Retirement

When Should Your Parents Stop Being Involved in Your Financial Affairs?

Our parents raised us and shaped who we are today, and there is probably nothing that we can do in comparison to what our parents did for us, except for perhaps raise our own children well. But, when should our parents stop taking charge of our finances, career and/or business?

It is a good for us to always seek counsel from our parents, especially on matters that they may have more experience with or needed expertise. Even when we are in our fifties it is wise to communicate financial issues with a knowledgeable parent. However, make sure to separate having trust in someone versus their ability to competently advise you.

Once you are in the workforce and are an adult, then you need to deal with your employer directly. Several examples have been shared with me regarding parents contacting their adult child’s previous employer over payroll issues. Even worse is that in those situations the adult child was a professional that advises others! Again, feel free to seek the advice of your parents, but do not have them act as your “proxy.” I can just picture this now, “This is Mr. Smith, and I am calling to let you know that Timmy will not be at work today because he is under the weather. Please cancel his meetings with the executive vice-presidents of Fortune 500 Co.”

Sometimes you may own and operate a business and employ one of your parents, which does happen occasionally. Your parent may be able to give you insight that you are not seeing regarding employees, customers, or finances. However, unless you hired your parent as a strategic advisor because they have developed successful companies in the past, or the CEO, which small business owners actually are, then your parent should not be actively deciding the direction of the company or connections with key people.

Anecdotally, it seems that adults who enforce boundaries with their parents make better financial decisions, are more successful, and have more confidence.  I’ll let the psychologists further elaborate on this topic.

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Small Business, Large Profits

All small business owners want to increase sales, open new locations, obtain more customers, add employees and grow, grow, and grow some more. It sounds good, but is it really necessary? Is there an alternative?

Necessity: It is necessary to grow your business as the alternative isn’t too appealing. You have financial obligations and people that depend upon you, such as family, employees, and customers. So, yes, it is necessary, however, here is a different view on growth.

Focus on profitability: If you double your profit margin then this has the same impact as doubling the sales of your business. Even if you increase the profit margin by several percentage points then it has the same impact as increasing sales. It sounds too easy, but here are some ways to do this:

  1. Decrease the number of services/products. Spreading yourself too thin usually decreases your profitability because it is hard to do everything well.
  2. Service the proper clients by targeting a more defined niche.
  3. Use marketing methods that only target the customers that you want to serve.
  4. Plan ahead for large purchases or investments, including space requirements, people, vendors, equipment, and technology.
  5. Price your products and services properly.

The interesting fact is that when you are more profitable, then each additional dollar of business is worth more to you, which makes it easier to actually grow further.

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Is It Better to Pay Off Debts or Invest?

Almost everyone has some sort of debt and economic data shows that this is the case. Between mortgages, student loans, credit cards, business debts, and auto loans and leases (yes, a car lease is debt), many people find themselves allocating large portions of their income towards debt payments. When you are in a position to start paying off debts, should you do so or invest your extra funds? Let’s take a look at the pros and cons of each.

Pay off debts: Pros: Paying off debts with your extra cash will help you to decrease your liabilities, save interest, which can be significant with credit card debts and some business loans, and eventually enable you to free up cash flow. A non-conventional way to pay off debts is to start with the smallest balance debt to get the momentum going.  Cons: If you focus solely on paying off debts while ignoring investing then you will have no assets for long-term or short-term needs. If a short-term emergency arises, then you will be forced to incur debt to pay for it.

Invest your extra funds: Pros: Investing and savings will hopefully produce a much larger amount of assets over time and enable you to take care of emergencies that arise. Keep in mind that funds for emergencies should be kept very liquid, and a reasonable amount to set aside should be 3 to 6 months of expenses. Cons: Your liabilities will decrease slowly, interest expense will remain high, and you most likely will earn less on your investments especially when factoring in risk, then if you were to pay off debts.

Alternative: The decision to pay off debts or invest does not have to be an either or. Some well-known experts advocate at both ends of the spectrum. Why not do both? Assess your debts and savings to see where you will get the most bang for your buck. For example, let’s say you are able to allocate 6% of your income to savings or investments, then you can use 2% to pay off high interest debts, 2% to save for short term needs, and the remaining 2% can be used to save for retirement.

What if you don’t have extra funds?: The solution is simple, but not easy. Assess your lifestyle to see where you can cut expenses while working to increase your income. If you spend everything that you make currently and work to increase your income by 3% and decrease your expenses by 3% then you will now have extra funds. If your situation is more extreme, such as expenses that are higher than your income, then you will have to take stronger action. For smart ways to cut expenses, then type “expenses” in the search function of this blog.

The mature approach: If you have large excess funds then don’t incur more debts and pay off existing debts quicker once your savings rates are much greater than needed. You can be the only one on your block that doesn’t have debt and no one has to know. I am sure that the quality of your sleep will improve!

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5 Financial Truths

There is a lot of information out there about finances, and it’s hard to figure out what is exactly true or not true. Always seek the truth, especially from someone that is not trying to sell you something. Here are some examples:

College: We are led to believe that all of our children must go to college to be successful and make a lot of money. While I am a big believer in education and college, it is not the only route and it is not for everybody. With the high cost of college, the decision to attend college should not be automatic. There are alternatives, such as becoming a tradesman, learning a special skill that does not require college, starting a business, sales positions, military or government positions that do not require college, stay at home parent (yes, this is a vocation), etc.

Retirement savings: Saving for retirement is a good thing, however, it should be balanced with both short and mid-range needs. For example, if you allocate virtually all of your savings towards retirement accounts and ignore having a cash cushion, then your risk of financial catastrophe increases. If a financial crisis arises or a large purchase needs to be made, then you will have to withdraw from your retirement accounts, which is one of the worst financial decisions to make due to both income taxes and penalties on the withdrawals. Furthermore, if you do not have withholdings taken from your distributions, then you will probably end up with a tax problem once you file your return. The prudent action is to have a cash cushion of 3 to 6 months of expenses for emergencies and to save for mid-range goals, such as a house purchase.

Debts: Debt truly is a double-edged sword. There are some who advocate staying away from debts at all costs and others who encourage you to leverage yourself to make more money. The truth is that debt should be used wisely and sparingly, if necessary and as a last resort, and it should not cripple you. If you are able to avoid debt, then that is excellent, as debts increase your risk and they also encourage risky behavior and increased spending in many cases.  To prove this point, why do you think McDonald’s started to accept credit cards, why do auto loans have 7 year terms, and why can young adults take out massive loans for college?  It is to get you to spend more than you would have otherwise.  As you mature financially you should seek to decrease your debts.

Most people would not be able to afford a house without obtaining a mortgage, and if they waited to purchase a house and rented instead, then they would most likely be worse off financially over the long term. Also, some businesses may need to incur debts to purchase expensive equipment, inventory, or improvements that would not be possible if they did not incur debts. To emphasize, it should be used wisely and sparingly.

Expenses, income and savings: Most likely your expenses are way too high. If you are able to save 15- 20% of your income and have no debts then spend whatever you want. Otherwise, set aside money towards savings to steadily increase the percentage that you save each time you get paid. This way you will spend whatever is left over. If you are not able to do this then you need to take a serious look at decreasing your expenses and increasing your income. The truth is that it is really not that hard, but most people have a hard time doing this. As Yogi Berra said, “Baseball is ninety percent mental. The other half is physical.”

Home and health = wealth: In the quest for success, don’t ignore your most valued relationships or your health. Nothing can cripple your finances as quickly as health or family issues, such as divorce. With either of these issues your expenses increase exponentially while your income suffers at the same time. Make sure to prioritize.

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IRS and NJ Taxation Highlights

 

Yesterday I attended a continuing professional education seminar with speakers from both the IRS and the State of New Jersey. Here are some highlights after all of the recent Federal changes and also many New Jersey changes that most people are not aware of:

Your paycheck may be under withheld: After the new Federal tax law changes, many people have seen an increase in their take home pay due to the tax cuts, but it is quite possible that too little has been withheld. If you want to be safe then ask your employer to increase your withholdings, and you can also use the withholding calculator at irs.gov. Beware that it is really meant for simpler tax situations versus being self-employed, having rental income, and investments. If you are one of our business clients that we already prepare a year-end tax projection for, then we will take care of this for you.

Private debt collectors: The IRS uses private debt collectors, and the State of New Jersey has already been doing this for years through Pioneer Credit Recovery. This can cause concern especially with all of the fraud that is taking place nowadays. By the way, the IRS will not ask you to drop off cash somewhere, send a money order, or purchase gift cards to settle your debts.

New Jersey tax amnesty: There are many unknowns to all of the changes that NJ has made, including the start date of a tax amnesty program. The program will likely start on November 15th of this year and end on January 15, 2019, and allows a reduction of interest charged and elimination of penalties for old tax debts from February 1,  2009 through September 1, 2017. You should receive a notification on this program if you have old debts, but you can file and pay your old debts even if you do not receive a notice from the State.

New Jersey property tax deduction increase : The property tax deduction on your New Jersey tax return has been raised to $15,000 from $10,000.

Penalties for not having health insurance in New Jersey: New Jersey now requires residents to have health insurance or they have to pay a tax penalty. New Jersey has taken the opposite approach of the Federal government.

Increased pension exclusions in New Jersey: This will be phased in over the next several years, however, there is an income limitation of $100,000, which has not increased.

There are many, many more changes related to New Jersey, including reinstatement of Urban Enterprise Zones, increased tax rates on income over $5,000,000, taxes on ride sharing, taxes on liquid nicotine, and changes to payments plans.

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Don’t Sell Your House

Usually your first house is a “starter” home that you purchased because it fit into your budget at the time. A few years later you then sell your house, move up to a bigger home, and may even repeat this process several more times. But what if you didn’t sell your home and rented it out instead? Let’s look at the pros and cons of doing so:

Pros:

Easier Way to Have an Investment Property: If you were to purchase an investment property then you generally need a much larger down payment of say 20% – 30% compared to a mortgage for a home, which you may not have available. Additionally, the interest rate and payment terms are generally less favorable than a residential mortgage. Since you already purchased your existing home as your residence, you already have financing in place, which is avoids this issue.

Transaction Costs: Look at any settlement statement and you will see that the transaction costs greatly reduce the proceeds after selling your home. By renting out your home you will have avoided these costs.

Appreciation and Rental Income: If prices in your neighborhood are rising and there continues to be strong demand for housing then most likely your house will appreciate and so will the rent that you can charge. A rental property can also provide diversification to the stock market.

Cons:

No Down Payment for New Home: Homeowners usually use the equity from selling their home to purchase another home, but if you do not sell your home then you will have to either save up for a down payment or access your equity through a loan.

Negative Cash Flow: If your cash flow will be negative for the foreseeable future, then it doesn’t make sense to rent out your home. You have to also be able to have the cash to cover expenses when your house is vacant.

Leverage and Debt: Debt is a double-edged sword (that can be another article). You want to make sure that you aren’t so leveraged that it puts a large strain on your finances, especially if/when bad things happen.

You Are Now a Landlord: Who wants to be a landlord and clean toilets? This is a very common argument, but the answer should always be never because who likes problems? You should make sure that you have reliable handymen, plumbers, etc., and screen your tenants as much as possible. However, you should like the fact that you have created a financial asset for your well-being.

Most homeowners never even consider renting out their home, but it can be a viable financial strategy depending upon your situation. Just make sure to run the numbers first.

Don’t Make These Easily Avoided Financial Mistakes

We are all not perfect and everyone makes mistakes. However, the key is to avoid these financial mistakes as much as possible:

Penny wise and dollar dumb: The actual expression is penny wise and pound foolish, but I still remember a partner from my first job saying this to a client (maybe it’s the American version). I guess it doesn’t matter how you say it as long as you make your point. The message is to not be cheap so that you save a few dollars, but it ends up costing you a lot more down the road. This can happen with almost any financial transaction so always be aware of what you are trying to accomplish.

Ignoring tax notices: Don’t be surprised to find out that your bank account has been levied or there are liens against your assets if you don’t address tax notices. Surprisingly, the notice may actually be wrong, but the IRS or states do not know this. If you do not resolve the notice timely, then penalties, interest, and collection costs may be added to your balance or you may not receive your refund.

Not filing your returns: Sometimes taxpayers hesitate to file their tax returns when they know that they owe money, but do not have the ability to pay their balance. Fortunately, there are usually payment arrangements that can be made in these cases. Also, every now and then I come across a situation where there is actually a refund due to a client, but they took too long to file their returns so they are not longer eligible to receive it. Now that’s painful!

Not saving anything: Just about everyone can save at least 1% of their income to make this a habit, and then can increase their savings rate over time. The earlier you start, the better and don’t convince yourself otherwise.

Too much long-term savings/illiquid assets: Sometimes the opposite is true when people tie up all of their money in their retirement plans or real estate, but do not accumulate short-term savings. What tends to happen is that retirement savings are tapped if there is a financial emergency or long-term financial set-back, which in turns ends up creating a tax issue.

9 Ways to Reduce Your Money Worries

When we lack money it creates a lot of stress and anxiety, and can be a source of tension in relationships. But how can we make our money work for us? Here are several ways we can take more control of our money to reduce our stresses:

  1. Change your thoughts: Reframe the way you think about money from being worried about it to being non-emotional about it. Nothing changes if you are worried about it, but worries may cause you to make worse financial decisions. This doesn’t mean that you should not care about money or be reckless.
  2. Be a good steward: If you think of your money not as your own, then you will manage it differently. It is a resource, no matter how great or how small, that we are given to be responsible with. Don’t be foolish with how you spend your money or the way you invest it.
  3. Save it first: Save your money first before you pay anyone else. Even if you start with saving 1 % of your income, it will create a habit that will last you a lifetime, and over time you can increase the percentage to more meaningful amounts. Although 1% may only amount to $20, $50 or so a week so there is almost no excuse to save this small amount, even if you are struggling. I like percentages because you save more when your income is higher and less when it is lower.
  4. Delay large purchases: Houses and cars are our largest expenses, but usually there is not a lot of thought put into these purchases. More time should be spent discerning larger purchases then small ones.
  5. Minimize useless debts: It seems as though anything can be financed today, from cell phones to plastic surgery. If your cell phone bill is $500 a month because you financed 5 iphones then you probably couldn’t afford the phones in the first place.
  6. Make more money: If your income is not high enough and your spending is not an issue, then figure out ways to make more money. If you need to switch jobs or hire a consultant for your business then do it.
  7. Give it away: I’m not sure if there are studies on this, but anecdotally, people who are more charitable seem to be happier than those who are not.
  8. Be timely: Pay your bills in a timely manner by being more systematic. Late fees and threatening notices are never enjoyable.
  9. Do something different: As with any problem, you need to change what you are doing because obviously it is not working. Yes, we are all stubborn.

By the way, it doesn’t matter if you make $50,000, $500,000 or $5,000,000, as you will have the same issues, with different variations. And, more money doesn’t mean fewer problems.

Do You Have Too Many Financial Accounts?

How many financial accounts should you have both personally and for your business? These days it is so easy to open up accounts, but if there is no strategy for having a lot of accounts, then it can create unnecessary chaos and even increase your accounting and tax preparation costs. Let’s look at the pros and cons:

Multiple investment accounts: You may have a traditional brokerage account with one firm, your IRA’s somewhere else, and your old 401k’s still at your employer. The problem with this approach is that it may be hard to coordinate your asset allocation and investment strategies if you are not looking at them as a whole. This is especially true if you have a financial advisor because he or she most likely does not have visibility to your other accounts and cannot advise you properly.

Multiple bank and credit card accounts for your business: There are strategies that can be implemented whereas you transfer money between bank accounts as sort of a shelter as a way of budgeting for your expenses. This strategy is outlined in a book called “Profit First,” which is a very good read, and if you are able to implement this strategy then that is excellent. Aside from the business owners that use this strategy, anecdotally, there seems to be a very high correlation between poor financial performance and multiple bank and credit card accounts.

Multiple bank and credit card accounts personally: The most common issue is when husbands and wives have separate bank accounts. Aside from this being a smart move if there are legal issues, addictions, or tax issues, it makes sense to have one joint checking account for a married couple. Money issues are at the forefront of arguments so why not coordinate your finances as one unit so that you make better decisions jointly and without conflict?

You should always strive to simplify your finances, but as Albert Einstein said, “Everything should be made as simple as possible, but not simpler.”

Deadline Approaching: Should You Make a Retirement Plan Contribution?

The due date for your tax return is fast approaching and so is the deadline to make a contribution to your IRA or a SEP-IRA if you own a business. Should you make the contribution, save the cash, or pay off some debt?

Reasons to Make the Contribution: Let’s assume that you have the extra cash. If you are looking for an extra deduction and you are able to make a deductible contribution then this is a great last minute strategy. You may have also maxed out your retirement plans at work and are looking for additional retirement savings. A non-deductible IRA contribution can also be advantageous too and may be able to be converted to a Roth IRA with no tax consequence, depending upon your situation.

Save the Cash: You may need the cash to start a business or expand your business. Start-ups need every bit of cash so saving for retirement may need to be put on hold for now. Additionally, the returns of starting or expanding a business can be many times greater than a retirement plan contribution.

Pay Off Debt: If you have very high interest rate debt, then paying down your debt will help you to pay off the debt faster and decrease your liabilities, which will in turn strengthen your finances. However, I do not recommend not contributing to a retirement plan to make extra payments towards your mortgage.

Other factors to consider are: large expenses that you may need to fund in the near future, your health, job and business stability, emergency fund balances, and your overall financial goals.