharing some other “common characteristics.” Now, small businesses have the opportunity to buy into larger plans alongside other small businesses, without the prior limitations. This opens small businesses to a much wider field of options.1

Another big change for small business employer plans comes for part-time employees. Before the SECURE Act, these retirement plans were not offered to employees who worked fewer than 1,000 hours in a year. Now, the door is open for employees who have either worked 1,000 hours in the space of one full year or to those who have worked at least 500 hours per year for three consecutive years.2

While the SECURE Act represents some of the most significant changes we have seen to the laws governing financial saving for retirement, it’s important to remember that these changes have been anticipated for a while now. If you have questions or concerns, reach out to your trusted financial professional.

Have questions? Please contact us at (215) 766-7002 or info@aeinvestmentsgroup.com.

Learn more about Brent E Chavez, the Services We Provide, or Why Choose AE?

Citations
1 -waysandmeans.house.gov/sites/democrats.waysandmeans.house.gov/files/documents/SECURE%20Act%20section%20by%20section.pdf  [12/25/19]
2 – marketwatch.com/story/with-president-trumps-signature-the-secure-act-is-passed-here-are-the-most-important-things-to-know-2019-12-21 [12/25/19]

This material was prepared by MarketingPro, Inc., and does not necessarily represent the views of the presenting party, nor their affiliates. This information has been derived from sources believed to be accurate. Please note – investing involves risk, and past performance is no guarantee of future results. The publisher is not engaged in rendering legal, accounting or other professional services. If assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. This is neither a solicitation nor recommendation to purchase or sell any investment or insurance product or service, and should not be relied upon as such. All indices are unmanaged and are not illustrative of any particular investment.

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Overlooked Tax Deductions for Small-Business Owners

Brent E Chavez

Overlooked Tax Deductions for Small-Business Owners

Helpful tips for tax time.

Being a small-business owner isn’t easy. After all, balancing payroll, managing employees, drawing up marketing plans, and handling the bookkeeping can be stressful! Luckily, the Internal Revenue Service (I.R.S.) allows small-business owners to take some surprising deductions, which may help come tax time. Read on to learn more.

Remember, the information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties. Please consult a professional with legal or tax expertise for specific information regarding your individual situation.

Employ your personal cell phone. The I.R.S. allows small-business owners to deduct the cost of the time spent on business calls made while using their personal mobile device. The key is to make sure you keep an itemized monthly phone bill for your records.1 Assuming an $80-per-month phone bill and a 50% deduction, you may be able to deduct $480 from your state and federal tax returns! The best way to track your business call time? Try a using separate number for your business, which automatically routes to your phone. This way, it will be easy to see your business versus personal phone usage.

Put your home to work. If you use part of your home for business, you may be able to deduct those expenses. These can include a portion of your home as well as insurance and utilities.

However, there are some conditions that must be met to claim these deductions. First, the portion of your home you claim for business use must be exclusively for your company. Second, the part of your home used by your company must be either your principal place of business, a place to meet with customers, or a separate structure used in connection with your business. 2

Hold your meetings over a meal. If you and your employees have meetings, consider having them over a meal. As long as the dining expenses are reasonable and you’re eating with an employee to discuss business-related items, you are permitted to deduct 50% of the meal cost. 3

This may seem like a small advantage, but consider this: if you manage to have a “business lunch” every day for $10, you can deduct $5 of that expense, which could amount to over $1,200 a year in claimable deductions!

Deduct and fly for free. Many small-business owners believe they can reduce travel costs by using the miles they earn through a qualifying credit card to pay for their next business flight. Since your travel costs for business may be fully deductible, however, why not put those miles to use in your personal life instead?

Depending on your air-travel expenses, your income tax rate, and the number of miles you may be able to accrue in a year, this could save you thousands of dollars in expenses.

Have questions? Please contact us at (215) 766-7002 or info@aeinvestmentsgroup.com.

Learn more about Brent E Chavez, the Services We Provide, or Why Choose AE?

Citations
1 – www.irs.gov/businesses/small-businesses-self-employed/deducting-business-expenses#what [6/03/2019]
2 – www.irs.gov/pub/irs-pdf/p535.pdf [6/03/2019]
3 – www.irs.gov/newsroom/irs-issues-guidance-on-tax-cuts-and-jobs-act-changes-on-business-expense-deductions-for-meals-entertainment [6/03/2019]

This material was prepared by MarketingPro, Inc., and does not necessarily represent the views of the presenting party, nor their affiliates. This information has been derived from sources believed to be accurate. Please note – investing involves risk, and past performance is no guarantee of future results. The publisher is not engaged in rendering legal, accounting or other professional services. If assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. This is neither a solicitation nor recommendation to purchase or sell any investment or insurance product or service, and should not be relied upon as such. All indices are unmanaged and are not illustrative of any particular investment.

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The Sequence of Returns

Brent E Chavez

The Sequence of Returns

A look at how variable rates of return do (and do not) impact investors over time.

What exactly is the “sequence of returns”? The phrase describes the yearly variation in an investment portfolio’s rate of return. Across 20 or 30 years of saving and investing for the future, what kind of impact do these deviations from the average return have on a portfolio’s final value?

The answer: no impact at all.

Once an investor retires, however, these ups and downs can have an effect on portfolio value – and retirement income.

During the accumulation phase, the sequence of returns is ultimately inconsequential. Yearly returns may vary greatly or minimally; in the end, the variance from the mean hardly matters. (Think of “the end” as the moment the investor retires: the time when the emphasis on accumulating assets gives way to the need to withdraw assets.)

An analysis from BlackRock bears this out. The asset manager compares three model investing scenarios: three investors start portfolios with lump sums of $1 million, and each of the three portfolios averages a 7% annual return across 25 years. In two of these scenarios, annual returns vary from -7% to +22%. In the third scenario, the return is simply 7% every year. In all three situations, each investor accumulates $5,434,372 after 25 years – because the average annual return is 7% in each case.1

Here is another way to look at it. The average annual return of your portfolio is dynamic; it changes, year-to-year. You have no idea what the average annual return of your portfolio will be when “it is all said and done,” just like a baseball player has no idea what his lifetime batting average will be four seasons into a 13-year playing career. As you save and invest, the sequence of annual portfolio returns influences your average yearly return, but the deviations from the mean will not impact the portfolio’s final value. It will be what it will be.1

When you shift from asset accumulation to asset distribution, the story changes. You must try to protect your invested assets against sequence of returns risk.

This is the risk of your retirement coinciding with a bear market (or something close). Even if your portfolio performs well across the duration of your retirement, a bad year or two at the beginning could heighten concerns about outliving your money.

For a classic illustration of the damage done by sequence of returns risk, consider the awful 2007-2009 bear market. Picture a couple at the start of 2008 with a $1 million portfolio, held 60% in equities and 40% in fixed-income investments. They arrange to retire at the end of the year. This will prove a costly decision. The bond market (in shorthand, the S&P U.S. Aggregate Bond Index) gains 5.7% in 2008, but the stock market (in shorthand, the S&P 500) dives 37.0%. As a result, their $1 million portfolio declines to $800,800 in just one year. 2, 3

If you are about to retire, do not dismiss this risk. If you are far from retirement, keep saving and investing, knowing that the sequence of returns will have its most relevant implications as you make your retirement transition.

Have questions? Please contact us at (215) 766-7002 or info@aeinvestmentsgroup.com.

Learn more about Brent E Chavez, the Services We Provide, or Why Choose AE?

Citations
1 – blackrock.com/pt/literature/investor-education/sequence-of-returns-one-pager-va-us.pdf [10/19]
2 – kiplinger.com/article/retirement/T047-C032-S014-is-your-retirement-income-in-peril-of-this-risk.html [7/3/18]
3 – thebalance.com/how-sequence-risk-affects-your-retirement-money-2388672 [2/8/19]

This material was prepared by MarketingPro, Inc., and does not necessarily represent the views of the presenting party, nor their affiliates. This information has been derived from sources believed to be accurate. Please note – investing involves risk, and past performance is no guarantee of future results. The publisher is not engaged in rendering legal, accounting or other professional services. If assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. This is neither a solicitation nor recommendation to purchase or sell any investment or insurance product or service, and should not be relied upon as such. All indices are unmanaged and are not illustrative of any particular investment.

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Why DIY Investment Management Is Such a Risk

Brent E Chavez

Why DIY Investment Management Is Such a Risk

Paying attention to the wrong things becomes all too easy.

If you ever have the inkling to manage your investments on your own, that inkling is worth reconsidering. Do-it-yourself investment management is generally a bad idea for the retail investor for myriad reasons.

1. Getting caught up in the moment.
When you are watching your investments day to day, you can lose a sense of historical perspective. This may be especially true in longstanding bull markets, in which investors are sometimes lulled into assuming that the big indices will move in only one direction.

2. Listening too closely to talking heads.
The noise of Wall Street is never-ending and can breed a kind of shortsightedness that may lead you to focus on the micro rather than the macro. As an example, the hot issue affecting a sector today may pale in comparison to the developments affecting it across the next ten years or the past ten years.

3. Looking only to make money in the market.
Wall Street represents only one avenue for potentially building your retirement savings or wealth. When you are caught up in the excitement of a rally, that truth may be obscured. You can build savings by spending less. You can receive “free money” from an employer willing to match your retirement plan contributions to some degree. You can grow a hobby into a business or even switch jobs or careers.

4. Saving too little.
For a DIY investor, the art of investing equals making money in the markets, not necessarily saving the money you have made. Subscribing to that mentality may dissuade you from saving as much as you should for retirement and other goals.

5. Paying too little attention to taxes.
A 10% return is less sweet if federal and state taxes claim 3% of it. This routinely occurs, however, because just as many DIY investors may play the market in one direction, they also may skimp on playing defense.

6. Failing to pay attention to your emergency fund.
You may need more than six months of cash reserves. Many people may not have anywhere near that, and some DIY investors give scant attention to their cash position. 1

7. Overreacting to a bad year.
Sometimes the bears appear. Sometimes stocks do not rise 10% annually. Fortunately, you have more than one year in which to plan for retirement (and other goals). Your long-run retirement saving and investing approach – aided by compounding – matters more than what the market does during a particular 12 months. Dramatically altering your investment strategy in reaction to present conditions can backfire.

8. Equating the economy with the market.
They are not one and the same. Moreover, some investments and market sectors can do well or show promise when the economy goes through a rough stretch.

9. Focusing more on money than on the overall quality of life.
Managing investments – or the entirety of a very complex financial life – on your own takes time. More time than many people want to devote; more time than many people initially assume. That kind of time investment can subtract from your quality of life – another reason to turn to other resources for help and insight.

Have questions? Please contact us at (215) 766-7002 or info@aeinvestmentsgroup.com.

Learn more about Brent E Chavez, the Services We Provide, or Why Choose AE?

Citations
1 – cnbc.com/2019/03/18/how-much-to-save-for-emergencies-comes-down-to-income-spending-habits.html [3/18/19]

This material was prepared by MarketingPro, Inc., and does not necessarily represent the views of the presenting party, nor their affiliates. This information has been derived from sources believed to be accurate. Please note – investing involves risk, and past performance is no guarantee of future results. The publisher is not engaged in rendering legal, accounting or other professional services. If assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. This is neither a solicitation nor recommendation to purchase or sell any investment or insurance product or service, and should not be relied upon as such. All indices are unmanaged and are not illustrative of any particular investment.

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How do Income Riders Really Work?

Brent E Chavez

Hello everyone. This is Brent Chavez of Aequitas Equitas Investment Group. I’m coming to you from beautiful and historic Bedminster, PA. I just want to talk a little bit today about something that is very frustrating to me as an adviser, and has frustrated many investors and many people that have been in my office with these investments… and that is an income rider that is found on variable annuities and fixed indexed annuities.

They position these riders as if the individual is going to get a guaranteed return of six, seven, sometimes even eight percent. And the problem is that the average investor doesn’t realize what this guarantee actually means. What are they getting?

Well, I just recently came across an advertisement for a Transamerica variable annuity. It looks to the inexperienced eye, that you’re going to get 7.2% return guaranteed for 10 years. And in the advertisement it says: “Double your withdrawal base. For those looking for retirement income, Transamerica Retirement Income Max, available with the Transamerica variable annuity, delivers. Designed to be straightforward and flexible retirement income that can double your withdraw base in just 10 years.” Then big bold letters, it says: “More confidence, 7.2% compounding growth.” And again, if you don’t know what you’re looking at, it looks like man, they’re guaranteeing to double my money over the next 10 years.
But what really is that? What does that mean to you as the investor?

Well, you need to understand, it’s just a very expensive rider that the insurance company puts on to your principal that you initially invest with the company. And so, you end up having a cash value in your policy, and then you have a hypothetical amount in your policy – I like to call that your Monopoly money, because it’s not real. You could never withdraw that complete value no matter if you’ve been in the policy for 10, 20, or 30 years. It’s just really hypothetical numbers, not your real cash value. And so, the company rolls up this hypothetical number in your account over a 10-year period, and they guarantee they’re going to do it, in this case, at a 7.2% rate of return or doubling your money. But the reality of it is, your real cash value, most likely, will be much less. So if you say at the end of the 10 years, this contract is a 10 year contract, you want to walk away, you’re going to go to insurance company and you’re not going to be able to take out that guaranteed 7.2%… you will be able to take out your cash value instead. When you really dig in and look at what that means for individuals – again, it gets positioned that you can live on this guaranteed income no matter what happens in the market, you’re going to be able to have this guaranteed lifetime payment.

So, at first blush this may seem good to the investor, that they’re going to have this guaranteed payment, no matter what happens. But when you dig in and look at the math of what is actually happening… it’s not that great. So, if you have $100,000 for example, that rider is going to cost you a minimum of $1,350 a year. If you want to have it set up so that you have a joint life set up on this contract, well it’s going to be 1.45%. So, $100,000, you’re looking at $1350 a year for single life. You’re looking at $1450 for this rider on a joint life contract. Then, when you add in the fact that you again are going to pay, within the advertisement for this Transamerica annuity, you’re going to pay anywhere from .20 to 1.9% M&E fee on top of the 1.35 to 1.45, you’re going to pay an average investment fee for having deep investments, which are going to be mutual funds, within your annuity with their average investment cost being about 1%. So, you can have 1.45%, plus another 1% for your investment and you can have a 1.90, on top of that, the M&E fee. Also, there is a $50 policy fee a year. And so, you’re looking at 4.35%, to have this product.

So, you can imagine the returns that you’re going to need to get to be able to overcome all these costs that you have coming up out of the investment money. And then on top of it, with inside this advertisement it says that, that 1.35 or 1.45, is based on your hypothetical pile of money, your funny money pile. So that’s most likely going to be higher than your real cash value. And they mentioned that with inside the ad that your real money, your real cash value can be substantially less than your income rider pile of money. And so, you could be, as a percentage of your asset, paying a substantially higher amount than 1.35 or 1.45, and contractually they can increase that 1.35 or 1.45 an additional .75 during the life of you having this investment with them. So, you could have 1.35 to start and then they come in and add .75… so now your income rider is a 2.1, we get into a bear market, your value of your portfolio goes down by 30%. And so, you could see you could be at 2.5 or 3%, just with this one rider.

Then say everything goes great. You get through the 10-year period and your money income value is doubled – you gave them $125,000; you have $250,000 sitting in this variable annuity. Well, now here comes the second part of the payout to you. So now, at that point, if you’re age 64 and you want to start this income for life, you get a 4% payout. If you’re 69 you get a 5.25% payout. If you are 74, you get a 5.4% payout. And on and on, up until 80, which is the max, and that is a 5.75 withdrawal rate. And, your joint life withdrawal percentages are lower – so you pay more for the rider and you get to withdraw less. But we’ll just use the example of that first one or two withdrawal percentages.

So, you have a benefit base of $250,000, you gave them $125,000. So, we’ll just say for argument’s sake, your cash value is $200,000 – and I’m probably being liberal by saying you’ll have $200,000 in this type of investment after 10 years, because that would mean you’d have to net a 4.8% return. And again, you could have up to 4.3% just in fees on this product. So, I think it’s very liberal to say you could have $200,000 in this particular investment.

So, you have $250,000 – and by the way, that income rider you’re paying is on the $250,000 not the $200,000 you have in cash value – and they start a payout on that $250,000 at 4% single life… that would be $10,000 that they would pay you a year.

Okay, so now let’s do some math. So, if you were to take that 4% payout, or $10,000, how long could, if you took that money, if you took your $200,000, stuck it under the mattress and just paid yourself that guaranteed income rate? Well, $200,000, again, divided by the $10,000 that they’re going to be willing to pay you, is a 20-year payout. So, you could go take your money, stick it under your mattress and pay yourself, and not pay 1.35% to do it, 20 years. Now if you can just add a 4% return over 20 years, guess what? You could pay yourself that income, that same guaranteed amount for 20 years, and still have $200,000 under your mattress.

Well, let’s look at if you were 69 and you started to take a withdrawal payment out. Well, you could take out of that $250,000 benefit base, you could take $13,125 out. And so again, if you were to just have $200,000 in your account and do the math and you divided by that $13,125, they will pay annually to you, you could pay yourself that money for the next 19 years. So, you’re 69, you add the 19 years that you can pay yourself, that takes you to 88. Again, if you could just get a 5.25% return over the next 19 years with that same $200,000… you could make those same payments to yourself and have the $200,000 for yourself.

So, we see where we’re going here. And that’s if you don’t take any additional monies out of this policy. You have to remember when you do start this income payment, if you withdraw anything, this $200,000 that you have in cash value, when you need some of that, if you take any of that principal out, that’s going to lower that benefit base that they pay to you.

And, in fact, inside this advertisement they have that if you take out too much additional money out of your cash value or your real money pile, and this contract goes to zero because of that, you would then end this contract, your income would stop and the contract would come to an end. So, that’s another loophole that you have got to consider, another potential problem. What if you need a large sum of money? Well, at the very least, it’s going to affect the annual or monthly payout that they give you on this money.

So, we can see very quickly why this is something that you have to look at very closely. Maybe as an individual investor you want to feel warm and fuzzy about having a guaranteed income payment and making sure that you know you can always count on that. But, the reality of this is, and research is showing, that most people in retirement aren’t even spending what they have.

BlackRock had done some research. In Forbes magazine, March of 2018 there was an article titled: “Are retirees spending too little?” It said there: “Despite all the talk of a retirement crisis, BlackRock, the world’s largest asset manager, says it’s research shows that many retirees aren’t spending enough of their money. In fact, BlackRock says most current retirees still have 80% of their pre-retirement savings after almost two decades in retirement.”

And you can look and see all over the internet multitude of articles written about this matter that retirees aren’t spending their retirement money. In fact, they don’t even want to take RMD’s a lot of times. So, if they don’t even want to take RMD’s, do we really want to pay for a ridiculously high-priced rider to guarantee you some income payout for life? Again, that would be up to you, but I think there’s better ways to do this and much less costly ways to make sure that you have the right amount income or guarantee income that you would like to have.

And so again, you can see, this is something that a lot of people get caught up in and we just don’t want you as an investor to be fooled by what can seem to be guarantees of your principal and returns on your principal, when in fact they aren’t. This problem isn’t just in the variable annuity world, these withdrawal guarantee riders; we see them in the fixed indexed annuity world too, they’re just as bad. They will make it seem as if you’re going to get some guaranteed return on your principal, but actually it’s the funny money pile as I like to call it – a hypothetical pile of money, Monopoly money, and that the payouts are going to come from your actual cash value, which in most cases, are going to be substantially lower in the payout period. And again, they’re going to come with very expensive riders on the fixed indexed annuity side. With a fixed indexed annuity, the difference there is your principal base is guaranteed each year; where with a variable annuity, your principal has no guarantees. So that could add some nuances to how your money grows, how much money you have as a cash value base. But that’s again going to be individual or specific to the various contracts from the various companies.

So, we can see a very frustrating process, it can be very misleading, very tricky to understand what you have. But before you make that decision, please make sure you understand exactly what you’re getting, how you’re going to get paid out and then just think about the math. At the end, when you want to take this money out, really what does that mean to you? How long would your money last if you stuck it in a mattress? And in most of these contracts we see, whether it’s a fixed indexed annuity or a variable annuity, you could stick your lump sum under your mattress and get a payout from 16 to 22, 23 years without having to get a penny in return on your investment.

So again, I don’t think that it’s prudent to spend 1.35 or 1% or whatever the various charges are in the various products – they guarantee something that actuarily has been worked out in favor of the insurance companies – I don’t think that is a prudent thing to do with your hard-earned dollars when you factor in what just a 1% difference in return or cost can do to your retirement funds.

Well that’s it for today. In our future podcast, we’ll be looking at some differences between variable annuities and fixed indexed annuities, the pros and cons of both. In the meantime, if you have any questions feel free to reach out to me. We look forward to speaking with you again. This is Brent Chavez, coming to you from Aequitas Equitas Investment Group in Bedminster, PA.

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Homeowner’s and Renter’s Insurance Basics – How much is enough?

Brent E Chavez

Homeowner’s and Renter’s Insurance Basics

How much is enough?

Many people don’t want to put a lot of thought into their renter’s or homeowner’s insurance policy. They buy a renter’s policy because the building they live in makes them do so. When they close on a home, they will buy a homeowner’s policy because their lender requires it.

These insurance policies are much more important than you may think at first glance. When it comes time to make a claim, many people find out just how critical their coverages are. They cover more than just the value of your home and your contents; they also include liability coverage which can come into play if someone gets injured on your property.

These policies are important for everyone, especially when looking at it from a retirement point of view. Having the right coverages will serve as a protection for your hard earning savings and retirement assets.

Renter’s Policies

A renter’s policy covers your belongings from any peril not excluded in the policy. This can include fire, theft, smoke, and so on.

Your possessions are covered in one of two ways:

  1. A less expensive policy covers your belongings on a depreciated value basis. This means if you have a 10-year-old TV it will only be covered for how much it is worth today (which likely isn’t a whole lot).
  2. For a little bit more, you can have a policy that covers your items on a replacement cost basis. This means that if your 10-year-old TV is damaged or destroyed in a fire it will be covered based on how much it would cost to replace. If you have an older 43″ TV you’ll get enough money to buy a new 43″ TV.

Nevertheless, for either type of policy, there will still be a deductible, which, for most is in the $250 or $500 range.

These policies are relatively inexpensive. In Pennsylvania, the average renter’s policy is around $200 a year. The cost may be higher or lower depending on how much personal property you need to insure, how much liability coverage you want, and what deductible you choose.

Homeowner’s Policies

A family can have thousands to hundreds of thousands of dollars invested in their homes. To have all that wiped away in an uninsured fire would be devastating to any family’s finances. A family risks ruin by not having their homes properly insured, making homeowner’s insurance far more important than just something to check off when you buy a home.

A homeowner’s insurance policy provides protection in a variety of ways and there are many different types to choose from.

The broadest type of homeowner’s insurance policy is called a HO-5. This is a comprehensive policy that covers any sort of peril, unless it is specifically excluded by the policy. Many homeowners are unaware that events such as earthquakes and flooding are not covered under home insurance policies. These perils can only be covered with the purchase of separate policies.

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Each policy is broken down into different sectors of coverage: A, B, C, D, E and F.

  • Coverage A is the portion of insurance that covers the actual structure of your home.
  • Coverage B if for separate structures on your property (sheds, fences, etc.).
  • Coverage C is your personal property.
  • Coverage D is loss of use of your home. For example, if you need to live in a hotel for some time while your home is being repaired after suffering a covered peril, the loss of use coverage will reimburse your expenses.
  • Coverage E is your liability coverage, such as if a suit is bought against you if someone were to be injured on your property.
  • Coverage F is for medical payments for injuries to others that are not insured by your policy.

It can all sound very confusing at times, but don’t let that deter you from learning more about your policy and its coverages. Having the knowledge to make decisions now, while you still can, is a priceless asset.

How Much Liability Coverage Is Right For You?

Usually, the default amount of liability coverage on a renter’s or homeowner’s policy is $100,000; which, as I’m sure you know, is most likely not enough for the average family. You can add a lot of peace of mind by bumping this coverage up and it really doesn’t cost very much to do so.

The next step up is $300,000. It depends on where you live and your carrier, but it can be as little as $20 a year to boost your liability to $300,000. As such, it may be worth checking into the cost of increasing this coverage to $500,000 or even $1,000,000, especially if you are nearing retirement. If you do not have enough coverage, your nest egg could be instantly depleted in a potential lawsuit or incident.

You can also consider getting an umbrella policy. These provide an additional $1,000,000 in liability coverage on top of your other policies whether it’s auto, boat, renter’s, homeowner’s, and so on. The price of an umbrella policy will vary widely based on the family circumstances, but it could be worth finding out the price to have the additional protection.

Circumstances are always changing. Make sure your policies are staying in sync with your situation by reviewing your coverages when they renew each year.

So, how much coverage is enough? Ultimately, it comes down to what will help you sleep soundly at night.

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