To say that 2010 and 2011 are going to be ‘unique’ tax years would be quite an understatement. With all of the changes, or potential changes, heading our way, I thought it would be timely to discuss what some of these changes are and how they may potentially affect you and your family.
One of the most publicized recent tax changes came in the new health care bill pertaining to 1099 tax forms. According to the new law, “beginning in 2012 all companies will have to issue 1099 tax forms not just to contract workers but to any individual or corporation from which they buy more than $600 in goods or services in a tax year”. If you think through the logistics of this, it is quite easy to see how much of an additional burden this will put on small business as well as the Internal Revenue Service. As you listen, I will explain some of the details of this change, what some of the un-intended consequences may be, and what actions can possibly be taken to mitigate this additional reporting burden.
We go on in the show to explain some other tax changes that could potentially affect you:
- Traditional Strategies for Deferring Income – In 2011, the two top marginal tax rates, 33% and 35%, are scheduled to increase to 36% and 39.6%, respectively. If no action is taken by Congress, the four lowest rates, 10%, 15%, 25%, and 28%, will be replaced with the 15%, 28% and 31% brackets. If this is the case, it may make sense to recognize more of your income in 2010 to take advantage of the currently lower rates.
- Higher-Income Individuals May Benefit from Accelerating Itemized Deductions – In 2010, the phase-out rule that reduces some itemized deductions is gone. It is scheduled to come back, however, in 2011. If that happens, this rule will wipe out $3 of deductions for every $100 of AGI (Adjusted Gross Income) above the applicable threshold. As you can imagine, top earners could potentially see a large majority of their itemized deductions wiped out. Depending on your AGI, it may be more beneficial to accelerate some of your 2011 deductible items (mortgage interest, state and local tax payments, and charitable donations) into 2010.
- Time Investment Gains and Losses - Long-term capital gains rates are increasing in 2010 from 15% to 20%. It may make sense to recognize gains in your taxable investments in 2010, take advantage of the lower rates, reset your cost basis, and hopefully have carry-forward losses from 2008 and 2009 to offset the resulting taxes.
- Claim New Insurance Tax Credit for Small Employers – Qualifying small employers can claim a new tax credit that could potentially cover up to 35% of the cost of providing health insurance coverage to employees.
- Big Section 179 Deduction – In 2011, the maximum deduction for accelerated depreciation on new and used equipment and software additions will drop from the current $250,000 to $25,000. If you are planning on purchasing any new equipment for your business, you may want to do so in 201o in order to take advantage of the much larger deduction
- Social Security Tax Exemption for Wages Paid to New Hires - Wages paid to a qualified new employee between 03/19/2010 and 12/31/2010 are exempt from the employer’s portion of the Social Security tax (6.2% of wages up to $106,800).
- Tax Credit for Retaining New Hires - Above and beyond the Social Security tax exemption, employers can also claim a new tax credit up to $1,000 for wages paid to each qualified new employee (defined as: 1) started between 02/03/2010 and 12/31/2010 and 2) were not employed more than 40 hours during the 60-day period ending on the start date.
To close out the show, I share a Consumer Reports Money Adivser article titled “Money mistakes to avoid: 9 lessons to take away from the market’s ups and downs”. As you listen, I will touch on each of these 9 mistakes:
- Following the herd
- Running for safety
- Making unrealistic return projections
- Overpaying for past performance
- Not focusing on when you’ll need your money
- Putting too much faith in your broker
- Counting on your home as an investment
- Not harvesting losses (or taking gains)
- Being overconfident
We have received a number of emails lately asking what steps can young people take to start getting their financial houses in order from the very beginning. In today’s show, Bo addresses what decisions can be made early on to begin on the right track to financial independence.
The first thing Bo recommends is to build up your cash reserves. You want to make sure you have enough in a rainy-day fund to cover 100% of your health insurance deductible plus about 6 months of expenses. He notes that the first step to becoming financially independent is to truly step away from your caretakers and become individually independent.
The next thing you want to make sure you are doing is maxing out any employer match you may be entitled to. We have said it over and over… this is FREE money! It is an automatic 100% return on your investment. If you aren’t sure how much this will affect your cash flow, track your spending for a few months. It is amazing how much information you can collect about your spending habits if you just keep track of everything you spend.
This is also beneficial because it gives you an idea of how much additional money you have to work with. Once you have begun building up your cash reserves and then maxed out your employer match, you may want to consider contributing to a Roth IRA. For young people, Roths are very attractive because of the amount of time you have for that money to grow tax deferred and then even become tax free in retirement! Remember, as you are beginning to build assets, accumulation matters more than return! If you’ve saved $1,000 dollars and earn 8%, that’s only $80. If you’ve saved $1M and you earn 8%, that’s quite a different story ($80k).
Bo goes on in the show to mention what a young person should be thinking about when it comes to health insurance and even briefly touches on life insurance. If you are young and you haven’t yet begun to establish a credit history, Bo suggests going out and getting a credit card (to use responsibly) and begin establishing a record of credit. This will make big purchases such as homes and automobiles much easier down the road!
To close out the show, Bo addresses some out of the box issues that young people may want to begin thinking about now. As you listen, he touches on:
- Not getting too ahead of yourself
- Improving/adding to your skill sets
- Setting Goals
- Investing in your future health
- Enjoying your youth (you can’t get it back)
You may want to use some of these on-line resources as you begin to implement these steps:
Credit Card and Savings Account Research – www.Bankrate.com
Budgeting – www.mint.com
Free Credit Reports – www.AnnualCreditReport.com
Health Insurance Quotes – www.ehealthinsurance.com
What if I told you there was an investment where you had a guaranteed rate of return when the stock market was doing poorly, but then you could make even more when the stock market goes up? Sound too good to be true? Well, it just may be…
I feel like today’s show is very timely because I have been receiving questions about these products from both listeners and clients. The products I am speaking of are equity-indexed annuities or indexed annuities or fixed-indexed annuities or even ratchet annuities. These are all really different names for the same thing.
The way these products are typically pitched is by saying you are guaranteed a minimum return (usually around 2% – 3%) while still maintaining the potential to earn gains in the stock market. On the surface it sounds like a win-win proposition. But what are they not telling you?
There are two very big considerations that most investors don’t recognize when they are considering using these insurance products. They are:
- There are usually surrender penalties of 10% to 15% that apply in the first year of the contract. These surrender charges usually decrease as time passes, but don’t disappear for 5 to 15 years. This is a big problem because it essentially locks up your money. While some products allow you to withdraw up to 10% a year penalty free, this is still a dangerous (and expensive) proposition if you have an emergency that requires access to this money.
- These annuities limit your upside potential. Some only give you a percentage of the stock market gains while others will impose a cap on your earnings (usually around 7% – 8%) despite how well the index it is attached to performs.
So let’s look at some VERY simple numbers. We are going to assume you purchase a $100,000 Equity Indexed Annuity pegged to the S&P 500 with a guaranteed return of 3% that caps at 7%. We won’t even consider any fees associated (usually there is a 6% – 10% immediate commission to the salesman who sells this product). Finally, lets look at the last 20 years so we won’t even take into account having to access the money before the surrender period ends. We will compare these numbers to how you would have done had you just invested directly in the S&P 500:
Year S&P Growth of $100k Annuity Return Growth of $100k 1990 -3.2% $ 96,830 3.0% $ 103,000 1991 30.6% $ 126,412 7.0% $ 110,210 1992 7.7% $ 136,107 7.0% $ 117,925 1993 10.0% $ 149,704 7.0% $ 126,179 1994 1.3% $ 151,666 3.0% $ 129,965 1995 37.4% $ 208,434 7.0% $ 139,062 1996 23.1% $ 256,520 7.0% $ 148,797 1997 33.4% $ 342,095 7.0% $ 159,212 1998 28.6% $ 439,865 7.0% $ 170,357 1999 21.0% $ 532,413 7.0% $ 182,282 2000 -9.1% $ 483,910 3.0% $ 187,751 2001 -11.9% $ 426,422 3.0% $ 193,383 2002 -22.1% $ 332,183 3.0% $ 199,185 2003 28.7% $ 427,519 7.0% $ 213,128 2004 10.9% $ 473,990 7.0% $ 228,047 2005 4.9% $ 497,263 4.0%* $ 237,169 2006 15.8% $ 575,831 7.0% $ 253,770 2007 5.5% $ 607,444 5.0%* $ 266,459 2008 -37.0% $ 382,690 3.0% $ 274,453 2009 23.5% $ 472,622 7.0% $ 293,664
*Another confusing feature of these products is how each one calculates the indexes gain. Becuase of the varying calculation methods, it is very difficult to compare one annuity product to another.
Another thing you may want to think about is that this very simple illustration uses the S&P over the last decade which has been one of the poorest performing decades in history for this index. While looking at this (and again, this is a very simple illustration. We realize there are many other variable that aren’t shown), it is clear to see that you would have most likely been better off over the last 20 years to just buy the index as opposed to purchasing an indexed annuity.
As you listen to the show, we explain in depth some of the additional features as well as considerations you may want to make while looking at these particular products. We even walk through a quiz that was featured here at the Wall Street Journal online. Two other additional articles you may be interest in reading are Indexed Annuity: Buyer Beware and Ups and Downs of ‘Equity-Index’ Annuities.
We also share some of our thoughts from a macro-economic perspective and why things could potentially be looking up for the U.S. over the next 10 – 20 years.
