Ethan Gilbert, CFA®, CFP®, was recently featured in a short Q&A on The Street’s “Ask Bob”. Shown below is what was asked, as well as Ethan’s answer to the question:

 

Question:
My husband wanted me to ask you something. He is 65 and will be 66 on October 16th this
year. At what age can he retire and still work and not have to pay anything back to Social
Security?

 

Answer:
Once your husband reaches his full retirement age, he is able to work, collect Social Security,
and does not have to give any of his benefit back to Social Security, says Ethan Gilbert, CFA®,

CFP®, of Rockbridge Investment Management. This is because, based on a 66th birthday in
October of 2021, he was born in 1955 and his full retirement age is 66 years and 2 months or in
December of 2021. “For simplicities sake,” says Gilbert, “you may want to wait until 2022 for
him to start taking Social Security.”

He explains there are two other things to keep in mind in making the decision to start taking
benefits: “Most people want to delay taking Social Security if they are still earning an income,
even if they are beyond full retirement age. If he does claim early, Social Security withholds
some of the paycheck, but they do end up paying it back with interest once he reaches full
retirement age so it’s not like the money is lost.”

 

If you have any questions about how Social Security works or when you should file for benefits, don’t hesitate to schedule a call!

Rockbridge works with over 120 medical professionals, most of whom are in the Syracuse area. In addition to the expertise we’ve developed with providers, we have experience working with doctors at FamilyCare Medical Group. The following are two areas we are able to add value for doctors at FCMG.

 

Agilon Health IPO

 

This past spring, FamilyCare Medical Group and Agilon Health engaged in a joint venture that among other things provided FCMG doctors the ability to receive shares in an Initial Public Offering (IPO) that took place last April. Those that chose to receive the shares (which was a good idea) received shares at the IPO price of $23/share.

 

The value of the shares will be treated as earned income in 2021. To address the tax situation, FCMG arranged to pay the tax liability associated with the shares. As part of the arrangement, FCMG issued a promissory note to the Doctors which was delivered in May. You will be obligated to make five December payments, with the first (and very small) one beginning this December and continuing each December through 2025. The interest on the loan is very low at 0.89%.

 

Going forward it will be up to each physician who received shares to decide on when to sell their holding. All participating physicians have a six-month lockup period from the time of the IPO, meaning you will not be able to sell prior to the middle of October. However, if you sell at that time and the share price is higher than $23, the appreciation will be taxed as a short-term capital gain. Given the current share price of $35 this would be substantial. In making the decision of when (if?) to sell your Agilon shares we think it’s best to weigh the following:

 

  1. Sales prior to April 15, 2022 will be taxed as short-term gains/losses. If there is a meaningful gain in the share price this could mean a large tax bill.
  2. Sales prior to December 31, 2021 will add extra income to an already high income year because of the value of the shares at IPO. This could lead to an unusually large amount of income and a high marginal tax rate. Again, this assumes a decent amount of share appreciation which is currently the case.
  3. It is never good to have too much concentration risk associated with any one holding especially when it’s your employer. Holding 10%+ of your net worth in a single stock is more concentration risk than prudent investment management would recommend.
  4. You do work there and may have strong conviction about the health of the company that could sway your investment decision which isn’t necessarily a bad thing.

 

Before coming up with a concrete recommendation for any individual we’d want to weigh all the above in addition to your whole financial picture. That said, as long as the shares are at a decent gain, we probably will recommend holding them for the full year to and then selling a good chunk once the gains become long-term next April.

 

401(k) Investment Options

 

The FCMG 401(k) at Voya has a few very good investment options. These are well diversified and low-cost index funds. The plan also has several choices that come with above average fees we would want to avoid. The most notable of which are the Target-Date Funds from American Century which charge an average of 0.85% and have underperformed their benchmark over the last 10 years by about 1%.

 

Most 401(k) plans are designed to make Target-Date funds the default investment option for new employees. This is generally a fine option as they provide broad diversification and adjust the asset allocation for investors who don’t want to be hands on.

 

However, a knowledgeable investor can replicate a Target-Date fund using the index fund options for a fraction of the cost. By combining the four Vanguard index options and the Voya Fixed Account you can get the same exposure at only 0.05%. This also gives you the advantage of having the Voya Fixed Account which is providing a guaranteed 3% return, greater than any comparable investment grade bond fund.

 

How much is 0.80% in annual savings worth? Assuming you maximize 401(k) contributions for 25 years, your portfolio will grow in value to be $355,000 more by going with the lower cost investment options.

 

Furthermore, Target-Date funds are a one size fits all approach that may not align with your broader financial situation and your investment objectives for your money. In your plan, Target-Date funds are easy but probably not best.

 

 

In addition to our areas of expertise with FCMG, we provide comprehensive investment advice and investment management services for all facets of your financial life. If you’d like to learn more about how Rockbridge can help you achieve your financial goals, please reach out.

 

For self-employed business owners, you’re responsible for saving for your own retirement.   It’s likely that you got a late start at saving and maybe even had to leverage yourself to get your business up and running. 

SEP IRA? SIMPLE? 401k? Solo 401k…I get it, you are busy running your business and the last thing you want to think about is  choosing how to  save for retirement.   

Let’s discuss the advantages of a Solo 401k and why it might be exactly what you need!

1. High Contribution Limits: With a Solo 401k the contribution limit for 2021 is $58,000 ($64,500 for owners over age 50).  This includes an employee contribution of $19,500 ($26,000 for those over 50), plus the ability to make a profit sharing contribution up to the limits described above (the profit sharing piece is limited to 20-25% of your business income). 

So why a Solo 401k over a SEP? Check out the example below to see the advantage. 

John, who is 56 years old, runs a consulting business and earns $100,000/year. He would like to defer as much income as possible for retirement. So let’s see how a SEP and Solo 401k line up: 

2. Low Cost to Start: Opening a Solo 401k is easy and can be done at all the major custodians. Feel free to do it yourself or contact a local Fee-only advisor to help you get started. 

The nice part about this type of retirement plan is that you get to pick how it’s invested. Once you choose the right mix of low cost ETF’s or index funds to meet your needs, you can leave it alone and get back to running your business. 

3. Pre-Tax or Roth: Unlike with the SEP IRA, you have the option to choose to invest your employee contribution ($19,500 or $26,000 if over 50) after-tax (Roth). This is a great option for individuals whose income is too high for contributions to a regular Roth IRA or just want’s to save in a vehicle where distributions will be tax free in retirement! 

If a Solo 401k is something you are interested in and have more questions, reach out to a Rockbridge advisor to discuss in more detail. 

The defense and aerospace company, Saab Inc., has their US Headquarters, and several hundred employees in our hometown of Syracuse, NY. In addition to their 401(k) match and great pay, they offer one of the most appealing Employee Stock Purchase Plans we’ve ever seen.

At its core, this is an employee stock purchase plan that provides a match if the shares are held for 3 years. In order to get the free doubling of your investment, you must take on additional risk related to the health of your employer and currency risk. Still, it’s a tradeoff worth taking.

In this piece we go into detail on how it works, the financial aspects that make it so great, and a recommended strategy for it.

How it Works: For U.S. employees, you must either enroll in the plan in November or May. At enrollment you choose to have between 1% and 5% of your paycheck withheld for the Share Matching Plan. Once enrolled, you will have money taken out of each paycheck and set aside for purchases of Saab AB B. These purchases happen each month.  

The stock, Saab series B shares, is custodied in an account in your name at Computershare. The shares carry both market risk and currency risk as they are held in Swedish Krona. The shares bought with money withheld from your paycheck are 100% yours the moment they are invested. You can sell the shares and withdraw the money at any time and pay the applicable taxes. If you sell them within a year, you will pay short-term gains or losses. If you sell them after holding them for a year, you will pay long-term gains or losses. If you sell them at the exact price you purchased them, you will owe nothing as the purchase was made with after-tax dollars from your paycheck. While you hold the shares, you will receive a cash dividend that you will pay taxes on.

Once the shares are held for three years, you will be matched 1 for 1, doubling your position.  You will owe ordinary income taxes on the value of the match you are receiving at the time it is received. Taxes on the sale of the matched shares will be short-term gains/losses if done in the first year, and long-term gains/losses if done after one-year. If you sell the matched shares as soon as they become yours, your taxable gain/loss will be minimal.

The Benefit: You could think of this as free money, though it comes with risk. We will look to quantify how much the extra benefit is worth and how much Saab can underperform the market and still be profitable.

The following table outlines how the Share Matching Plan would work assuming a hypothetical employee with a $200,000 salary and doing the full 5% match. We assumed a 6% price appreciation and ignored dividends. We also assumed the employee sells all the stock as soon as it is matched in year 3. In reality payments are made each month, but we analyzed the data as if it were a year-long program to help visualize what is happening.

In this scenario, $10,000 worth of Saab stock grows to $11,910 by the end of the third year. When that is sold the employee pays long-term capital gains on the $1,910 of growth. Assuming a combined federal and state tax rate of 21%, they would owe $401 of taxes, leaving them with $11,509. At the same time, they also receive $11,910 worth of matched shares. That entire amount is taxable as ordinary income, at an assumed rate of 33%. That means $3,930 of taxes are paid on the $11,910 of benefit, for an after-tax net of $7,980. In total the employee is left with $19,489 at the end of the third year, roughly doubling their money.

Let’s say Saab didn’t have this program and instead the employee invested the $10,000 in a stock market index fund. Assuming the market appreciated by 6% (not including dividends), and at the end of 3 years the employee sold their position for cash, they’d have the same $11,910 of proceeds for an after-tax value of $11,509.

A good question is – how much can Saab underperform the market and have the participant still not be harmed by the Share Matching Plan?

We can solve to find that Saab stock (plus the currency movement) can underperform the market by 19.6% and the plan is roughly a wash, as seen by the table below.

In this example, Saab stock is losing 13.6% per year for 3 years, and the end result is an after-tax balance of $11,509, the same as what you would have gotten from the stock market if the market returned a positive 6%. In total that’s roughly a 20% annualized difference.

There is no reason to expect Saab’s stock and the Swedish Krona to underperform by an annualized 20% making this plan attractive.

Recommendation: We recommend Saab employees take full advantage of the Share Matching Plan, putting in the 5% maximum each month. Once the shares are matched, they should be immediately sold. For a Saab employee with a $200,000 salary, and assuming market returns, you’d be reducing your monthly paycheck by about $830, but after three years in the plan, you are getting a $1,625 rolling after-tax cash out. In order to take advantage of this you’re exposing yourself to an additional $60,000 of market risk in Saab stock and the Swedish Krona.

Whether you’re an employee of Saab AB looking with further questions on the Share Matching Plan, or you’re a client with questions related to your employee stock purchase plan, please reach out to your advisor, e-mail us, or schedule a call.

Roth IRA conversions can be an important potential tool for implementing a tax efficient retirement plan. At its core, a Roth conversion involves prepaying a deferred tax liability in exchange for tax free growth going forward. Conversions are ideal for people who are in lower tax bracket today than they are likely to be in the future.

Having the ability to pay the tax due on the conversion with after-tax dollars (i.e. cash in a checking/savings account or brokerage account) increases the benefit of the conversion strategy. Furthermore, Roth IRAs do not have minimum distribution requirements (RMDs) during an account owner’s lifetime.

Dan, age 62, is recently retired. He anticipates funding his lifestyle in retirement with income from a pension, other after-tax investments, and eventually Social Security. Dan anticipates being in a higher tax bracket once he starts taking RMDs at age 72, than he is today. Dan decides to convert a portion of his pre-tax IRA assets each year so that by the time he turns 72 he will greatly reduce or eliminate his RMDs. Dan further benefits if he pays the resulting tax on the conversions each year from his bank account rather than from his IRA.

Legislation in response to the global pandemic has suspended the distribution requirement for 2020, presenting a unique opportunity to do a Roth conversion for those already taking RMDs.

Dave, age 74, had a $50,000 distribution requirement from his IRA in 2020 that he no longer has to take. Assuming Dave would remain in the same marginal tax bracket with or without the $50,000 of income, he might decide to make a $50,000 Roth conversion instead. Future growth on the converted assets is now tax-free, and Dave has the same tax bill he would have had if required to take the $50,000 as a taxable distribution.

The recent stock market decline is another reason to consider doing a Roth conversion now. Converting assets at depressed values allows for potentially greater tax-free growth as the market recovers. The timeline for a market recovery is unknown. However, investors who have a positive long-term view of the market (as we certainly do) might consider a conversion sooner rather than later.

Diane has a pre-tax IRA that was worth $1,000,000 on December 31, 2019. The value of her account has since decreased by 10% to $900,000. If she converts the $900,000 to a Roth now, and the value of the account recovers to its previous $1,000,000 mark, Diane would shield $100,000 from future taxes by doing the conversion.

Roth conversions can play an important role in a tax efficient retirement plan. Whether or not a conversion strategy is appropriate depends on your individual situation. A Rockbridge advisor can work with you and your accountant to see if a Roth conversion strategy makes sense for you.

In the last quarter of 2018, the market was down 20% from previous highs and we had many clients reaching out concerned about declines and high volatility. But when we examined the market’s movements, we found the volatility to be higher than normal but far from extraordinary. Recently, we have gotten similar questions from clients again on returns and volatility. Here we examine historical daily price movements of the S&P 500 to try and see if the market has really been crazy or if people are overreacting.

The average daily price movement in the last 30 trading days of the quarter was 4.10%. In terms of 30-day stretches, this is the third most volatile period in history, behind the 4.41% seen on November 15, 1929 and the 4.13% on  November 21, 2008. In terms of acute volatility, what we’ve recently seen is not unprecedented, but we’ve never seen anything much higher.

If you look at the entire quarter, which had 62 trading days, the average daily movement was 2.28% which is the eighth most volatile quarter on record. The greatest quarterly volatility was at the end of 2008 (3.34%), and the other six were between 1929 and 1933. Three of those came in 1932 when the average daily movement for the year was 2.59%!

These are only a few ways of looking at volatility, but regardless of how we measure it, the recent volatility in the stock market is very high and very unusual. However, it is important to remember that volatility can be brief. On Friday October 16, 1987 the market dropped 5.2%. The following Monday it dropped 20.5%. The Monday after that it dropped 8.3%. Despite this unprecedented volatility and huge daily drops, the market finished 1987 up 5.3%.

We don’t know how long this type of volatility will last, but we know enduring it is worth it. Investors earn years like 2017 (+21.8%) and 2019 (+31.5%) by sticking it out during times like this.

Rebalancing the allocation among risky assets in your investment portfolio is an important discipline.  It provides a structured way to maintain consistent risk exposure over time and forces us to “buy low and sell high” when it is not always the comfortable thing to do.  This quarter is a good example, in the midst of crashing stock prices, and record volatility in markets, we have been selling bonds to buy stocks in our portfolios.  Buying stocks during all this uncertainty can feel uncomfortable if not downright frightening, but here are a couple of things to keep in mind.

Cash never “goes to the sidelines.”  If you listen to the talking heads of financial news-media, it can sound like all investors are reducing their exposure to stocks, and hoarding cash to buy back in when prices are lower.  But that’s not the way markets work!  Whenever a share of stock is sold, another investor buys it.  When there are more sellers than buyers, prices fall to clear the market.  Warren Buffet’s famous saying bears repeating now, “Be fearful when others are greedy, and be greedy only when others are fearful.”  Another famous quote strikes a chord as well, “In bear markets, stocks return to their rightful owners.”  Long-term investors want to be the owners of stocks and down markets are an opportune time to buy.

When stock prices drop, expected returns increase.  It may at first seem counterintuitive, but the math is fairly straightforward.  The value of a stock, or any other asset, can be described as the discounted present value of all future cash flows.  There are two factors that influence the value of a stock:  future cash flows and the discount rate.  When cash flows become more uncertain, we apply a higher discount rate.  Logically, a rational investor would pay less for an uncertain stream of cash flows than a stream with greater certainty.  The discount rate is a reflection of expected returns.  When risk and uncertainty increase, investors demand a higher expected return.  Over the past two months many stocks have decreased in value by 30% or more.  Some of the decrease in value is driven by an expectation of lost revenue and profits (future cash flows) resulting from Coronavirus’ shutdown of the global economy.  However, some of the decline is due to fear and uncertainty, which translates to a higher discount rate.  Both of which have a negative impact on stock valuations.  In turn, buying stocks at today’s prices comes with the expectation of higher rates as compared to two months ago.

Rebalancing is a valuable and important discipline.  If you still have questions about rebalancing, or worry about the appropriateness of your target allocation, talk to your advisor.

Are you 70 ½ or older? Do you still need to take part, or all, of your required minimum distribution (RMD) from your IRA? Are you planning on making any charitable donations before the end of the year? If the answers to these questions are yes, consider making the charitable donation(s) directly from your IRA. According to the IRS, “[a] qualified charitable distribution (QCD) generally is a nontaxable distribution made directly by the trustee of your IRA (other than a SEP or SIMPLE IRA) to an organization eligible to receive tax-deductible contributions.”

Making a QCD excludes the distribution from income (up to $100,000 per person, per year), and counts towards your annual distribution requirement. Excluding the IRA distribution from income is more beneficial than taking a charitable deduction in most cases. However, for those taxpayers who will claim the standard deduction, making a qualified charitable distribution is even more attractive.

Jane, age 72, has a $1,000 distribution requirement from her IRA that must be taken by the end of the year. She also wants to make a $1,000 donation to her favorite qualified 501(c)(3) organization in December. Jane files a joint tax return with her spouse and has no itemized deductions besides her state income and property taxes, which are capped at $10,000.

Jane is better off making a qualified charitable distribution of $1,000 from her IRA to her favorite charity, rather than receiving the distribution and donating the cash. The reason is that Jane will take the $24,400 standard deduction under either scenario. Therefore, excluding the $1,000 from income is more advantageous than taking the income and a subsequent charitable deduction, which she will not actually end up taking on her return.

Making a qualified charitable distribution is fairly straightforward. Contact your IRA custodian, or Rockbridge advisor, and request a distribution. Make sure the check is made payable directly to the charity and not in your name. Request that no taxes be withheld from the distribution at either the federal or state level. Finally, have the check sent directly to the charity (if the custodian requires the check get sent to the IRA owner, make sure to forward the check to the charity as soon as possible).

If you are considering making a QCD, please keep in mind the following:

  • You must be at least 70 ½ year old when the distribution was made.
  • You must obtain an acknowledgement letter from the charitable organization containing certain information required by the IRS.
  • If your IRA contains both pre-tax and after-tax contributions, be sure you check with your accountant or Rockbridge advisor before making a QCD.

While making a QCD is generally more advantageous from a tax standpoint than taking the IRA distribution and taking a charitable deduction, everyone’s situation is different. Be sure to check with your accountant or Rockbridge advisor if you think this technique may be right for you.

In the last year, interest rates have fallen dramatically. At the end of the 3rd quarter in 2018, the yield on a 10-year note from the U.S. Government was 3.05% and today it stands at 1.68%. This decline in interest rates is unusual, but not unprecedented. Given the vast resources of the world’s largest money managers, banks, insurance companies, and universities, surely someone saw this coming.

By and large no one did, and, unless we see a rise in yields in the fourth quarter, no one will be very close. The data above comes from the Wall Street Journal Economic Forecasting Survey. Each month, the WSJ surveys over 50 economists on a wide variety of things, one of which is what they expect the U.S. 10-year Treasury bond will be yielding at a future date. The chart shows what each economist predicted, versus what actually happened.

The difficulty in forecasting rates is well shown by looking at yields at the end of June. Nine months prior, the world’s leading economists’ predictions ranged from 2.75% to 3.94% with an average of 3.40% and a standard deviation of 0.28%. The actual yield on June 30th was 2.00% or 5 standard deviations below expectations. A 5 standard deviation variance should happen 1 out of every 3.5 million times, or effectively never, when events are normally distributed. This reinforces what we already knew:  markets aren’t normal, and people can’t predict them.

As we’ve seen here with interest rates, it is very difficult to time markets, getting in or out at the right time to take advantage of the market’s next move. Smart and highly compensated people who work on large teams with unrivaled access to data spend all day trying to forecast the market. And still, they are wrong as often as they are right.

The best-case scenario for average investors trying to time the market is that it will insert an element of chance into their financial lives. For those willing to accept a materially less comfortable retirement for the chance at having a relatively lavish retirement, market timing may make sense. But that is not most people, and the universe of investors who try to time the market on average underperform for the following reasons:

  1. Excessive Costs: Market timing requires buying and selling positions which comes at a cost. Every time you transact a security you cross a bid/ask spread and some securities come with a fee to trade. While small individually, when done repeatedly these little costs add up. Some use options to time the market. Options are a terrible investment over the long run. Options trading is like playing in the poker room at a casino. With every bet you make, there is someone else on the other side. The only one sure to profit is the house.
  2. Holding Cash: Most who try to beat the market end up holding an unnecessarily large amount of cash for extended periods of time. As cash is a poor long-term investment, this generally reduces returns.
  3. Poor Decisions: Theoretically, every future movement in the market is random, securities are efficiently priced, and investors should not be able to pick winners or losers. Still, there is data that shows the average investor who trades frequently has an uncanny knack of buying high and selling low. The psychology of investing is difficult for anyone to master and frequently instincts work against investors.

The markets future movements are unknown, even to “experts.” Timing the market or picking stocks will usually hurt your wallet, not to mention the mental stress that comes with it. Having a long-term strategy and sticking with it is the best way to build wealth in the long run and to position yourself for an enjoyable retirement.

The word “recession” makes investors feel uneasy and with good reason; the correlation between a bear market and an economic recession is very high. For anyone with money in the stock market, especially those nearing retirement, this can be scary. The “r” word has been making headlines in recent months as investors worry about trade wars, the yield curve inverting, and drops in manufacturing activity. In this piece, we’ll unpack what a recession is, what it means for markets, and what can be done to protect a portfolio against one.

A recession is defined as a period of two consecutive quarters where economic activity declines on an inflation-adjusted basis. The main cause of this is economic activity decreasing; however high inflation and population growth can play a factor as well. For example, Japan has had three recessions in the last 10 years as their population has shrunk by 1.52%.

In the United States, economic activity is measured by the Bureau of Economic Analysis’ calculation of Gross Domestic Product (GDP). This measure takes three months to publish and is then revised each of the next two months before we are given a final reading. Because of the definition and the time it takes to report, we don’t know we’re in a recession until 9 months after it is upon us.

Regarding impact, we analyzed the six recessions we’ve seen over the last 50 years.

For example, in November 1973, a 16-month recession began in the United States which saw GDP shrink by 3.2%. The stock market peaked 11 months prior to the start of the recession (December 1972). It took 21 months to bottom out with a loss of 45.6%. During that time international stocks dropped 29% and five-year government bonds rose 4.5%. Fourteen months after the bottom, a balanced portfolio recovered all it had lost.

A recession’s impact on the market varies. Sometimes the impact is small (the drop we had in Q4 of last year was worse than the market’s reaction in three of the recessions) and other times it is very large. The thing that struck our team was how quickly a balanced portfolio recovers from a recession. A 60% stock portfolio that is diversified among international stocks, and is rebalanced quarterly, recovered on average 9 months after the market bottom. When you’re living through the drop, it can feel like a long time, but for investors whose money has a 30+ year investing horizon, it isn’t that long.

Another thing to remember is we don’t know when/if the next recession is coming. The Wall Street Journal Survey of Economists puts the odds of a recession in 2020 at less than 50%. Australia has gone 28 years since their last recession.

While there is no such thing as an average recession, let’s play one out. Say we begin a recession in January of 2020. We won’t know it’s a recession until next September. The market will have peaked this past July and will drop 31% before bottoming in October of 2020. A diversified 60/40 portfolio will decline 13.3% and recover those losses by July of 2021. Again, it’s not fun, but it’s not the end of the world.

And to reiterate, we don’t know when or if this will happen. We’d bet a lot of money a recession won’t start in January of 2020, not because we think we know what the economy will do, but because it’s a low probability event. In the 48 hours we took to research and write this piece, we’ve had a bit of good data and positive news from trade negotiations. The market is up 2.7% over that time and the headlines talking about a recession have vanished. That could easily change; the only point is that no one knows, and headlines are fickle and sensational.

If the fear of a recession is keeping you up at night, it’s a good idea to reach out to your advisor and discuss your asset allocation. A financial planning best practice is to periodically make sure you’re appropriately allocated for your long-term goals and individual risk tolerance. But alterations that are “short-term” by nature or “tactical” are usually mistakes. As Peter Lynch (one of the most successful investors of all time) once said, “Far more money has been lost by investors preparing for corrections, or trying to anticipate corrections, than has been lost in corrections themselves.” Our job as your fee-only fiduciary advisor is to make sure you don’t prove Peter Lynch right.

Congratulations! You are officially married and get to enjoy all the financial benefits that come along with it. After you’ve had some time to relax after the big day, be sure to consider the following.

  • Beneficiary Designations – Update beneficiary designations on any life insurance, retirement accounts, etc., to name your spouse as primary beneficiary.
  • Income Tax Withholding – Review the amount you are withholding from your paycheck. You may want to make an adjustment if you plan on filing a joint tax return in 2019. Remember you can file a joint return if you are married by the last day of the calendar year.
  • Review the benefits you are receiving, or are eligible to receive from your employer.
    • Health Insurance – If only one spouse is working, make sure both of you are covered under your company plan. Most companies only allow their employees to change their insurance elections once a year during their “open enrollment” period. However, exceptions are permitted for certain qualifying life events, which typically include marriage. If you are both working, it may be less expensive to pay for a plan that includes a spouse at one employer rather than paying for two single plans. One of you could even have better coverage than the other. It is in your best interest to review all the options available to you.
    • Life/Disability Insurance – You may have declined life insurance or disability insurance coverage when you were single. Now that there is someone else in the picture, you will want to review your options. Even if you are covered by an employer plan, you may want to purchase additional term life insurance coverage which would help to cover any joint debt and provide income replacement for the surviving spouse.
  • IRA Contributions – Getting married can affect your ability to save in certain retirement accounts, such as Roth IRAs. Roth IRAs allow you to save up-to the lessor of $6,000/year ($7,000/year if you are 50 or older), or the amount of income you, and or, your spouse earns in 2019. Contributions are made with after-tax money, and investment earnings and gains are not taxed when distributed (unlike with traditional IRAs). Getting married can affect your ability to save in these types of accounts in the following ways:
    • Individuals can contribute to a Roth IRA for their spouse as long they file a joint tax return. This allows a spouse who may have not been able, or eligible, to contribute to a Roth before getting married, to benefit from the favorable tax treatment of saving in Roth accounts.
    • The ability to contribute to a Roth is reduced when a taxpayer’s adjusted gross income (AGI) reached certain levels for the year. In 2019, someone filing an individual tax return is forced to reduce the amount they can contribute to a Roth once their AGI reaches $122,000, and is no longer eligible to make contributions once their AGI reaches $137,000. These amounts increase to $193,000 and $203,000 respectively, for married couples filing jointly. Therefore, someone who makes over $137,000, but less than $193,000 on a joint return, can now make Roth IRA contributions for both themselves and their spouse.
    • There are similar opportunities with regards to traditional IRA contributions. However, because most people are covered by an employer retirement plan, these contribution strategies can be more complex.

While the points above illustrate many of the common planning items that are relevant to newly married couples, each piece is only one part of a comprehensive financial plan. Please contact your Rockbridge advisor with any questions! Keep checking back for more articles as part of the “Life Events” series.

Rockbridge is involved in many organizations that advocate for children with disabilities and their caretakers.  As a result, we’ve helped numerous families financially navigate through their working years and successfully transition into retirement.  Special needs families tend to have common questions, one of which is how and when to file for Social Security benefits.

In order to provide a special needs child with the highest quality of care, it’s common for one spouse to stay at home full-time.  As a result, the non-working spouse doesn’t accumulate a significant work history and their future Social Security benefit suffers. Sure, the non-working spouse could file for Spousal benefits, but today we take a look at a special filing method called “Child-in-Care”.  Here’s how it works:

To file for this benefit, the working spouse must have retired and started collecting his/her Social Security benefit.  At this point, the non-working spouse can file for and start collecting Child-in-Care Spousal benefits AT ANY AGE.  That’s right, the non-working spouse can start collecting Child-in-Care benefits at any age.  Moreover, Child-in-Care benefits have preferential calculations over traditional Spousal benefits.  The non-working spouse is entitled to 50% of the working spouse’s Full Retirement Age (FRA) benefit.  Benefits would continue as long as the special needs child remains an eligible dependent (more on this later).

On its face, the Child-in-Care strategy sounds like an excellent way for a non-working spouse to receive a significant Social Security benefit.  However, there are two potential issues to consider:

  • First, the working spouse must start collecting his/her benefit in order for the non-working spouse to file and collect. If the working spouse starts collecting at age 62 (earliest age possible), he/she is locking in a permanent benefit reduction for the rest of their life.  Depending on the family’s assets, the working spouse could delay their benefit until a later age, providing a significantly higher lifetime income.  Delaying benefits could also provide protection for the non-working spouse should the working spouse pass away early in retirement.
  • Second, depending on the amount of SSI/SSDI benefits that the special needs child receives, you may exceed the Family Maximum Benefit.  Supplemental Security Income (SSI) and Social Security Disability Insurance (SSDI) are benefits paid on the working parent’s earnings record. The same is also true for spousal benefits.  As a result, combining SSI/SSDI benefits with the higher Child-in-Care spousal benefit can often exceed the Family Maximum Benefit.

So, how do you make an optimal filing decision?  It’s important to consider the following.

  • What’s the age discrepancy between the two spouses?
  • What’s the size of current SSI/SSDI benefits?
  • What’s the life expectancy of the child with special needs?
  • Does your family have other income and/or retirement assets?
  • What’s the family health history of the two spouses?
  • What’s your comfort level with delaying Social Security benefits?

As always, please feel free to reach out to your financial advisor at Rockbridge for an analysis that’s specific to your situation.

For nearly all investors, the importance of asset allocation and security diversification cannot be overlooked. Diversification can mean different things to investors, but the concept is pretty well understood – hold several different types of investments and you will be better served than those who are concentrated in one stock or in one narrow investment strategy.

I would like to introduce the topic of “tax diversification” here – since it’s not a phrase that is generally understood or discussed among a large percentage of investors and retirees.  The type of account you are eligible to open and maintain will determine how and when the funds are taxed.

For example, whether a withdrawal from your account will affect your taxable income, and ultimately how much you pay in federal and state income taxes depends on the type of account.

Account types generally fall in one of three categories: Tax-Deferred, Tax-Free and Taxable.

  • Tax-Deferred: Funds held in Traditional IRAs, a 401k, 403b, pensions or profit-sharing plans are tax-deferred. Contributions to an employer’s sponsored plan are made on a pre-tax basis before wages are taxed (such as with a 401k or 403b or 457 plan). Most insurance annuities are tax-deferred – gains are taxable when you or a beneficiary receives a withdrawal. In the case of a Traditional IRA, contributions are normally made on a pre-tax basis. Contributions are allowed but complicate the future reporting that is required to avoid paying tax again.
  • Tax-Free: Funds held in Roth IRA’s are tax-free. Contributions to the account are after-tax, but there is no tax charged on earnings or normal distributions. Additionally, certain types of municipal bonds produce tax-free income and may not have to be reported as income on either your state or federal return – or both.
  • Taxable: A typical Brokerage account is taxable. The dividends, interest, capital gains or capital losses are reported to the taxpayer at the end of each year and you will have to pay tax on any income or realized gains. A withdrawal from this type of account are not a taxable event, because tax is paid on the income each year.

When in retirement, there may be compelling reasons to accelerate or delay tax-deferred distributions or rely on those that are deemed tax-free. Rather than simply withdrawing from only one account type, it may make sense to rely on two or even three of those category-types in later years, depending on personal circumstances.  We generally advise our clients, when appropriate and advantageous, to have and maintain a combination of accounts that are “tax-diversified” to maximize the efficiency of distributions, and the favorable tax treatment given to long-term capital gains, dividends and capital losses.  Certain account types are better suited for gifting to individuals or charities during life, while others can more effectively meet philanthropic goals upon death and avoid income tax.

As with many facets of financial planning, there is rarely an absolute right or wrong method, but rather, a better method for distributions, gifts and asset classes held in certain account types. If you believe you stand to benefit from being more “tax-diversified” with your account types, please contact your Rockbridge advisor for a more detailed discussion of this topic.

Target date funds have become some of the most common investments in America. Not coincidentally, their rise in prevalence has coincided with 401(k)s gaining in popularity. We have seen it here locally; many of the largest employers in Syracuse (Syracuse University, Carrier, Lockheed Martin, General Electric, Welch Allyn, and Niagara Mohawk/National Grid) had pensions. In almost all cases, the pension has been frozen and replaced with a 401(k)s that provides a target date fund (often the default investment when an employee enrolls).

Target date funds are good investments, they achieve two important goals to help satisfy the fiduciary obligation of the 401(k) plan’s advisor:

Diversification: They are generally diversified over thousands of stocks and bonds incorporating multiple asset classes.

Simplification: Target date funds are logistically simple. You only need one holding and it automatically adjusts your allocation from being aggressive when you are young to more conservative as you near retirement.

In most 401(k) plans which have automatic enrollment (73% of plans are now set up for automatic enrollment), target date retirement funds are the default investment. This means without any action taken, you’ll be investing in your 401(k), and it will be through a target date fund based on your age. Generally, you are placed in the target date fund closest to when you’ll turn 65, regardless of whether you plan on retiring at 55 or 75.

It is important to understand not all target date funds are the same, they can vary in allocation and cost.

In terms of allocation, the most famous instance of allocation discrepancy was in 2008. During that year, returns on 2010 target date funds (designed for those retiring in two years) varied from -3.5% to -41.3%. Since then, companies managing target date funds have more standardized their allocations, but differences still exist. The following chart shows the stock allocation for different target date funds of various companies or organizations.

The largest disparity is in funds close to retirement. Federal Employees invested in the Thrift Savings Plan (TSP) who have chosen the Lifecycle Funds will have a very heavy allocation towards bonds as they near retirement. However, those who are invested with T. Rowe Price (common for employees at Syracuse University), are close to 60% equities despite being invested in the exact same fund year. In 2008, the TSP’s 2010 fund would have lost about 6% while the allocation held by T. Rowe Price would have dropped 20%. This is not to say the T. Rowe Price allocation is too risky, but rather a reminder that it’s important to understand exactly how your funds are invested.

While not a 30% disparity, we still see decent differences in the allocation of 2040 target date funds. Fidelity comes in most aggressive with a 90% equity allocation – that’s a lot of stock market risk for someone who is 45, especially if they plan on retiring in their 50s.

For 2060 target date funds, we see Blackrock has an effective all equity allocation while JP Morgan inexplicably has a more conservative allocation than their 2040 fund, with 15% in bonds and 7% in money market funds.

Another discrepancy between target date funds is cost. The following table shows the expense ratios associated with each 2040 target date fund.

The expense ratios of target date funds are confusing if you work in the industry. If you work outside the industry, good luck. Fidelity, the largest custodian of 401(k)s in the country, is a perfect example. The average investor would assume they are in Fidelity’s 2040 Target Date Fund. But Fidelity alone has 21 different 2040 Target Date funds. The expense ratios of these funds range from 0.08% to 1.75% despite more or less doing the same thing. This price complexity comes from two things:

Multiple Series: The largest fund companies have many series for the same type of investment. Fidelity, Blackrock, and Schwab all have actively managed target date funds that charge high fees and low-cost non-active target date funds. Look for the word index as that is usually low-cost.

Different Share Classes: Clients of Rockbridge don’t have to worry about share classes because they are associated with commissions. As fee-only fiduciary advisors, we are prohibited from receiving a commission on a product we recommend, but some 401(k)s will have commission-based investment options. Even among choices that don’t receive a commission, you can have difference expense ratios. Fidelity’s Advisor Freedom series has an “Institutional” share class which costs 0.75%, a “Z” share class which costs 0.65% and a “Z6” share class which costs 0.50%.

We’ve found investors can sometimes get the same exposure as the more expensive target date fund options through the use of low-cost funds within the same 401(k) plan. Saab Sensis, a successful local employer uses a lineup which includes Principal as their target date fund family. These target date funds charge from 0.57% to 0.79% depending on the year. However, they offer lower cost mutual funds which can get the same exposure for around 0.25%, leading to substantial savings for the investor.

Lockheed Martin is similar. Most of their target date fund options cost 0.54%, but you can get the same exposure through individual index funds for 0.08%.

In conclusion, target date funds are generally good investments, but it’s important to know exactly what your getting in terms of allocation and cost. As always, if you have questions or concerns, please contact your advisor at Rockbridge and we can help look through your specific situation as it relates to target date funds or more general financial planning.

If you’re like most people, you know that planning to achieve your financial goals involves more than just budgeting and saving for retirement. You’ve undoubtedly received financial advice, solicited or otherwise, from some combination of family, friends, coworkers, or even just from the myriad financial planning advertisements on TV and online. With all of this information out there, it’s no wonder that there’s more than a little confusion as to what financial planning is all about.

At Rockbridge, we view financial planning as the ongoing process of identifying goals, evaluating strategies to achieve those goals, implementing the action items necessary for those strategies to be effective, and monitoring the results.

This process sounds simple enough, but how do you know where to begin? How do you identify which goals are relevant to the planning process? Should they be specific or broad? Should you focus on short-term or long-term goals, and how do you prioritize them? What happens if your goals change?

Often it takes a major life event to draw attention on our true financial goals. While there are any number of events that may impact a person’s financial objectives, there are a handful of life events that, we as advisors, get a lot of financial planning questions about. These events include:

  • Getting married
  • Buying a house
  • Having a child/adopting
  • Changing jobs or starting a business
  • Retiring

Visit our blog at www.rockbridgeinvest.com, where we will be rolling out dedicated posts discussing many of the common (and sometimes not so common) planning considerations associated with these life events.

As always, reach out to your Rockbridge advisor with any questions regarding your specific situation.

At Rockbridge, we believe that the role of an investment advisor is changing, and investors should be expecting more from their advisors than they have in the past. With options like Vanguard, robo advisors, and all the other investment-only solutions popping up each day, it’s clear that advisors who focus solely on investment management are a thing of the past – or certainly should be!

Yes, even our name “Rockbridge Investment Management” demonstrates that investment management is at the heart of what we do, which it is, but I wanted to take a few moments to share with you some of the additional things we help clients with each and every day:

  1. Asset distribution planning: In retirement, most retirees have pre-tax and post-tax investments, Social Security, and possibly even pensions. Deciding how and where to take distributions in retirement is very important and something we help clients with every day.
  2. Taxes: With the tax code changing for 2018, what does that mean for you? Rockbridge employs experts who help clients make sure they are saving or spending in the most tax-efficient way. Below are some timely examples:
    1. Using Donor-Advised Fund for annual charitable gifts
    2. Using your RMD’s to maximize tax deductibility of charitable gifts
    3. Maximizing employer retirement accounts/Roth IRA’s
    4. Minimizing overall taxes paid with Roth conversions
  1. Goal tracking: Retired or saving for future retirement, Rockbridge advisors help develop and track your financial goals. We make sure you are maximizing every opportunity to maintain or reach your desired standard of living.
  2. Medicare: This is a decision every 65-year-old has to wrestle with and at Rockbridge, we have in-house experts to make this process easier.
  3. Social Security: For most retirees, Social Security is the only retirement asset with a built-in inflation hedge. Determining the ideal time to take this for you and your spouse could be one of the most important retirement decisions you have to make. Rockbridge is here to help you navigate the pros and cons on taking this early or delaying.

Our team is also involved in many projects, such as the Northeast Agricultural Education Foundation and their Agricultural Education Grant.

We expect a lot out of ourselves here at Rockbridge, and we continually try to become better at what we do and provide more for our clients. If any of these things resonate or seem timely, please give your Rockbridge advisor a call.

  1. How does/and how much does your advisor get paid?

Fees matter.  It is important to know how much you are paying and the value you receive for that payment.  If you’re paying 1% or more for only investment management with no in depth retirement planning, we should talk.

  1. Is your advisor required by law to act in your best interest? If not, why?

Most advisors are only required to do what’s “suitable” for you and are not required to act in your best interest.  If your advisor is anything but a fee-only registered investment advisor (ex. Fee-based, commission based, insurance salesman, bank advisor etc.) they have intentionally decided against being held to a fiduciary standard (acting in your best interest).

  1. Does your advisor invest his own money in the same manner he recommends to his clients?

Rockbridge advisors believe all money (theirs, as well as their clients) should be invested according to an evidence-based investment philosophy studied by academics since the 1960s. If your advisor is investing their own money differently than they are recommending you should invest yours, it should make you stop and think.

  1. Does your advisor help you save money on taxes?

We help clients focus on factors they can control.  Together, we build and create a financial plan incorporating a tax-efficient investing and withdrawal strategy so you end up with more of your own money (and the government doesn’t!).

  1. Does your advisor help you understand how much money you can spend in retirement?

Investment management is just one piece of sound financial advice.  We solve financial problems beyond just the investment management component.  The first step of our process is to help you understand how much you are able to spend throughout retirement relative to how much you are spending today.

  1. Does your advisor have industry professionals to help you in all aspects of your financial life? If not, why?

At Rockbridge, we have built a team of industry professionals (CFP’s, CFA’s, CPA’s, and Legal),  that are committed to client care.  We have the expertise to provide unrivaled advice in all aspects of your financial life.

While you should think about retirement planning as early as possible, the five years leading up to retirement are critical. If you believe you are 5 years or less away from retirement, now is the time to seriously take a look at your finances and get a plan in place.

The New York Times recently shared an article called “Countdown to Retirement: A Five Year Plan.” The article provides a list of key items you should be concentrating on in each of these five crucial years leading up to retirement. You can check out the original article here.

5 Years to Go

This is the year for a “financial check-up.” Are you on track to meet your retirement spending needs based on your saved assets and retirement income sources (Social Security, pension)? Even if your projections are not what you want them to be, it is important to know where you stand so you can make adjustments. Do you need to cut back spending now in order to save? Do you need to adjust your asset allocation to take advantage of higher expected returns? Rockbridge can help you run this analysis, develop recommendations for the next five years in a financial plan, and get you on the right track.

4 Years to Go

Now is a good time to think about where you would like to live in retirement in your later years. If you were thinking about living in a retirement community, it may not be a bad idea to start researching now. You can get an idea of the cost and plan for it if necessary, and many retirement communities have long wait lists. You should also consider how you would fund a long-term care event. Have you built up enough assets to self-insure? Is it appropriate to purchase long-term care insurance to cover the full or partial cost of care in a nursing home?

3 Years to Go

As important as it is to financially plan for retirement, it’s just as important to emotionally plan. How do you plan on filling your time? Many people say they want to travel, but what about from day to day? Whether it’s working part-time, volunteering, or devoting time to a hobby you love, you need to consider what your retirement looks like. This is also a good opportunity to evaluate your current home. Do you plan on selling and downsizing? If you plan on staying in this home, are they any updates you want to get done while you are still working? You may also want to consider if refinancing your home make sense or if you’d want to establish a HELOC for emergencies.

2 Years to Go

Talk to your tax advisor to see if there are any tax savings strategies you can benefit from. Roth conversions are popular if you have a large balance in pre-tax accounts (traditional IRAs or 401(k)s). Additionally, if you drop to a lower tax bracket in retirement, it may be a good opportunity to pay the taxes on some of that money and convert to a Roth IRA which will never be taxed again before you have to start your required minimum distributions. This is also a good opportunity to rerun your financial plan and practice” being retired. See how it feels to live off your retirement spending budget over the next couple of years!

1 Year to Go

Have you thought about health insurance once you retire? If you are retiring prior to age 65 when you would be eligible for Medicare, you will have to fund the cost of your own health insurance. Ask your employer if they offer any form of retiree healthcare benefits. You also have the option to use COBRA for your current coverage or to purchase a policy through the exchange. This is also a good time to take a look at your asset allocation again. If you’re on track, maybe you can start scaling back some of your stock exposure. It’s never a bad idea to have some extra cash available or to make use of short-term investments just in case the market takes a hit right when you retire.

We know there is a lot to think about when it comes to planning for retirement, and Rockbridge is here to help!

A recent headline in the Wall Street Journal declared, “A Generation of Americans Is Entering Old Age the Least Prepared in Decades.”  The article starts out by stating, “Americans are reaching retirement age in worse financial shape than the prior generation, for the first time since Harry Truman was president.”  It is a familiar story with some updated, and alarming, statistics.

Consider the following statements from the article:

  • In total, more than 40% of households headed by people aged 55 through 70 lack sufficient resources to maintain their living standard in retirement.
  • Median personal income of Americans 55 through 69 leveled off after the year 2000 – for the first time since data became available in 1950 (according to analysis done by the Urban Institute). Median income for people 25 through 54 is below its 2000 peak.
  • Americans aged 60 through 69 have more debt, including six times as much student-loan debt in 2017 than they did in 2004 (according to New York Federal Reserve data adjusted for inflation).
  • Households with 401(k) investments and at least one worker aged 55 through 64 had a median $135,000 in tax-advantaged retirement accounts as of 2016 (according to the latest calculations from Boston College’s retirement center)…that would produce about $600 a month in annuity income for life.
  • Health care costs – since 1999, average worker contributions have risen 281% during a period of 47% inflation.
  • The cost of higher education continues to rise much faster than inflation, causing student-loan debt to rise for students, and often for parents.
  • Life expectancy continues to increase, so people in their 50’s and 60’s are often helping aging and ill parents while figuring out their kids’ college expenses.

Individual stories of financial insecurity often start with familiar hardships.  At Rockbridge, we have clients affected by all of the common, but unfortunate, life events including job loss, personal illness, divorce, ailing parents or children, and student-loan debt for themselves or their kids.

One interesting change I noted – we now talk more often about “approaching retirement age,” rather than “approaching retirement.” Some people still choose to retire early, and others are forced to retire, but more people are choosing to continue working because they need the income or prefer the lifestyle.

At Rockbridge, we think people should make decisions that enhance their financial security whether they plan to retire or not.  The trends noted above make financial security a more difficult goal to obtain.  Planning early, and adjusting often, will allow people to be better prepared as they approach retirement age.  If you have not reviewed your plan lately, give us a call.

It’s common for investors to feel nervous when looking at investments by themselves. Are you saving enough? Are you saving in the right place? Are you holding the right mix of investments? Should you own individual stocks or funds? Are you paying too much in fees? What are you actually paying in fees? For the average investor, this is enough uncertainty to make someone feel uncomfortable, and this isn’t even the whole picture.

Dealing with a pension can seem daunting too. How does my retirement date affect my payout? When should I claim my benefit? Should I take the lump sum or the annuity? What, if any, survivorship benefit should I select? The same goes for Social Security:  When should I collect? When should my spouse collect? Will I get the full amount promised to me once I retire?

Any of these items, in a silo, is enough to make an investor nervous. Add them together and you get anxiety. When investors are nervous, they are more likely to make mistakes. That’s where Rockbridge comes in. We can help you answer these questions by framing your financial decisions in a comprehensive financial plan.

Numerous studies have shown investors harm themselves when they act impulsively. This boils down to investors holding cash because they are afraid of the market declining. This may be when the market is at an all-time high and they’re afraid of a correction, or when the market is rapidly falling and the person is worried it will go to 0.

In reality, neither is certain and no one knows what the next day will entail. However, we do know markets go up over time, and every day you hold cash is a day you’re missing out on the next incremental gain.

As advisors, we’ve found investors are less likely to make mistakes or act impulsively when they see their investments as part of a larger plan. Knowing the role each piece of the puzzle plays is helpful in reducing the stresses of personal finance, and makes one more likely to adhere to a course of action that is in the person’s best interest. It can be hard to forego income when you’re middle aged, but understanding the benefit of saving in your 401(k) makes this more doable.

Perhaps a family has a large fixed pension that, combined with Social Security, covers all their living expenses right as they retire. Their investment savings will become important over time as inflation erodes the value of the fixed pension. Knowing this helps a family stay the course when the stock market is volatile.

Alternatively, a person might need to rely heavily on their portfolio in their early 60s while they wait to take Social Security and receive a small inheritance. This investor will want a less risky allocation to protect against large declines in the stock market. They should also stick with their plan and not pursue a riskier allocation because they think the market is about to shoot up. This person’s portfolio plays a much different role than the portfolio of the family in the previous paragraph, despite being close in age.

This is all not to say plans can’t change. For example:  Someone is 68 and delaying their Social Security to claim a larger benefit; if the stock market drops 50%, the course of action giving them the highest probability of success might be to claim Social Security now and not draw down on an investment account while stocks are at depressed levels. These decisions shouldn’t be done impulsively. They should be well thought out and analyzed with mathematical probabilities to ensure that an unemotional, best course of action is being pursued.

No commentary or article you read is going to be perfectly relevant to you because every situation is unique. Investors are best served when they have a plan they buy into that addresses all facets of their financial life. This improves mental well-being and helps families avoid mistakes that can be costly. Rockbridge can help you look at the whole picture and guide you in making the important financial decisions.

 

Yesterday evening, Rockbridge’s own Ethan Gilbert, CFA was featured on our local Spectrum news network. Check out the interview below where Ethan discusses the recent market shifts, how these swings can affect your retirement accounts, and how to protect your accounts from this volatility.

 

Click here to learn more about Ethan!

Happy New Year! Now that 2017 is a wrap, one of the best presents you can bestow on yourself and your loved ones is the gift of proper preparation for the rest of the year. Want to get a jump-start on it? Here are 10 financial best practices to energize your wealth management efforts.

 

  1. Save today for a better retirement tomorrow. Are you maxing out pre-tax contributions to your company retirement plan? Taking full advantage of your and your spouse’s company retirement plans is an important, tax-advantaged way to save for retirement, especially if your employer matches some of your contributions with “extra” money. And, by the way, if you are 50 or older, you may be able to make additional “catch-up contributions” to your plan, to further accelerate your retirement-ready investing.
  2. Verify your valuables are still covered. Most households have insurance: home, auto, life … maybe disability and/or umbrella. But when is the last time you’ve checked to see if these policies remain right for you? Over time, it’s easy to end up with gaps or overlaps, like too much or not enough coverage, deductibles that warrant a fresh take, or beneficiaries who need to be added or removed. If you’ve not performed an insurance “audit” recently, there’s no time like the present to cross this one off your list.
  3. Get a grip on your debt load. Investment returns will only take you so far if excessive debt is weighing you down. Prioritize paying down high-interest credit cards and similar high-cost debt first, and at least meeting minimums on the rest. You may also want to revisit whether you still hold the best credit cards for your circumstances. Do the interest rates, incentives, protections and other perks still reflect your needs? Ditto on that for your home loan.
  4. Check up on your credit reports. Speaking of those credit cards, have you been periodically requesting your free annual credit report from each of the three primary credit reporting agencies? Be sure to use AnnualCreditReport.com for this purpose, as it’s the only federally authorized source for doing so. By staggering your requests – submitting to one agency every fourth months – you can keep an ongoing eye on your credit, which seems especially important in the wake of last summer’s Equifax breach.
  5. Get a bead on your budget. How much did you spend in 2017? How much do you intend to spend in the year ahead? After current spending, can you still afford to fund your future plans? Do you have enough set aside in a rainy day fund to cover the inevitable emergencies? These days, there are apps available to help you answer these important questions. Mint.com is one such popular app.
  6. Get ready for tax time … with a twist. While income tax reform looms large in the U.S., the changes won’t apply to 2017 taxes (due by April 17, 2018). Still, there are the usual tax-planning activities to tackle: gathering receipts and reports, making prior-year contributions, wrapping up business revenue and expenses if you’re a business owner, funding or drawing down retirement accounts, and more. Plus, there now may be tax planning opportunities or challenges to consider as the new laws take effect in 2018. You may want to fire up those tax-planning engines on the early side this time around.
  7. Give your investments a good inspection. Where do you stand with your personal wealth? Do you have an investment strategy to see you through? Does your portfolio reflect your personal goals and risk tolerances? If you experienced strong growth in 2017, is it time to lock in some of those gains by rebalancing your portfolio to its original mix? While investment management is a marathon of patient perspective rather than a short-sighted sprint of mad dashes, a new year makes this as good a time as any to review the terrain.
  8. Ensure your estate plans are current. Do you have wills and/or trusts in place for you and your loved ones? If so, when is the last time you took a look at them? Your family may have experienced births, deaths, marriages or divorces. Dependents may have matured. You may have acquired or sold business interests, and added new assets or let go of old ones. Your original intentions may have changed, or government regulations may have changed them for you. For all these reasons and more, it’s worth revisiting your estate plans annually.
  9. Have a look at your healthcare directives. As healthcare becomes increasingly complex, advance directives (living wills) play an increasingly vital role in ensuring your healthcare wishes are met should you be unable to express them when the need arises. Don’t leave your loved ones unaware of and/or unable to act on your critical-care or end-of-life preferences. If you don’t already have a strong living will in place, Aging with Dignity’s Five Wishes is one helpful place to learn more.
  10. Give your newly adult children the gift of continued care. Have any of your children turned 18 recently? You may send them off to college or a career, assuming you can still be there for them should an emergency arise. Be forewarned! If you don’t have the legal paperwork in place, healthcare providers and others may be unable to respond to your requests or even discuss your adult child’s personal information with you. To remain involved in their healthcare interests, you’ll want to have a healthcare power of attorney, durable power of attorney and HIPAA authorization in place. It may also be prudent to establish education record release authorizations while you’re at it.

 

NEXT STEPS IN THE NEW YEAR

We get it. Life never stops. The holiday season can be a busy time that often spills right into the New Year. Don’t despair if you can’t get to all ten of these tidbits at once. Take on one each month, and you’ll still have a couple of months to spare before we’re ringing in 2019.

Better yet, don’t go it alone. Let us know if we can help you turn your financial planning jump-start into a mighty wealth management leap. It begins with an exploratory conversation.

 

Any investor who spends even a modest amount of time reading financially-based magazine articles, or occasionally watches or listens to financially-based TV or radio programs, can’t escape all the pronouncements financial advisors make to prospective clients. So, if you are new to Rockbridge, I thought it would be fun to share a few promises with you. Here are five promises of what Rockbridge will not do with clients or prospective clients:

  1. Make Short-Term Stock Market Predictions

We don’t guess the hourly, daily, quarterly or even annual direction of the stock market or the Fed’s action on interest rates. We don’t think others should either since even the so-called experts are wildly incorrect most of the time, and when they are right, it was more likely luck, not skill.

  1. Tie Stock Market Results to Political Events or Partisan Grips on Congress or White House

While many of us have political leanings or biases of who may be better for the economy (and eventually the stock and bond markets), we don’t believe either major political party provides compelling evidence for a more healthy economy or better results for your portfolio.

  1. Make Changes to Your Portfolio Every Time the Market Swings

Volatility is inherent in the markets – so are daily fluctuations. We believe in keeping asset class target allocations within acceptable parameters, but we will not make knee-jerk reactions to events on a daily basis. Portfolio rebalancing occurs when one asset class substantially outperforms or underperforms and target weightings have a higher than acceptable variance.

  1. Select Only “Good Investments” and Avoid All Those “Bad Investments”

Far too many times I have been asked individually if I can steer someone “into just the good investments.” The fact is, we are deeply rooted in an efficient market theorem, and the best method for participation is low-cost, broad-based index components (either mutual funds or ETFs) using both long domestic and international strategies. We keep a tight handle on our portfolio models and don’t stray to the esoteric or exotic (such as short selling or options contracts) based on a hunch or gut instinct. We know that each strategy we employ will not perform identically to another – the results will rotate in and out of “desirability,” but we focus on how they perform together over long periods of time.

  1. Focus Solely Only On Your Investment Performance or Increasing Your Portfolio Size

While achieving suitable investment performance is often a vital aspect of appropriate financial planning, yearly results are not the most critical measure of a financial advisor’s value or worth to you or your family.  Meeting expected performance should be in the context of achieving your overall financial goals – there are far more important topics to be concerned with rather than losing sleep over a friend or neighbor’s investments “doing better” than your own. We enjoy robust returns as much as anyone else.  However, neglecting tax implications or appropriate insurance coverage and dismissing proper retirement planning or estate planning efforts will impact a family on a much deeper level than worrying about what everyone else is earning from their investments. Trust me, most of the time, your friends or neighbors have no idea what their actual returns are and rarely will they review an actual performance report with their advisor – much less with you.

Philanthropy does not always make the list of critical priorities when planning for the future, a process often dominated by other pressing needs like education and retirement.  Yet for those blessed with some success, and financial resources that exceed what we need to survive, philanthropy can be a way to give back, pay it forward, or just do something good for other people.

Philanthropy – Goodwill to fellow members of the human race; the effort or inclination to increase the well-being of humankind, as by charitable aid or donations.

The Central New York Community Foundation is celebrating 90 years of philanthropy in Central NY.  The slogan for the celebration is “Here For Good,” which is intended to carry a double meaning – here to make the community a better place and here for the long term.

Community foundations now serve communities across the U.S., and it has been my privilege to serve on the board of The CNY Community Foundation, where I have been able to observe first-hand the impact it has on people’s lives.  It is now responsible for a pool of charitable capital that surpasses $226 million.  Over the course of its history nearly $170 million has been invested in the Central New York community.  That history includes many stories of transformed lives and improved communities. Some of those stories are told in a recent publication and are also available online at:  https://cnycf90.org/.

Community-wide Impact

The Community Foundation plays a role in some big, community-wide initiatives, like “Say Yes to Education,” which provides a path to college for Syracuse City School District students.  Say Yes funds several support programs and after-school programs for school students and ultimately funds last-dollar college scholarships for those who go on to college.  The Community Foundation provides leadership for many aspects of the program and administers the Say Yes Scholarship Endowment Fund, which is now fully funded at $30 million.

Legacy

The act of giving can be very rewarding, as we see the impact on those less fortunate, or envision the impact on future generations.  The Community Foundation can help donors work through the process of creating Legacy Plans that identify their motivations for giving, document their giving stories, and preserve their charitable legacy.  One such story is told in the 90th Anniversary publication about the Martha Fund, established to honor Martha Blumberg, a bright, talented young woman who died far too young.  The Martha Fund was established by her mother’s will to honor Martha’s zest for life, and since 2013 the fund has awarded nearly $300,000 to support children’s art programs, health services and learning activities.

Looking Ahead

It is easy to lose sight of philanthropy amidst our day-to-day struggles, so when you do hit the pause button, and make plans for your financial future, keep in mind the resources available to make philanthropy a part of your legacy.

Teachers Insurance and Annuity Association, better known as TIAA was founded almost 100 years ago (1918). TIAA provides retirement plan solutions for a majority of the higher education institutions in the United States. One type of investment, called the TIAA Traditional Annuity, is a unique fixed income investment option that is available in TIAA 403(b) plans and cannot be purchased on the open market.

TIAA Traditional Annuity Basics

  • Available in most university 403(b) plans and usually has guaranteed minimum return of 3.00%.
  • Guaranteed returns are subject to the creditworthiness of TIAA (currently rated as one of the best insurers in the market).
  • The actual crediting rate of TIAA Traditional Annuities is based on when the money went into the fund. Older contributions can have a crediting rate of 4-5%.

What are TIAA Traditional Restrictions?

  • Contract type matters with how TIAA Traditional Funds can be withdrawn.
  • In Retirement Annuity/Group Retirement Annuity (RA/GRA) contracts, TIAA Traditional investments have to be taken out over a period of time. The shortest allowed is 10 payments over 9 years.
  • In Supplemental Retirement Annuity/Group Supplemental Retirement Annuity (SRA/GSRA) contracts, investments in the TIAA Traditional Annuity can be withdrawn at any time.
  • Supplemental plans have a lower guaranteed crediting rate since the investment is liquid, but the minimum is usually 3%.

What is the Current Fixed Income Environment?

  • Short Term CDs yield around 1%
  • 10-Year Treasuries yield around 2.5%
  • If interest rates rise, bond prices fall causing the return on treasuries to be lower.
  • TIAA Traditional Annuities yields 3%+ with no volatility.

What are the Planning Considerations for TIAA Traditional Funds?

  • A 3%+ rate of return on fixed income assets is appealing in today’s interest rate environment.
  • The TIAA Traditional Annuity could be utilized for some or all of the fixed income portion of a portfolio.
  • Careful consideration of withdrawal needs in retirement should be considered before transferring money into RA/GRA TIAA Traditional investments where the withdrawals are restricted.
  • Making the right investment selection across multiple TIAA contracts and outside investments can be complicated.

As you can see, the TIAA Traditional Annuity option in university 403(b) accounts provides a unique planning opportunity in today’s interest rate environment. If you have this option available to you through you TIAA 403(b), it may be worth utilizing. However, please remember that it is important to weigh the pros and cons of this option to determine if it makes sense to be considered as part of an overall investment and financial planning strategy.

Managing clients’ financial assets is at the heart of what we do here at Rockbridge.  However, having a well thought out investment portfolio will only get you so far if every facet of your financial life is not addressed correctly or on time.  Rockbridge is here to help you answer all these tough questions and prepare you and your portfolio for all that lies ahead on this road to retirement.

 

road-to-retirement

Proper planning allows you to answer these questions and not miss any needed exits along the way. Rockbridge is here, as your financial PARTNER, ensuring you a smooth journey down “life’s road” well beyond your exit for retirement!

We all know the importance of getting your finances in order and creating a financial plan when you are on the brink of retirement. However, creating a “leisure plan” can be just as important to a successful retirement.

This recent USA Today article discusses the significance of planning how you may want to spend your leisure time in your golden years. “Retirement will be the first time since you were 5 when your days will be ‘nearly completely unstructured’… And without something to do, you’ll likely be unhappy.”

Remember:  Rockbridge is here to help you plan before retirement and throughout retirement – no matter how you decide to spend your time.

The recent vote in Britain to exit the European Union is yet another reminder of how markets often react negatively to surprises. We cannot help but ask ourselves, “Is it different this time? Maybe this is the event that upends markets as we know them, and I would be stupid not to react!”

As it turned out, markets settled down quickly after this latest surprise, but it reminds us that long-term investors must endure these market downturns because no one has the crystal ball that would allow us to avoid them.

Sometimes surprises have profound and long-lasting effects. Those of us who have been saving for retirement for the past thirty years or so have seen plenty of surprises, and I think it is helpful to put some of the results in perspective. Looking back from 2016, it is interesting to note how disappointing our recent experience has been. Since 1940:

• The worst 3-year performance for the S&P 500 ended in March of 2003 (-16.09% annualized).
• The worst 5-year performance for the S&P 500 began a year later in March 2004 (-6.64% annualized).
• And the worst 15-year performance for the S&P 500 ended in August 2015 (+3.76% annualized).

In other words, the technology/dot-com bubble that ended in March 2000, and the financial crisis of 2008, were back-to-back disastrous surprises for the stock market. The fallout has consumed more than half the working career of anyone much under 50 years old, and had a negative impact on those who are older and trying to save for retirement in their peak earning years.

Another interesting fact: If we add the previous ten years to that worst 15-year period (25 years beginning in September 1990), the S&P 500 realized annualized returns of 9.8% – very close to longer-term averages.

Some conclusions we can draw from these observations:

• Time horizon matters – 15 years is not a long time for a long-term investor, and anyone planning for retirement should be a long-term investor.
• It’s different every time – the cause of the surprise is almost always different than the last time markets were shaken, but long-term investors must be ready to endure the inevitable downturn.
• The best reaction is almost always the same – check your risk profile to be sure it is appropriate for your situation, then rebalance to your targets, buying stocks at discounted prices.
• Staying the course makes sense – the major market run-up in the 1990’s was as unforeseeable as the subsequent downturns.

Events like the Brexit vote test our patience and tolerance for risk. Maintaining a long view to the future, and keeping history in perspective, can help us make better investment decisions.

Thanks in part to our evidence-based approach to investing, we don’t have to eat our words or advice very often. But recently, we discovered that we stand corrected on one point. Fortunately, it’s a point we’re happy to concede:

Evidence-based investing doesn’t have to be such a boring subject after all.

In his recent “Last Week Tonight” HBO segment on retirement plans, John Oliver showed the world that even the typically eye-rolling conversation on why fiduciary advice matters to your investments can be delivered so effectively that it goes viral … or at least as viral as financial planning is ever likely to get, with nearly 3.5 million views, and counting.

Oliver’s masterful combination of wit and wisdom is worth watching first-hand. If you’ve not yet taken the 20-minute coffee break to check it out, we highly recommend that you do so.

The best part? It’s hard to say. He covers so many of our favorite subjects: avoiding conflicted financial advice, reducing the damaging effects of excessive fees, and participating sensibly in expected market growth.

We also are hopeful that Oliver’s segment will help strengthen the impact of the Department of Labor’s recent rule, requiring all retirement advice to strictly serve the investor’s best interests. We can’t quite bring ourselves to share the analogy that Oliver used to bring that particular point home, but here are a couple of our other favorite zingers (pardon his French):

On stay-the-course investing: “There is growing evidence that over the long term, most managed funds do no better, and often do worse, than the market. It’s basically the plot of ‘Charlie and the Chocolate Factory.’ If you stick around, doing nothing while everyone around you f**ks up, you’re going to win big.”

On hidden fees: “Think of fees like termites. They’re tiny, they’re barely noticeable, and they can eat away your f**king future.”

Lacking Oliver’s comedic timing, our own frequent conversations on these same subjects are unlikely to ever reach 15 million viewers. But that doesn’t diminish our equal levels of passion and enthusiasm for how important it is to safeguard your financial interests by embracing the few relatively simple, but powerful principles that Oliver shared.

One thing we do have over Oliver: We are quite serious about actually serving as a fiduciary advisor, protecting and promoting your highest financial interests. As always, we deeply appreciate your business. If you are aware of other investors who could use a similar helping hand, why not share Oliver’s video with them? We hope you’ll also offer them our name along with it, in case they’d like to continue the conversation.

A simple Google search for “retirement plan” or “retirement calculator” will provide thousands upon thousands of results.  The number of websites that promise to provide retirement or financial guidance in a short amount of time are plentiful.  The real question is, are they accurate?   As with anything in life, the devil is in the details.  A comprehensive understanding of your personal situation cannot be done in a 5-minute Twitter level analysis.  It does not make sense to have a cursory glance at something as important as retirement.  When considering retirement planning and whether to go alone or with an advisor, please consider the following points:

Are the Plan Results Really Correct?

  • Have you ever heard the saying, Garbage In, Garbage Out (GIGO)? This is more important than anyone realizes when talking about retirement plans spanning 30+ years.   A slight miscalculation can mean the difference between a successful plan and low spending in retirement.  Simple online retirement calculators are high level estimates and should not be used to make major life decisions.

Advanced Scenario-Based Analysis

  • Modern financial plans have moved far past standard Excel models and back-of-the-napkin calculations. Not only should the retirement plan be flexible and easy to update, it should also run many simulations and stress test the results looking at downside scenarios.  This is not something that can be done easily through a quick calculator or fixed rate of return model.

Emotions

  • The biggest impact on financial and retirement planning has nothing to do with analysis. Emotions and personal experience can heavily weigh decisions as retirement approaches.  Having an unbiased and objective resource can prevent costly mistakes.   Emotions are also amplified the few years around retirement because of the shifting mindset from saving to spending from your portfolio.

Framing

  • Another factor that a financial advisor can provide is the framework for good decision making. What decisions need to be made now?  Which decisions have the biggest impact?  Financial planning, like life, is not black and white.  What advisors do is to help you frame your decisions so that you are able to make the best decision for you.

Missed Opportunities

  • Your financial life is filled with several complex topics including investments, savings, debt, taxes, college savings, Social Security, pensions, etc.  Understanding the relationship between all of the topics is far more complicated, and because of this there are often missed opportunities.  Look to an expert to help you capture those opportunities.

The default investment option for the Lockheed Martin Salaried Savings Plan (SSP) and the Capital Accumulation Plan (CAP) is the managed Target Date funds.  A Target Date fund is designed to capture the entire investment market in a single fund.  In addition, as you approach retirement, the Target Date fund becomes less and less risky.  While this sounds good in theory, there are some significant downsides to using Target Date funds, especially the ones available in the LM retirement plan.

Benefits

For new investors, there are some significant advantages to holding the LM Target Date Funds, the primary of which is simplification.  For an employee in their 20s and 30s, savings rate is by far the most important factor in retirement success.   Focusing on savings rate and simplifying the investment selection with a Target Date fund is a good approach during these years.  Another benefit is that the Target Date funds automatically rebalance on at least an annual basis.   Finally, the Target Date funds decrease in risk over time which could benefit an investor that is disengaged from their accounts.

Risks

It is important to consider how much risk you are truly taking with a Target Date fund.  There is no standard for how much stock market risk a particular Target Date fund holds, so two different funds that have the same retirement year (Target Date 2040) could have drastically different holdings inside of them.    By investing in individual asset classes instead of a single fund, you have the ability to better control the risk taken in the portfolio.  In addition, the risk can be controlled better for other facets of your individual retirement picture.   The ideal risk level may be different if you have a LM pension as well as the SSP.

Costs

The Target Date funds in the LM 401(k) plan are actively managed by Lockheed Martin Investment Management Company (LMIMCo).  On any given day, the LMIMCo can change the internal account managers in the fund which can change the price.

For example, the annual expense ratio on LM Target Date funds can vary between 0.15% and 0.82% at any given time.  That is quite a broad range.  It would be good to know to a more accurate detail if the annual expenses were either $150/year or $820/year (on a $100,000 account).

In contrast, selecting individual index based funds in the plan would have a lower expense ratio of around 0.04%.   Knowing that you are only paying $40/year instead of $820/year (on a $100,000 account) is a big incentive to re-evaluate your investment selection within your account.

Active vs. Evidence-Based Investment Management

At Rockbridge, we fundamentally believe in the evidence-based or index-based investing approach.  The goal of most investors should be to capture the returns of the entire market for the lowest possible cost.   Unfortunately, the Lockheed Martin Target Date funds fall under a category of active management.   The concept of active management means that a fund is making specific investment decisions in an attempt to outperform their benchmark investment.  While the word “active” sounds like a positive characteristic for an investment manager, academic evidence shows that over the long run, a large majority of active managers have lower returns after fees compared to using an evidence-based approach.  Many of the Lockheed Target Date funds also show this performance lag on their Morningstar reports.

Holdings

Although the Lockheed Martin Target Date funds hold many different asset classes, there are several that Rockbridge does not believe adds long-term value for clients.  These asset classes include commodities, alternative investments, futures, and Treasury Inflation Protected Securities (TIPS).  In addition, each target date fund held approximately 9% in cash at the end of 2015.  With the goal of long-term investing, holding cash in a retirement account could decrease your expected return, and thus, your retirement account balance.

Solution

As you can see, the Target Date funds within the Lockheed Martin 401(k) have both benefits and pitfalls.   The main benefit is simple broad diversification, however this comes with increased costs and risk factors for the investor.

At Rockbridge, we prefer to control the risk in your portfolio and reduce the unneeded costs associated with investing.  As mentioned above, the Lockheed Martin plan does have well diversified, evidenced-based funds that are available.  Please reach out to us for an allocation unique to you.

Lockheed Martin MST recently announced the upcoming Voluntary Layoff Program with the goal of reducing the divisional workforce by 1,500 employees.  If you are considering retirement and are eligible for the Voluntary Layoff Program, it may make sense to deeply consider the options.

As with all retirement and transition decisions, there are two main components: the financial aspects and the non-financial aspects.   Often, the non-financial considerations far outweigh any detailed financial analysis.

Financial Considerations

  • Have you reached the savings level where you can comfortably retire the way you envisioned in the past?
  • Do you have major upcoming costs such as college tuition for children that would hurt your early retirement decision?
  • How will this program affect your taxes this year and future income streams like Social Security?
  • If you are not 65 years old, how does this impact your medical insurance coverage?

Non-Financial Considerations

  • Are you truly ready to retire from day-to-day work? What would that look like?
  • Do you have other career ambitions outside of Lockheed Martin?
  • What does your spouse think of the prospect of you no longer working?
  • Are your primary friends retired or still working?
  • If needed, how will you replace the sense of daily accomplishment that work provides?

Start with a Financial Plan

When considering a major life decision, it makes sense to first take a step back and figure out your priorities and long-term goals in life.   The best way to do this from both the analytical and emotional level is to have a comprehensive financial plan in place.  This living document can help frame the Voluntary Layoff Program decision as well as open the discussion for other missed financial opportunities going forward.  Rockbridge is here to help facilitate the discussion and frame the key decisions for you at this critical time in your career.   We are here when you are ready.

If you qualify for the Voluntary Layoff Program and are interested in applying, the following are some key dates to keep in mind:

  • May 11: Final day to submit application for the Voluntary Layoff Program
  • May 26: Employee notified if application is accepted and the applicable exit date
  • June 9: Date majority of the employees will exit the business; additional dates will continue quarterly through June 8, 2017

When evaluating a financial advisor, the most important factor is that they truly understand you as a person and your personal situation.  At Rockbridge, we have a dedicated focus in working with clients that are employees of Lockheed Martin.  Because of this, we already have an expertise in all employee benefits plans and how each one interacts with other benefits such as Social Security.  This allows us to optimize your retirement plan and gives you the reassurance and confidence that you are not leaving anything on the table.

Over the next several weeks, we will be writing our thoughts on different facets of Lockheed Martin employee benefits.  We hope that you are able to take away some new information that will help you better save and be prepared for when retirement comes.  We are always here to answer your questions as they arise.

Lockheed Martin Retirement Plans

As you well know, there are several different pension and retirement programs offered through Lockheed Martin via Voya.  Each one has their own unique benefits and quirks.   In addition, between now and 2020, the retirement program landscape will change with the pension benefits being frozen for all employees.   We will address each of these items in detail to help eliminate confusion regarding terminology and acronyms.

Salaried Savings Plan (SSP) – This is the company’s 401(k) plan.  Employees are allowed to contribute between 1%-25% of their salary with a max contribution of $18,000/year ($24,000/year for employees 50 and over) for 2016.  In addition to the employee contribution which is always yours, the company will match 50% of your contributions up to 8%.  This means that if you put in 8% of your salary, the company with contribute 4% of your salary toward the plan.

Capital Appreciation Plan (CAP) – For employees that are not part of the Lockheed Martin Pension Plan (hired 1/1/2006 or later), the company will contribute an additional 3%-4% of your salary toward retirement savings.   The CAP will transition fully in 2020 to the new Lockheed Martin Retirement Savings Account (RSA) where the employer will automatically contribute 6% of your salary toward retirement.

Retirement Savings Account (RSA) – A new retirement plan benefit that will function for all employees in place of previous pension benefits.  LM will contribute an automatic 2% of your salary to this program from 2016-2019, and in 2020, that percentage will merge with the CAP and increase to an automatic 6%.

Pension Benefits – The LM pension plan was discontinued for new employees starting 1/1/2006.  Beginning 1/1/2016, the LM pension plan has a locked annuity value for your average pay formula.  Any additional raises will not be factored into the pension formula.  Beginning 1/1/2020, the pension plan will stop accruing additional years of service.  On 1/1/2020, the final pension figure will be 100% fixed.

Lockheed Martin Executive Compensation Plans

In addition to the standard employee plans offered, Rockbridge is well versed in the various executive compensation plans available to highly compensated employees.   With each employee having unique supplemental benefits, we plan individually to optimize every available option.   We have detailed experience working with the Lockheed Non-Qualified Supplemental Savings Plan (NQSSP), the Non-Qualified Pension Plan (NQPP), Deferred Management Incentive Compensation Plan (DMICP), Long-Term Incentive Cash and Restricted Stock Bonuses as well as other legacy compensation plans.

How Plans Interact in Retirement

Understanding the complexities of each Lockheed Martin retirement plan is important, but even more critical is understanding how these plans function together with outside assets (brokerage accounts) and pensions (Social Security).   Using advanced planning software, Rockbridge can make sure your hard earned savings are maximized for your goals.

Framing Solutions

Outside of pure investment management, one of the most valuable services that Rockbridge provides is goal and decision framing.   Unlike simple math problems (1+1=2), retirement decisions are a combination of analytical and emotional decisions.   For many retirement questions, there is no right or wrong answer, but Rockbridge can help frame the decisions so that you are able to select the best solution for YOU.  Having an unbiased and objective third party look over your entire financial picture will give you the peace of mind that the transition to retirement will go smoothly.

First Step

The first step forward is always the most difficult.   When you are ready, Rockbridge would be happy to walk you through the path to retirement to make sure you are making the best decisions going forward.  We offer complimentary discovery meetings so that you can get to know us and see if we are a good fit.   We also offer second-look services to see if your current advisor is maximizing all of your available investment resources.   Your life savings and retirement happiness are always worth a second look.

As you may have heard, there have been some drastic changes to Social Security regarding the file-and-suspend and restricted application methods of filing. These changes were announced back in October 2015 when Congress passed their 2016 budget. (You can read more about the specifics of these changes in this article.)

As expected, there has been much confusion surrounding the changes – from Social Security recipients and Social Security Administration employees alike. The criteria regarding who is still eligible for these strategies is specific and complex, which leads people to discuss their eligibility with a professional. However, according to a recent Wall Street Journal article, there have been several instances where people have been given incorrect information regarding their eligibility from the Social Security Administration.

“People who turn 66 by April 29 can still file for Social Security and suspend their benefits to allow a spouse to file a restricted application, as long as they act by that date. Doing so can make sense if your spouse was 62 or older by January 1 of this year because people in that age group will continue to be able to file a restricted application for only a spousal benefit once they turn 66. With such a coordinated strategy, one spouse can pocket the spousal benefit while both delay claiming their own benefits to take advantage of the delayed retirement credits that increase monthly payments by 6% to 8% for each year in which claiming is deferred between ages 66 and 70.”

The article sites one case where a couple – the husband is 66 and the wife is 64 – was told by a Social Security office in California that they could not participate in the strategy because they both needed to be 66 years old. Since this is incorrect, the couple’s financial advisor told them to be persistent. The couple filed-and-suspended the husband’s benefit over the objections of the Social Security agent and were accepted. According to their advisor, the couple could have lost over $100,000 in lifetime benefits if they had not insisted.

The Social Security Administration says that it has made an effort to inform the over 30,000 employees through manuals, training and other methods of instruction since the beginning of 2016. They recommend that if you are having trouble at an office to ask for a supervisor or a technical officer. Filing online is a great option as well.

You can always contact your advisor at Rockbridge with any questions regarding Social Security. Below is a chart of the claiming deadlines, and different scenarios regarding eligibility.

claiming deadlines

Source of chart: Michael Kitces at Nerd’s Eye View. You can read Michael’s article regarding the Social Security changes here.

Recently, Congress included surprising Social Security rule changes in the 2016 budget legislation.  The bill has now become law and the updated rules will become permanent over a phase-in time period.  We wanted to reach out to all of our clients to help better explain what you may be hearing in the news and describe how the change will affect you personally.  For a more detailed explanation of your personal situation, please feel free to contact us.

Rule Definitions

There are two general rules that were affected by the recent legislation:  File and Suspend and Restricted Application.   Below are brief definitions of the two rules:

  • File and Suspendis a claiming strategy where an individual files for Social Security benefits at full retirement age (generally 66) and then suspends receiving benefits until a later point in time.  This strategy was often used in conjunction with the Restricted Application strategy.
  • Restricted Applicationis a claiming strategy where a spouse or former spouse is able to file for spousal benefits at full retirement age (generally 66) while allowing their own benefits to grow at a rate of 8% per year.

Phase-In Timing

The new law allows for a phase-in of the Social Security rule changes.  If you are currently receiving benefits, you will be unaffected by this legislation.  If you have not started benefits, the following birthdate ranges will show which strategies are still applicable for your personal situation:

  • Born May 1st, 1949 and earlier – You have the ability to file and suspend your benefits between now and May 1st, 2016.   After that time period, the file and suspend benefit will no longer be in place.   You will also be eligible for spousal benefits using the Restricted Application claiming strategy.
  • Born Between May 2nd, 1949 and December 31st, 1953 – You no longer have the ability to file and suspend your benefits.  You will be eligible for spousal benefits using the Restricted Application claiming strategy.
  • Born January 1st, 1954 and later – You will no longer have the ability to use the file and suspend or restricted application strategies when claiming Social Security benefits.

Overall, the removal of the Restricted Application and File and Suspend claiming strategies will have a slight effect on some people’s retirement plans.   At Rockbridge, we are able to help you navigate these changes and how they impact your overall retirement lifestyle.

Please feel free to reach out to any one of our advisors and we can describe how these changes impact your personal situation in more detail.

Last week, Congress passed their “Bipartisan Budget Act of 2015.” Among the typical budgetary items, there are a few alterations that will impact the Social Security benefit filing system. Anyone who turns 62 in 2016 or later will no longer be able to take advantage of the “file-and-suspend” strategy for the purpose of receiving spousal benefits. This strategy would allow a person to file and then immediately defer their benefits to a later age, while their spouse was able to claim spousal benefits. In turn, the married couple could take advantage of the deferral credits that increase benefits by 8 percent per year after full retirement age until age 70, while still receiving the spousal benefit Social Security check each month. Under the new rule, a person filing for Social Security must file for both their own benefits and their spousal benefits, but will only receive the higher of the two.

This will impact many people who were planning on including this strategy in their retirement spending plan as a main stream of income. However, Congress believed they needed to eliminate this “loophole” to prevent people from receiving larger benefits than the government originally intended.

Check out the articles below for some more detail on the changes being implemented:

Congress is Killing the File-and-Suspend and Restricted Application Social Security Strategies

New Budget Deal Is Cutting Your Social Security Benefits and It’s a Good Thing

 

Most Americans are overwhelmed with the array of options when searching for health insurance coverage in addition to Medicare Part A and B.   Before answering a common question people ask regarding Medicare, it probably makes sense to explain the different components:

Medicare Part A:  If you paid Medicare taxes while employed (most people do), there is typically no premium associated with Medicare Part A.  The majority of individuals are automatically enrolled in Medicare Part A once they reach age 65.  Generally speaking, Medicare Part A covers partial costs for hospital visits.

Medicare Part B:  There is a varying premium associated with Part B of Medicare depending on your reported income.  For married couples earning $170,000 or less, the premium for 2014 was $104.90 (can be deducted from Social Security benefit if desired).  If you fail to enroll in Part B when you’re first eligible (age 65), you’ll have to pay a late enrollment penalty for as long as you have Part B.  This is typically a 10% increase for each year you COULD have had Part B, but is subject to change on an annual basis. You will not have to pay a late enrollment penalty if you are employed and elect to use your employer’s coverage instead.  If this is the case, you must still enroll in Medicare Part A and provide proof of coverage through your employer at the time you enroll in Part A.  We encourage our clients to sign up for Medicare three months prior to turning 65 years of age to avoid the late enrollment penalty.

Medicare Part C:  Part C is more commonly referred to as the “Medicare Advantage Plan.”  This part of Medicare is optional and most individuals purchase this part of Medicare to supplement Part A and B or purchase a full blown Medicare Supplement Plan.  I will explain this in further detail later on.

Medicare Part D:  This is another optional part of Medicare you may purchase to cover the costs of medications.  This is usually built into Medicare Advantage Plans (Part C) but must be purchased additionally with Medicare Supplement Plans.

Unfortunately, Medicare Part A and B only cover a portion of medical costs.  As a result, most people elect to purchase some type of additional supplemental insurance.  This is where Medicare can become complicated and people become frustrated; leading to the most frequently asked question:

Do I purchase a Medicare Supplement or Advantage Plan (Part C)?

Ok, this question is much more complex than it seems.  Since I am trying to simplify Medicare, it would make sense to first explain the difference in a couple sentences:

Simply put, if you are in good health and do not visit doctors often, you can get away with a Medicare Advantage Plan (Part C).  If your health is deteriorating, you visit the doctor(s) more than you would like, and/or you simply want the most robust coverage available, then a Medicare Supplement plan is probably a better option.  Hopefully the chart shown below can help you decide which is most appropriate:

Medicare Supplement
Pros:
– Most comprehensive
– Variety of different plans/premiums
– Accepted by majority of medical providers

Cons:
– Higher premiums than Advantage Plans
– Must purchase Part D in addition (drug coverage)

Medicare Advantage Plan
Pros:
– Very Inexpensive
– Built-in drug coverage

Cons:
– More restrictive networks
– High variability between plans
– Higher copays than Supplemental plans

As shown, Medicare Advantage Plans usually have very small or even no premiums because the insurance company is compensated by your Medicare Part B payment.  However, these are not as comprehensive as Medicare Supplement plans.  There are copays for doctors and higher copays for specialists, but even if you are the healthiest person there is no reason not to enroll in one of the zero premium plans (…it’s free, but you get what you pay for).  Most plans also have built-in prescription drug coverage (Part D).

Medicare Supplement Plans have a higher monthly premium and are more comprehensive.  There are several different plans to choose from and several different insurance companies that offer these plans.  Most people don’t realize that the insurance companies charge different premiums for identical plans!  As of 2015, there are ten Supplement plans that are distinguished by a letter, such as Plan F or A.  These plans are standardized across all insurance companies and you will get the exact same benefits purchasing a Plan F from any company.  However, the premiums the companies charge are different depending on the company you choose!  There is absolutely no reason to not purchase the lowest cost insurance provider of whatever Medicare Supplement plan that you decide makes most sense for your situation.  Of all the different Medicare Supplement Plans, Plan F is the most comprehensive (and expensive) and classified as the “Cadillac” plan.  There are typically no copays or out of pocket costs outside of the monthly premium paid.  However, you must purchase a prescription drug plan (Part D) in addition to any Medicare Supplement.

Fortunately, medicare.gov lists all providers AND premiums of Medicare Supplement Plans sorted by zip code.  The Medicare Advantage plans are not standardized and differ from company to company.  Please visit medicare.gov or contact Rockbridge if you would like assistance regarding Medicare options.  We understand that this is very confusing for consumers, and with our expertise we can point you in the right direction!

Would you stop being a fan of the Yankees, Mets, Giants, Jets, Bills or the Syracuse Orangemen and root for a team in Florida in order to save on your tax bill?  It might help!

Many New York State residents planning for retirement expect to maintain a residence in New York, but claim another state as their state of domicile.  Their purpose is to reduce their tax burden (state income taxes and/or estate taxes).  There are currently nine states with little or no state income tax.  The most popular of these for New Yorkers is Florida.  Florida has no state income tax and no estate tax.  Particularly for those with expected high taxable incomes in retirement, and/or high taxable estates, the tax savings can be considerable.

In the “old days,” if you lived out of New York State for more than 183 days per year, you were not deemed to be a “statutory resident” of New York, and this was thought to be the main litmus test for claiming not to be domiciled in New York and not subject to income and estate taxes in New York.   Your domicile is the place you intend to have as your permanent home, where your permanent home is located and the place you intend to return after being away (as on vacation, business assignments, educational leave, or military assignment).  You are a New York State resident for income tax purposes if your domicile is New York State or your domicile is not New York State but you maintain a permanent place of abode in New York State for more than 11 months of the year and spend 184 days or more in New York State during the tax year (note – there are special rules for military members and their spouses).

This still sounds fairly straightforward and not difficult to achieve.  However, in recent years, New York State, as they have been losing considerable revenue from individuals claiming domicile elsewhere, has become far more aggressive in challenging a change in domicile.  From a recent court case, “A domicile once established continues until the individual in question moves to a new location with the bona fide intention of making such individual’s fixed and permanent home there…  The burden is upon any person asserting a change in domicile to show that the necessary intention existed…  Although petitioners may have registered in Florida, obtained driver’s licenses and registered their cars there, there is little convincing evidence as to petitioners’ intent to abandon their New York State domicile and acquire a new one in Florida.”

New York State, in a residency audit, will examine all aspects it considers indicators of domicile, including your “home,” active business involvement, where you spend your time, where you keep things “near and dear” to you, family factors and so forth.  Where you are registered to vote; where your driver’s license is maintained and cars are registered; where you go to church; what clubs you belong to; what charities you support; where your accountant, lawyer, doctors, insurance agent, etc. are located, will all be looked at.

A change in domicile from New York State can be established and defended if you are indeed changing your domicile in substance.  It is advisable to consult with a tax practitioner or lawyer with expertise in this area before claiming the change, so that you can properly defend, document and support your position (without abandoning your favorite New York team!).

Many investors nearing retirement are beginning to focus on life after work.  Questions arise that can be difficult to answer, such as:

  • How much savings is enough to retire?
  • What sources of income will I have after I stop working?
  • How do I construct a portfolio to fund spending goals?
  • What will I do with my time?
  • When should I apply for Social Security?
  • Lump sum vs. pension payments?

Here are my four steps to a successful retirement experience:

1)  Have a plan

The most successful retirees have a well thought-out plan before retiring.   Write down your goals.  If you have a spouse, each of you may have differing goals.  Write them all down and decide which ones take priority and come to an agreement; memorialize your goals in a document.  Decide on a sustainable withdrawal rate from your portfolio and an asset allocation that takes into account how much risk you are willing and able to take to achieve your spending goals.  You will also need to consider taxes, legacy and estate plans, long-term care needs and risk management.

2)  Create a “retirement paycheck”

Set up direct deposits of all income sources, such as a pension and Social Security.  Add a recurring transfer of funds from your investments (IRA or Brokerage account) to supplement your fixed monthly income sources.  Don’t be afraid to set up recurring payments of all your monthly expenses to eliminate the need for check writing and mailing.  Automate and free up your time for more important things to do in retirement.  It’s also a great idea to consolidate all of your various accounts with one custodian.

3)  Find a new passion

Once you have the financial part of retirement under control, you will need to address your personal goals.  You need to retire TO something, not just FROM something.  Spend some time considering what you will want to do with your free time.  Options include working part time in your current field, paid work in a new field, volunteering, traveling or just relaxing at home.  Everyone has a distinct path that is right for them, but surveys suggest the most satisfied people continue to have a passion for something in their life.

4)  Balance, outsource & simplify

Some people enjoy managing their retirement portfolio, while others prefer to work with a trusted advisor to free them up to focus on their personal goals and priorities.  Either way, there are many ways to simplify your financial life and minimize time devoted to finances.  Lack of organization often creates unnecessary stress that can be unhealthy.  Decide which tasks you can do on your own and which tasks you would gladly pay to outsource to someone you trust.

In my experience, working with many pre-retirees, these are the four critical steps to a successful retirement experience.  Add in some investing and spending discipline and you can confidently move from a life of work to a life of whatever you choose!

 

Over the weekend, the Wall Street Journal writer Lindsay Gellman covered this important topic.   She did an excellent job articulating the values of both hiring an advisor and managing your own personal finances.  The sole point that I disagree with in the article is titled, “You won’t stick to a pro’s advice, anyway.”  At Rockbridge, our goal is to establish a long-term plan up front and help clients follow that advice over time.  

The full article can be found here:  WSJ Article

In a recent Wall Street Journal (WSJ) article, the debate over whether to use active or passive investments was addressed. The conclusion was just use both! Let’s take a look at the five reasons they give to defend this neutral stance and see if they hold up to scrutiny. 

1. Use index funds for efficient markets, and active funds for others.

The rationale is that it is hard for active managers to beat the index in efficient markets like the S&P 500, but where they thrive is in less efficient markets like domestic small cap and international stocks.  

This sounds reasonable; however, the facts don’t back it up. According to the 2013 SPIVA study, which ranks active managers against their benchmark, the majority of active managers underperformed passive investments in 21 out of 22 categories over the 5-year period ending 12/31/13. Some conclusions from the study:

  • 79.4% of active managers underperformed large US stocks (S&P 500)
  • 74.8% of active managers underperformed small US stocks (Russell 2000)
  • 71% of active managers underperformed international stocks (EAFE)
  • 80% underperformed the “less-efficient” emerging markets asset class  

Clearly, the evidence suggests that active strategies are no more likely to outperform in less efficient markets. 

2. Keep the door open for beating the market. 

The article says, “Index mutual funds and exchange-traded funds offer a low-cost, tax-efficient way of matching broad market returns—which a large percentage of active managers can’t seem to do.”  However, they say there is an emotional element to investing you have to consider. People want to think they can beat the market and don’t want to settle for benchmark returns.

Well, sometimes I like to think I could play golf professionally, but then reality sets in as I wake up! Look at the stats from above; you are playing a loser’s game if you keep trying to beat the market.

3. Add an active manager to fine-tune the volatility of your portfolio. 

This reason doesn’t make much sense since active managers actually just layer an additional level of risk on your portfolio. An investor already has to deal with the volatility of the markets.  Why add the unknown human risk of an active manager to the equation?   

4. Use a mix of funds to hedge against market crosscurrents.  

Michael Ricca, managing director for Morgan Stanley, says, “Passive and active funds tend to perform better in different environments. It can be better to own an active manager who can scout for attractively valued securities or shift to sectors that might hold up better in a correction.”

I think the writers of this article are missing the point. Active managers have consistently underperformed their passive counterparts in 21 out of 22 asset classes over the last 5 years.  There is no credible evidence that active managers can add value through security selection. 

5. Use an active-passive blend to bring down overall expenses.  

The article says that “Many active funds charge 1% or much more in annual expenses, while index funds may charge as little as 0.05%. Even if you generally favor active funds, you might use a blend to lower your overall portfolio expense ratio to perhaps around 0.5%”.

Alternatively, you could use index or low-cost passively managed funds in all investment asset classes to reduce the cost of your investment portfolio. Remember, the saying “you get what you pay for” does not hold true when it comes to investing.

Does hiring an investment advisor improve your portfolio returns?  This question is often on the minds of our clients or prospective clients.  The value of an advisor is often easier to describe than define numerically.  Many clients find value in hiring an advisor to provide “peace of mind” and comfort that a professional is watching over their portfolio.  This value can be difficult to quantify because it varies by client. 

Value measurement – What is Alpha?
Investors have many tools available to evaluate the performance of portfolio managers.  One such tool is the Jensen Measure, named after its creator, Michael Jensen.  The Jensen Measure calculates the excess return that a portfolio generates over its expected return.  This measure of return is commonly known as Alpha.  Alpha is an elusive quality.  Very simply put, it is the ability to beat an index fund without adding risk to a portfolio. Investment managers are always seeking it but rarely sustain it.

The academic evidence strongly suggests that delivering above-average returns without adding additional risk is extremely difficult or nearly impossible in the long run.  However, most of what we read in the business news or watch on TV is directly aimed at uncovering the elusive manager able to “beat the market” and deliver consistent Alpha to investors.  The fixation on market beating returns has often led to dire results for the average investor. 

About 3%
So how does an investor measure the value of an advisor who plans to match market benchmark returns?  It’s a question that Vanguard set out to answer in a recently published paper for investment advisors titled “Putting a value on your value: Quantifying Vanguard Advisor’s Alpha.”  Vanguard explored the idea of advisor Alpha more than a decade ago.  They recognized that the conventional wisdom of advisors providing value by “beating the market” was outdated and disproved by academic evidence.  Interestingly, the areas of best practices for wealth management that Vanguard identifies are identical to the values we have been providing for clients for over 20 years.  They are:

  • Asset allocation
  • Low-cost implementation
  • Rebalancing
  • Discipline and behavioral coaching
  • Asset location
  • Optimal withdrawal strategy
  • Total return vs. income investing

Vanguard quantifies value-add of best practices

 

The Atlantic published an article over the weekend on 401(k) fees that really resonated with me.   With employer retirement plans being one of the largest sources of savings, it is disheartening to continually see high fee 401(k) plans.

Below is the article.   Let us know if your 401(k) fees are eating into your retirement.

The Crushingly Expensive Mistake Killing Your Retirement

Market Watch recently released an article focusing on the confusion and stress felt by 401(k) savers.  Investors feel the 401(k) options offered are too confusing and they don’t know what to do!  Rockbridge financial planner, Geoff Wells, shared his feelings on how investors can eliminate that stress.

Read the full article here (Market Watch Article)

Now that we are halfway through 2013 and the federal estate tax debate is far behind us, it is a good time to remember that as New York State residents, we are still subject to the state estate tax.  A common phrase is, “Estate tax, I’m not wealthy enough to have to worry about that!” Unfortunately, the NYS exemption is far lower than the federal government exemption and can cost families that do not prepare for it.

Do I Need to Worry About Estate Taxes?

Reaching the New York estate tax limit of $1m is easier than most people think.  An individual’s estate includes much more than just investment assets.  The estate calculation also includes property owned, life insurance contracts, and even pensions payable after death.

Federal vs. New York State Estate Tax Differences

Federal and New York State have rules that differ and those differences greatly affect financial planning.   The individual estate tax limit for New York is far lower than the federal estate tax limit.  Additionally, the lower New York State exemption limit does not allow for portability (The ability to transfer unused estate tax exemptions to a surviving spouse.  Portability essentially doubles the estate tax limit for a couple.)  The table below shows the key differences between the two estate tax laws.

.                                                                                               Federal                                  New York

Individual Exemption Limit (2013)                        $5.25m                                  $1.00m

Taxation Percentage Above Exemption                   40%                                        5%-16%

Portability                                                                              Yes                                          No

Annually Adjusts For Inflation                                      Yes                                          No

Gift Tax Limit                                                                     $5.25m                                  None

Double Trouble

If potentially owing New York State estate taxes leaves a sour taste in your mouth, then the knowledge of double taxation compounds the flavor.  When pre-tax retirement assets are left in an estate (Traditional IRA, 401(k), 403(b), etc), not only are they included in the estate tax total due, but the recipients of the pre-tax accounts will also have to pay ordinary income taxes on the account when the money is withdrawn.

Potential Solutions

An AB Trust is no longer needed to avoid most federal estate taxation issues; however it still has a very important place in New York State estate taxation.   Since New York does not allow for portability between spouses, having each spouse fully utilize the $1m exemption can avoid $99,600 (2013) of estate taxes due.

Family gift planning can also reduce the New York estate tax by establishing a plan of distributing estate assets prior to death. For the federal tax system, every individual is allowed to gift up to $14,000 per person in a calendar year (2013).  In a case of a couple with 4 married children, they may exclude $224,000 annually from their potential estate.    (2 in the couple X 8 children and spouses * $14,000)

In addition to the $14,000 per personal annual gift, New York State does not impose a taxation limit on gifts, only on estates.  Toward the end of an individual’s life, there is a possibility to gift up to the federal estate tax limit ($5.25m) without federal or New York State taxation.  Gifting above $14,000 per person annually will reduce the federal estate tax limit upon death.

When In Doubt, Ask!

Estate taxes can be a very complex issue and should be looked at in conjunction with an entire financial plan.   If you believe you are in an estate tax scenario, please contact us and we can help you determine the best course of action.

I know this might be hard to imagine for most of us golfers, but which of the following scenarios would you rather choose:

1.   Shooting par every time you go out and play a round of golf.

2.   Shooting below par 25% of the time you play and failing to reach par the remaining 75% of the time

 

It’s an easy decision, right?

The game of golf has many parallels to investing.  A score of par is similar to a stock index.  It is the base score everyone is trying to reach.

Continuously shooting par, similar to passive (index) investing, is what we do here at Rockbridge.  We try to control costs, manage risk and get as much return as the markets allow.  With index funds, you always get what you expect when it comes to returns and are left with no surprises.  It’s much like going out and shooting par every time you golf.  Basically, we help you avoid the double and triple bogeys that we are all too familiar with!

The other scenario is to strive for a score lower than par, which is similar to active investing.  You incur additional costs – Wall Street “experts”– in an attempt to beat the return produced by an index.  However, evidence shows that you will only be able to do so 25% of the time.  The remaining 75% of the time you will underperform; and to make matters worse, you will underperform by a much bigger margin than you will ever outperform!  This makes perfect sense.  When active managers continuously strive for outperformance, they must take additional risks which lead to mistakes.  No different than a golfer trying to make eagle on every hole.  He will find himself shooting much worse with that constant added pressure!

The situation only gets worse with time as well. Just like shooting a score below par gets harder as we age, your chances of beating index returns goes down drastically when you look at longer time periods.  Over extended periods of time, your probability of beating index returns falls into the single digits!  Larry Swedroe, in a recent CBS News article, goes on to state that this value is lower than what we would expect by sheer chance!  When most investors are saving for long-term goals, like retirement, those don’t seem like odds I would be willing to pay extra for!

So, if shooting consistent pars on the golf course sounds like the no-brainer choice, then why do so many people still engage in active management when it comes to investing?  In golf, spending additional time/money to improve your game might pay off in a lower score, but unfortunately this does not hold true when it comes to investing.  Control costs and shoot for par (index returns) and you will be much farther ahead in the long run.  Sometimes it takes a simple analogy to help lead us to making wiser and more prudent life decisions!

Over the years there has been a shift of burden in retirement savings from the employer to the employee.  The era of company pension plans is fading, leaving Americans on their own to save for retirement; primarily through company-sponsored 401(k) plans. 

Frontline recently aired The Retirement Gamble, where it highlights some of the downfalls of company 401(k) plans and how they are keeping many investors from ever reaching a successful retirement.

Have you ever looked at one of your 401(k) statements and asked yourself “Why does it seem like this thing never goes up in value?”  The market has been good and you are making regular contributions to it, so why does it seem like something is eating away all your return?  It’s because there is:  FEES! 

So how can you control or minimize your fees?  The easiest way to do so is to cut your mutual fund costs.  The average actively managed mutual fund costs 1.3% annually to own, when you can purchase a passively managed mutual fund for a fraction of that price.  Very few actively managed mutual funds outperform their benchmark index, and picking which ones will do so ahead of time is yet another challenge.  Jack Bogle, founder of Vanguard, states in the documentary “that to maximize your retirement outcome you must minimize Wall Street’s take”!

Jack Bogle goes on to say that if you expect to get a 7% gross return each year and give 2% of that up to fees, then you are ultimately sacrificing almost two-thirds of your potential return! 

Assumptions: Start with $100,000 earning 7% annually for 50 years.  Red line
shows 5% annual return (7% return reduced by 2% of annual fees)

Jack continues by saying that “if you want to gamble with your retirement, be my guest.  Yet be aware of the mathematical reality that you may have a 1% chance of beating the market.  This has been proven true year after year, because it can’t be proven wrong”! 

Jason Zweig, an investing columnist for The Wall Street Journal, added that “one of the ultimate dirty secrets of Wall Street is that a great deal of fund managers own index funds in their own retirement portfolios.  This is something they don’t like to talk about unless you put a couple beers in them!”  So if these highly paid fund managers don’t even believe in their ability to outperform index fund returns, then why should we?

Remember, that as investors, we have to control the controllable, and mutual fund costs is one cost we can control.  We can’t know what direction the market will be heading in or what our annual return might be, but we can maximize the percentage of that return that goes into our pockets and stays out of Wall Street!

 

If you are fortunate enough to have a defined benefits pension plan at work, you may have a very important upcoming decision to make.  The task of deciding between a lifetime monthly payment or a 7 figure one-time payment can be daunting,  To compound the complexities, there are various different annuity options factoring in spousal payments and fixed term guaranteed payments.

Before stressing over the details, the first step is to understand the advantages and disadvantages of each option.   The table below objectively compares the two:

Annuity payments Lump-sum payments
Your monthly income is fixed, you have no investment decisions, and your tax planning is straightforward You’ll face tax issues in deciding how to take the lump sum, and you’ll have to make investment and estate planning decisions
You generally can’t transfer your money to another investment or postpone or accelerate payments if your health or financial situation changes You control how your money is invested and how fast you spend it.  You can roll the money over to a tax-deferred retirement account and have access to the money if needed for an emergency or an investment opportunity.
Most annuities pay a fixed monthly amount.  At an inflation rate of 3.5% a year, a fixed income annuity would lose half of its purchasing power in 20 years Your investments may earn higher returns than an annuity would offer and help you better keep pace with inflation
Your benefits don’t depend on your investment results, so declining interest rates or falling stock prices won’t reduce your income If your investment perform poorly, you could end up with less money than if you’d taken a fixed monthly payment
You can’t outlive your money (although after inflation it may not meet all your needs) You may outlive your money if you live long enough or you don’t make good investment or spending decisions
You must pay income taxes on your monthly distribution If you roll over your lump sum to another tax-deferred plan (IRA), you’ll generally be taxed only as you withdraw the money.  But, if you don’t roll over the lump sum, it’s taxable as income in the year you receive it.
Once you (and your beneficiary, if you choose a survivor option) die, all benefits cease and there is nothing for your heirs The unspent portion of your lump sum can be left to your heirs when you die

After understanding the basic concepts, the best way to look at the “Million Dollar Question” is to view the pension in terms of your overall portfolio.

  • Have you saved in a 401(k)?
  • Does your spouse work as well?
  • Does he/she have a pension?
  • How good is your current health?
  • How much control of your money do you want?
  • Is the pension adjusted for inflation?
  • Are you eligible for Social Security?

Each of these questions will allow you to lean towards the best retirement choice for you.  In summary, the age old wisdom of, “If you don’t know, ask!” perfectly applies to retirement questions.  A financial planner can help sort through the noise and help you find the optimal solution.

 

Welcome to the 2013 Rockbridge 401(k) Challenge.  This is the easiest competition you will ever face and will take less than 10 minutes to complete!

The challenge is simple, increase your employee 401(k) contributions by 2% or more and see if you actually notice the difference in your day-to-day life.  Our guess is that you will not.

Although a 2% increase does not seem like much when it is withdrawn each paycheck, it can have a huge impact in retirement. For an individual making $50,000/year, the additional retirement savings in current dollars will be:

10 years until retirement – $14,200

20 years until retirement – $42,400

30 years until retirement – $94,700

(5% real return, 3% annual raises, 2% additional salary deferral)

Your future self will greatly thank you!


The New York Times recently published an article about the various ways people are using the web for retirement planning.  More and more companies are trying to find solutions to help people with less than $500k in assets manage money in a similar fashion to large pension funds.

At Rockbridge, we have cost effectively been doing this for 20 years, with real service, and not just software.  We are also able to provide judgment and credibility that the online platforms are still lacking.  With financial decisions, a face-to-face personal interaction cannot be overlooked!

In a recent WSJ article, Seven Resolutions to Get Your Nest Egg in Shape, the author points out that many Americans are behind on their preparations for retirement.

 

 

Below are some eye-opening stats:

– 67% of workers say they are behind schedule in planning and saving for retirement!

– Less that 60% of families are currently saving for a later life.

–  Only 40% of workers over 55 years old, have accumulated more than $100,000 in retirement savings.

 

It’s not too late to get your financial ducks in a row!  Take control of your retirement, and if you want a partner to help you do so; give us a call!

Schools and parents have always taught students to strive for A’s and B’s.  In fact, it would be hard to do well in school without using grades as goals or milestones.  Unfortunately after school, grades fall off the radar.  By translating retirement savings into something as simple as a letter grade, retirement preparation can be seen in a new light.

The current rule of thumb is to save 10-15% of your salary throughout a career for retirement.  This general guideline often gets trumped by real life events:  kids, a new house, emergencies, etc.  In addition, television commercials are now touting a very large “retirement number” that often looks extremely intimidating and confusing.  With these generalized recommendations, it is often too vague to figure out if you are really on track for retirement.

Applying a letter grade to your savings will provide a new way to look at your retirement preparedness. This article’s model uses a simplified grading scale with each letter grade assigned a level of spending in retirement.  A grade of “A” means you have enough savings to replace 100% of your pre-retirement spending for the rest of your life when factoring in other income sources such as Social Security.  A grade of “B” would correspond to 90% of pre-retirement spending on down to a grade of “F” which would represent only 60% of pre-retirement spending.

What’s Your Grade?

To find your personal savings grade, you first need to calculate your savings multiplier.   For example, if you have $250K in savings and $90K in spending ($100K salary minus $10K yearly savings), then the savings multiplier will be 2.8 ($250K savings ÷ $90K spending = 2.8).   The table is broken down by 5-year age brackets and letter grades of A through F.  For a 45 year old, this savings level would be equal to a grade of B.

“A”

“B”

“C”

“D”

“F”

30 yrs old

1.6

1.4

1.1

0.8

0.5

35 yrs old

2.1

1.7

1.4

1.0

0.7

40 yrs old

2.7

2.2

1.8

1.3

0.9

45 yrs old

3.4

2.8

2.3

1.7

1.1

50 yrs old

4.3

3.6

2.9

2.2

1.4

55 yrs old

5.5

4.6

3.7

2.8

1.8

60 yrs old

7.1

5.9

4.7

3.5

2.4

65 yrs old

9.0

7.5

6.0

4.5

3.0

Now that your retirement savings have been graded, is it better or worse than expected?  If you received a poor grade, the easiest way to fix this would be to increase your employee retirement plan contribution percentage.  In addition, yearly contributions to an Individual Retirement Accounts (IRAs) would also improve your grade over time.

Our motto here at Rockbridge is “Building Wealth with Simple Disciplines” and we have been doing that for clients for the past 20 years.  Grading your retirement picture is just another way that Rockbridge can help you simplify and achieve your financial goals.

Assumptions/Customization

  • Married couple earning $100K/year and saving $10K/year  ($90K/year spending)
  • A real market return rate of 5%, which takes into account inflation
  • Upon retirement, all assets are converted into a paycheck for life via an immediate annuity paying 6%
  • Social Security makes up $36K/year of retirement income needs for this couple

To customize this table for your personal situation, compare your spending level to the model.  If expenses are greater than $90K/year, then you will need to save more than the table lists.  In contrast, if you have a company pension, you will be able to save slightly less.

If you currently work for a publicly traded company, there is a good chance that you own some of their stock in your 401(k).  You may even have incentives from the company to own more of it.  In fact, some companies make their matches or profit sharing contributions in their own stock which just increases your exposure.

So, is owning your company stock a good thing?

The short answer is NO. Your salary is already a huge personal exposure you have with that one company; do you really need to double down

 

In a recent post, Josh Brown highlighted the fact that since leaving Microsoft, Bill Gates has steadily decreased his holdings in the company down to 20%.

“….here the second richest man in the world shows us the value of knowing when to walk away, no matter how sentimental or close to you an investment once was. To say nothing of the value of spreading out the chips just in case a once-great investment turns into a mess on someone else’s watch.”

We as investors cant control the directions of the market or any individual company; however we can control the amount of risk we are taking.  So, take a look at your next 401(k) statement and make sure you aren’t taking any unnecessary risks.  The future “retired you” will thank you for it!

The Wall Street Journal recently published a great article called “Five Big Retirement Mistakes”.  The top mistake listed was not paying for financial guidance.

“People who have no problem paying for the services of an accountant or lawyer often balk at the prospect of cutting a check to pay for investment advice. Instead, they rely on “free” help from retirement advisers they meet at banks, brokerage firms and retirement seminars.

But there is no free lunch. You might not be paying an hourly fee for financial advice, but you still are compensating the adviser. The fees are built into the investment, so people don’t realize how much they are paying and how these fees drag down investment returns.”

So as the new year begins, please make sure your financial ducks are in a row and you are not paying hidden costs for “free” financial advice!

If you have a 401(k) account, your next statement may not look much different, but it will contain some very interesting and powerful information.  During the last several years, increased focus has been given to the expenses and fees charged to retirement plan participants.  The Department of Labor (DOL) recently published regulations under the Employee Retirement Income Security Act of 1974 (ERISA), as amended recently by Congress.  The new regulations require retirement plan sponsors to disclose the fees associated with your retirement plan including all 401(k) plans. 

The retirement savings landscape has changed dramatically over the last two decades.  In 1983, 88% of workers were covered by a defined benefit pension plan.  The 401(k) was a way for an employee to save additional funds for retirement in a tax-deferred account.  When an employee retired they could maintain their living standard through a combination of fixed benefit payments from a pension and Social Security.  Any additional savings were a bonus, but typically not required to fund daily living expenses. 

Today most employers have frozen or eliminated their defined benefit (DB) pension plans in favor of a defined contribution (401(k)) plan.  Defined benefit plans are very costly for employers to manage and contribution requirements can vary widely from year to year.  In a 401(k) plan, the employers’ costs are fixed from year to year making it easier to budget.  However, there is a major downside to moving from a defined benefit plan to a 401(k) plan as the primary retirement savings plan.  Now the risk of accumulating enough assets to fund retirement has shifted from the employer (DB plans) to the employee (401(k) plans), and many employees are ill prepared to manage this risk effectively. 

401(k) Plan Costs Vary Widely
All 401(k) plans are not created equally.  Typically, large employers have better plans that include bigger matching or profit sharing contributions, better investment fund line-ups and lower overall costs.

There are 3 components of cost to a 401(k) plan:

  1. Administration/record-keeping – A firm that keeps track of each employees’ contributions and balances.
  2. Investment options – The various mutual funds that are available in the plan.
  3. Investment advisor – A firm or person who gives participants advice, reports to the employer on performance and handles employee communication/enrollment.

Often, larger employers have the resources to deliver a quality 401(k) plan and their size usually drives costs down for the participants.  Small employers who do not have human resource departments or investment committees are often at the mercy of bundled product providers that include dramatically higher costs.  In the past these costs were skillfully hidden.  The new disclosure regulations were designed to shine a light on these deceptive practices and alert the individual participant to what they actually pay for services provided.

Why Costs Matter
Costs can vary widely among plans.  For instance, the Thrift Savings Plan (a 401(k) style plan for federal workers) has rock bottom costs of about .025% per year.  I’ve seen small private employer plans with costs that exceed 2.5% per year.  Private sector employees in high cost plans are paying anywhere from 10 – 100 times the fees that others pay.  The chart below illustrates the impact of high costs on the retirement lifestyle of a person working and saving for 40 years until retirement.

Annual fees as a share of assets in percent

Expected assets accumulated
(today’s dollars)

Reduction in
assets
accumulated (percent)

Expected annual income from savings (today’s dollars)

0.5%

$423,000

$28,113

1.0%

$377,000

-11%

$25,071

1.5%

$337,000

-20%

$22,411

2.0%

$302,000

-29%

$20,084

* Example saving $5,000/year for 40 years in a retirement plan account starting at age 25 and earning a real rate of 4%. 

** Expected annual income based on ability to annuitize the total accumulated savings at age 65.

The bottom line – you can expect to give up 11% to 29% of your retirement account to Wall Street for no additional value.  In addition, mutual funds that under-perform their benchmarks could further reduce the amount you accumulate.

At Rockbridge, we have been advising employers on their retirement plans since 1993.  Just as we do for all clients, we have a relentless focus on costs and seek to eliminate all fees that do not add value.  We welcome the changes in the 401(k) marketplace and will use it as an opportunity to educate employers on the value of full fee disclosure.  If you have a 401(k) account, please take a close look at your statement arriving this month.  We would be happy to review your holdings and fees and make suggestions on ways to reduce costs in your own 401(k) plan.

Social Security planning has become an increasingly complex area of financial planning.  As more couples reach retirement age, it’s important to review all the scenarios to maximize your hard earned Social Security benefits.

Mary Beth Franklin, editor of Investment News, explains how “with the right elections, married couples can dramatically up their (Social Security) payouts.”

The strategy of filing and suspending can allow a spouse to collect some benefits immediately, while allowing future benefits to build.  “By filing and suspending, you are telling the Social Security Administration that you want to file for the purpose of triggering benefits for your spouse, but delay collecting your own until they will be worth more later.”

You can read the entire article by clicking the link below:

http://www.investmentnews.com/article/20120808/BLOG05/120809941

 

 

Professor Teresa Ghilarducci has an opinion piece in the NY Times this week lambasting our evolving approach to retirement.  She has some good points.

Our Ridiculous Approach to Retirement

By TERESA GHILARDUCCI
Published: July 21, 2012

The new 2012 Medicare & You booklets have been mailed and Medicare eligibles are receiving mailings from insurers daily about their products.  This booklet contains over 150 pages of details about Medicare and the related Medigap and  Medicare Advantage plans.

Here are some of the key things to consider when choosing coverage for 2012:

  1. Medicare Parts A & B provide basic adequate hospital and medical coverage.  There is no requirement for additional insurance.  Many people are satisfied with only Medicare A & B and no additional coverages.
  2. If you are newly eligible for Medicare, make sure you contact Social Security and discuss your options to enroll.  Medicare coverage is too important financially to pass up.
  3. Everyone’s health situation is unique, so no one plan or option “fits all”.  Choosing or rejecting additional coverage beyond Medicare depends on each person’s age, health, physicians, prescriptions, budget, etc.  A married couple might have two very different health plans because their needs dictate it.
  4. The Medigap and Medicare Advantage plans are sold by insurers.  By this I mean that an individual can’t just buy one on the internet without discussing it with a representative.  This is valuable for the consumer, because there are so many important factors to consider.
  5. Insurers are holding seminars to discuss what their products cover and what they cost.  If you have any doubts about what you need, attend one or more of these seminars and get the benefit of a large group discussion with others who may have the same questions as you.
  6. Take a friend or relative with you, someone who is familiar with your financial and/or health situations.  Two heads are better than one.

Don’t procrastinate or just assume that your current coverage is best for you.  The older we get, the less likely we are to risk a change, even though it might be a substantial financial saving.  Inertia is the easy way out, though not necessarily the best.

A few years ago, when I no longer had coverage through my employer, a friend suggested a Medicare Advantage Plan, something I had never heard of.  They said they were paying no premiums and had very good coverage.  I didn’t believe them, assuming they weren’t giving me the whole story.  My wife and I and several good friends met with their plan representative and I became convinced that this type of plan was best for me.  For various personal and health reasons it was not best for some of the others, but I switched to a Medicare Advantage Plan and still am covered with the same company, under a similar plan, pay $0.00 premiums, and am saving hundreds of dollars every year.  My wife has a slightly different plan with the same company because her health needs are different.  But her premiums, like mine, are $0.00. There are also plans that include premiums and offer a higher level of coverage on certain items.

There is a medical plan out there that is best for every situation.  You just have to find it.  I am not recommending any specific plan type or insurance company, just advising each person to do what is best for them.  In my next post I will try to be specific about what questions to ask and how to find the plan that is right for you.

Two of the biggest concerns for aging baby boomers are longevity risk (i.e., not outliving your money) and rising healthcare costs.  Social Security and Medicare are programs that we all pay into and expect to partially address these concerns.  Social Security is often a cornerstone of a well thought-out retirement plan.  It is adjusted for inflation, is tax-advantaged, will continue as long as you live and is backed by a government promise.

Social Security
Deciding when to start Social Security benefits is one of the most important decisions aging baby boomers will make.  The Social Security Administration www.ssa.gov/ has a wealth of resources available online.  And the local office representatives can provide the facts given your own personal circumstances.  However, they will not give you advice on when to start taking Social Security.  Our firm took a look at the options and summarized the information in a recent blog post on our website www.rockbridgeinvest.com/medicare-etc-cost-emphasis/.  While we are not experts on all aspects of Social Security, we can help evaluate your options and provide excellent resources to assist you with making this very important decision.

Medicare
Retiree healthcare costs are also a major growing concern for baby boomers.  Many will delay retiring to age 65 when they become eligible for Medicare health benefits.  Our resident expert, Dick Schlote, has been navigating the Medicare maze for the past few years and has agreed to write a series of blog posts on the subject.  You can find his first Medicare blog post on our website www.rockbridgeinvest.com/medicare-etc-cost-emphasis/.

Our main job at Rockbridge is to prudently manage our clients’ investment portfolios.  We also strive to expand our knowledge in other important areas of financial planning, such as Social Security and Medicare.  We continue to develop our website into an excellent resource for our clients and friends of the firm.

As retirement age approaches many questions arise about Social Security including the following:

  • Should I start drawing benefits as soon as possible or postpone?
  • If I do postpone, how long should I wait?
  • If I am married or divorced, how can that impact my decision?
  • When will I “breakeven” on my decision to postpone?

Rules of Thumb:
If you are expecting death in the near future, or do not have sufficient savings to postpone claiming Social Security, it is advised that you begin receiving Social Security at age 62, the earliest available time.

  • If you must claim benefits at age 62 but continue to work and are able to pay the money back at age 70 it will be as if you never filed for benefits and at age 70 you will receive the 8% increase that you would have received if you never filed for benefits in the first place.

OTHERWISE…

  • If you have enough saved, and are able to postpone receiving Social Security until age 70, this will result in an approximate 8% increase for every year you postpone. If you postpone until age 70 and live past the age of 80, your total gains from Social Security will be larger than if you began taking Social Security at age 62.

The decision to postpone results in several different options to maximize benefits:

  • One strategy for married couples is called the “Start-and-Suspend” strategy; this should be used if one spouse has a much larger income than the other. The first step of this process is for the spouse with the larger income to file for Social Security benefits when they reach full retirement age, age 65-67 (depending on date of birth), and then immediately suspend their benefits. After this is done the spouse with the smaller income can file for benefits based on their spouse’s salary, and they will receive 50% of the benefits. If the spouse with the higher salary suspends his/her benefits until age 70 they will continue to receive the 8% increase even though their spouse is receiving benefits based on their salary.
  • Another strategy for couples is claiming “spousal benefits”, which should be used when the incomes of each spouse are approximately the same. This strategy is carried out by one spouse filing for Social Security when they have reached full retirement age, age 65-67. After they have done this the other spouse can file for spousal benefits, which means they will receive 50% of the benefits from the other spouse’s income. This will allow the second spouse to continue receiving an 8% increase on their benefits while they are receiving benefits based on their spouse.
  • If you are divorced you can claim benefits on your former spouse’s earnings, as long as the marriage lasted 10 years or more. However, if you remarry before age 60 you can no longer claim benefits on your former spouse, and are only eligible to claim benefits on your current spouse.

Resources:

Why would an investment advisor’s website contain a blog about Medicare?

The cost of health care is an increasingly important piece of retirement planning, and it is a shock to many who have been covered under an employer plan that is often subsidized by the employer, sometimes at 100%.  Most employers either reduce the subsidy or discontinue health coverage completely for retirees because it is too costly to continue.  This trend is sure to continue.  Costs are a combination of premiums, co-pays, and deductibles.

Those age 65 and over who are eligible for Medicare are beginning to receive mailings about Medicare Supplemental Plans and Medicare Advantage Plans because the enrollment period begins October 15 and extends to December 7 for 2012.  As usual, these mailings tend to create more confusion than clarity with their various plan costs and coverages.

There are three basic parts to Medicare:  Part A (Hospital Insurance), Part B (Medical Insurance), and Part D (Prescription Drug Coverage).

Most pay no premium for Part A Medicare (Hospital Insurance) because they paid Medicare taxes while working so, essentially, one could have some coverage and pay no premium.  This is called ”self insuring,” assuming that any health care expenses not covered under Part A would be paid from personal funds.  I don’t recommend this approach because the cost of care from a serious illness could be astronomical and devastating.

The monthly Part B premium can be anywhere from $95 to about $460 depending on income.  Lower income retirees generally pay $95 or $115.  At income levels of $85,000 ($170,000 for joint tax filers) the premium increases accordingly.  The monthly cost for a couple reaching age 65 today would be at least $230 for Parts A & B.  This would be basic coverage with co-pays, deductibles and no drug plan.

From this point it really depends on how much additional coverage is desired and the expectation of individual health care needs, i.e., how many doctor visits, how many and what kind of drugs, and overall health status.  Doctor and specialist visits can cost $100 or more.  Drugs are very expensive – mine, for example, would cost over $300 per month without drug insurance coverage.

For planning purposes, a person on Medicare can expect monthly costs (premiums, co-pays, and deductibles) of from $0 (unlikely) to over $1,000.  Without Medicare, one person could spend over $1,500 per month just on basic premiums and coverages.

My next post will discuss the Medicare Supplement and Medicare Advantage options.

I was recently challenged by an investor couple attempting to determine the amount of annual spending they can make based on their portfolio.  How, they asked, can we make a rational decision when we do not know the future return in investment markets, the future rate of inflation or their life expectancy?

My general rule of thumb has been to take no more than 4 to 5 % of the portfolio per year.  For many of my clients this translates to having an investment portfolio around $2 million in addition to social security in order to maintain the life style they are comfortable with.  A five percent withdrawal rate would be the maximum unless the time horizon is under 20 years.  For purposes of determining life expectancy, I generally use age 95 unless the client suggests otherwise.  This assumes a portfolio with a 50/50 split between stocks and bonds.

Sometimes clients prefer to use a set monthly dollar amount for a withdrawal, such as $7500 per month, and annually adjust this amount as needed to pay expenses.  This disadvantage of this approach is if financial markets decline significantly, we need reduce the monthly amount.

I have recently read an excellent article by Jaconetti and Kinniry that serves as a useful reminder of the factors to consider and how best to balance competing retirement goals.

It is important to annually review your spending strategy and your investment portfolio with your investment advisor.

 

Last year I wrote an article about where to invest in 2010 and took that opportunity to remind investors not to fall into the excitement of active management and stock trading.  Instead I cautioned them to focus on what you can control, like investment cost, risk, and asset allocation and to ignore the rest.  So did I steer readers in the right direction?  I was most confident that I had, but figured I would do some research on how one of the loudest stock trading icons had fared over the past year.

As the host of his show Mad Money, Jim Cramer is constantly on CNBC giving investment advice to listeners.  In December of 2009, he stated that 2010 was the year of active investing and in particular certain sectors had a clear advantage.  After the turmoil in 2008, he saw the financial industry as a definite opportunity in 2010 and named off several companies to buy.  Not to my surprise, half of the stocks rose in value over the year while the other half showed negative year-end returns.

Furthermore, Cramer saw an opportunity in the energy sector, specifically in the recovery of natural gas versus oil.  Here he listed over a dozen companies to invest in, with one of his favorites being a company that makes engines that run on natural gas and other alternative energies.  The total return of these stocks for the year was 11.72%, and that is before you take into consideration trading costs.  An investor in the small-cap index, Russell 2000, saw a 26.9% rate of return while taking on considerably less individual company risk.

Yet maybe 2010 was just a bad year for Cramer.  I mean he does have a show on national television so he must know what he is doing, right?  Since 2000, an objective research team from Massachusetts has tracked Cramer’s stock predictions to see how he has done.  What they found was that over those ten years only 47% of the time had Cramer beaten the benchmark return through his stock picking!  After watching his show, that seems like a lot of wasted energy to only beat benchmark returns at a rate less than that of a simple coin toss.

There is one takeaway from Cramer’s show that I do think all investors should listen to.  On more than one occasion, Cramer reminds listeners that “no one will ever care more for your money than you do” and there is so much truth in that statement.  Television ratings are the main goal of Cramer’s Mad Money series, and most investors have very different goals when it comes to their retirement accounts.  A trusted advisor will put your interests first, and by doing so, you will have a much higher likelihood of achieving a successful retirement!

One of today’s biggest challenges facing investors in retirement or in semi-retirement is obtaining enough income and growth from their portfolio to match annual expenses.  Is it possible to create a mix of steady income, upside potential and longevity protection by a blend of 80 percent bonds and 20 percent stocks?

My definition of income investing is to construct a portfolio with a heavier emphasis on income producing assets.  Ideally, the investor does not need to access principal to meet daily living expenses.  In a low rate environment, this becomes difficult without relying on high yield bonds for a significant part of the portfolio mix.  Another common approach with investors is to hold high paying dividend stocks.

An alternative investment approach is to maintain a more balanced portfolio allocation, understanding that principal will need to be accessed to meet annual expenses.  This allows for a higher equity allocation with the possibility for overall portfolio gains with stock appreciation.

The income dilemma highlights how investing is about tradeoffs between different risks.  Perhaps more analysis of risk factors and which risks to mitigate would result in portfolio allocation decisions that investors can be more comfortable with.

Some risk factors can be easily addressed—e.g. diversification and keeping fees low.  But few investors see these as important if they believe they are missing the next new investment opportunity.  I have a neighbor that claims to have recently made a lot of money investing in oil futures.  I suggested that while his gamble paid off, that this was not investing.  But he cannot see the risks inherent in this strategy, in part, because the gamble paid off. But is this any worse investment behavior then the investor who is so concerned about the next financial catastrophe that he can only purchase insured CDs?

So to meet cash needs, perhaps the investor needs to first address the risks associated with different investment strategies and understand their tolerance for various risks.

For some investors, a comfortable risk tradeoff may well be an 80/20 split between bonds and stocks.

A sense of security comes from seeing a regular monthly income from your investment portfolio.  Especially when one is retired or is dependent on investment income to meet everyday expenses.

In the investment community, bonds are considered second class citizens.  Investors are told that holding bond funds is done primarily to reduce the overall portfolio risk of owning stock funds. (You never hear it put the other way—stocks are owned to add some spice to your bond portfolio).   At parties, who ever talks about the bond market?

The following are questions I will opine about in future articles:

Is focusing on income different than investing based on asset allocation?

Does an increase in the equity portion of your investment portfolio equate to income from the fixed income portion?

What is the best way to think of stock dividends?

Other than age, when should you be 80 percent or more invested in fixed income securities?

With everyone predicting inflation around the corner, how can you be comfortable with a sizable proportion of your investment portfolio in bonds?

Why don’t more people invest more in bond funds?

What is an appropriate bond fund strategy?

When does investing in a high yield bond fund make sense?  And does this answer change if you substitute the term “junk bond fund”?

Investor inquiry—“I don’t really care about asset allocation; I just want my one million dollar portfolio to produce $4,000 of income every month.”

 

Well, why not construct a portfolio that mimics an annuity, without the costs and fees.  And returns the principal to the investor.  And earns a 5 percent return in today’s interest rate environment.  Can this be done within an acceptable risk profile?

My model portfolio could look like this:

  1. $700,000 in a high yield fund at 6.1% produces $3500 per month.
  2. $200,000 in a total bond market fund at 2.7% produces $450 per month.
  3. $100,000 in a total stock market fund with a 1.3% dividend yield produces $100 per month.

This results in a 90/10 bond/equity mix.  The bond funds each have duration of 5.0.  Most importantly, the investor can depend on a predictable monthly income stream.

Are the risks unacceptable?  Inflation would seem to be the most significant risk with a one percent increase in rates reducing the portfolio by $45,000.  Default risk is always an issue with high yield funds.

But for some investors the tradeoffs might seem acceptable.  I would argue that this is a preferable approach than to purchase an annuity producing this amount of monthly income.  This is primarily because an annuity carries such heavy fees.  I just recently talked with a neighbor who paid a 5 percent upfront fee to purchase an annuity from a well known insurance company.  Seems like a high price to pay.

By Dan Edinger

From time to time we will be sharing insights from some of the people in our network of professional advisors who assist our clients with tax advice, estate planning, and other issues.

Following is an interview with Michael J. Reilly, CPA, Partner in Charge of Tax Services at Dannible and McKee, LLP—Certified Public Accountants and Consultants.  In this interview Mike addresses some of the issues surrounding Roth IRA conversions. Read more

Meeting new people or reconnecting with acquaintances often leads to the question of where I’m working these days.  I reply, “I work for Rockbridge Investment Management, which is a ‘Registered Investment Advisor’ (RIA).”  With that response I usually get a nod and a change of subjects.  Read more