Tag: carrie schwab pomerantz
Helping Young Adults Means More Than Writing a Check

Helping Young Adults Means More Than Writing a Check

Dear Carrie, Several years ago, I loaned my then 24-year-old son money to buy a car on the condition that he pay it back in monthly installments. Because of some job problems, he wasn’t able to keep up with the payments. Now he’s back on his feet and wants to start paying me again. While I’m happy he’s being responsible, I’m hesitant to take his money. I’m more financially secure than he is, and I know there are lots of things he needs to save for. On the other hand, I don’t want to lessen his sense of responsibility or independence. Any ideas on how to handle this?

—A Reader

Dear Reader, This is a great question because so many parents of young adults are faced with a similar dilemma. As you watch your kids struggle financially, of course you want to help. To me, that’s what families are for. And once your kids are grounded and feel confident that they can take care of themselves, it’s a pleasure to help them — and can make a big difference in their lives and the lives of their own families. However, how you give the help is important.

I applaud you for offering to loan your son the money for his car, not just making it a gift. Paying for a car over time provides important financial lessons, involving saving, budgeting and working towards a specific goal. Now that your son is in a better financial position and wants to pay you back, he obviously appreciates those lessons. And, as you imply, it’s important not to do anything to take away his drive.

On the other hand, as a mother, I completely understand your desire to continue to help him. So first, let’s talk about how you might handle the payments. Then we’ll explore other positive ways to give financial help.

Be creative about a repayment plan

Since you’re uncomfortable accepting payments because your son needs the money more than you do, there are a couple ways to handle this that could work for both of you.

One idea is to set a monthly payment your son could easily afford. Accept the payments, but put half aside to help him again when he needs it. You don’t even have to tell him you’re doing this. He’ll feel the pride and confidence that comes with making good on a debt. And you’ll know that you’re actually using that money for his future benefit.

Another possibility is to strike a deal where your son divides his payment into two parts: half to you and half into his savings account or IRA. That way, he’ll be encouraged to pay his debts as well as save for his future.

By accepting some sort of payment, you’re acknowledging your son’s financial responsibility and encouraging his good habits. Refusing to accept payment might actually undermine both.

Look for other ways to help that foster growth and independence

Even if you’re in a position to help grown kids financially, I think it’s important to be selective and not just write a check. Ideally, you want to offer help that reflects your values and can have a positive impact both today and down the road. Here are three areas to consider:

—Insurance and health care costs: If a young adult doesn’t have health insurance, consider paying initial premiums on a high deductible policy. You’ll not only be helping with the monthly bills, you’ll be emphasizing the importance of having adequate coverage. Even with a high deductible policy, there still may be periodic medical expenses that need to be covered. You could offer to pick these up for a specified time period. If you make a direct payment to a healthcare provider or hospital on behalf of another person, there’s no gift tax.

—Education, both for kids and grandkids: Whether it’s an advanced degree or the need for new job skills, education is expensive. Would you be willing to cover these costs? What about paying for daycare or pre-school for the grandkids?

—Keeping a roof over their heads: Coming up with move-in costs such as first and last month’s rent plus deposit is a struggle for many young adults just getting started. Covering these costs can be an excellent opportunity to help get a young person get off the ground. When it comes to buying a first house, helping with a down payment is a positive way to offer support, whether as a gift or a loan.

Make a gift as part of estate planning

If reducing your taxable estate during your lifetime makes sense, you can gift up to $14,000 a year to an individual without incurring gift taxes ($28,000 for a married couple splitting gifts.) You might also consider gifting larger amounts to a 529 College Savings Plan—an excellent opportunity for grandparents to make a significant, targeted contribution.

There are many reasons why grown kids might need financial help — after all we live in a very expensive world — so if you can help, by all means, do it. To me, it’s an investment in the next generation. Just make sure you’re comfortable with what you’re giving and that your kids know what’s expected in return.

Carrie Schwab-Pomerantz, CERTIFIED FINANCIAL PLANNER(tm), is president of Charles Schwab Foundation and author of The Charles Schwab Guide to Finances After Fifty, available in bookstores nationwide. Read more at http://schwab.com/book. You can e-mail Carrie at askcarrie@schwab.com. This column is no substitute for an individualized recommendation, tax, legal or personalized investment advice. Where specific advice is necessary or appropriate, consult with a qualified tax advisor, CPA, financial planner or investment manager.

Photo via Images Money, Flickr  

Thinking Of Taking An Early 401(k) Withdrawal? Consider the Ultimate Cost

Thinking Of Taking An Early 401(k) Withdrawal? Consider the Ultimate Cost

Dear Carrie: If you’re younger than 59, and a half, is it possible to withdraw money from your 401(k) without having to pay it back? — A Reader

Dear Reader: The balance in your 401(k) can be a tempting source of cash when times are tough and you have no other options. Yes, it’s possible to withdraw early without having to pay it back, depending on your personal situation and your specific plan.

But being possible doesn’t necessarily mean it’s practical for your financial future — and the IRS doesn’t make it easy. There are a lot of rules and regulations. So before taking any money from your 401(k), I’d take a step back and carefully review the basics as well as the short- and long-term costs.

Basic Taxes and Penalties

First, no matter your age, all 401(k) distributions are taxed as income according to your tax bracket the year that you withdraw the money, unless you have a Roth IRA. What’s more, unless you meet specific criteria, early distributions are subject to an additional 10 percent penalty. Together, this could take a huge bite out of your distribution — not to mention your future potential retirement savings.

Criteria You Have to Meet

If your plan allows it, you may qualify for a hardship distribution as long as you prove immediate heavy financial need. The amount of a hardship distribution is limited to your own contributions to the 401(k), and possibly your employer’s contributions, but doesn’t include your income earnings or savings. The terms of proof once again depend on your plan, but in general, the IRS defines immediate and heavy financial need as:

–Medical expenses for you, your spouse or dependents.

–Costs directly related to the purchase of your principal residence — excluding mortgage payments.

–Postsecondary tuition and related educational fees, including room and board for you, your spouse or dependents.

–Payments necessary to prevent you from being foreclosed on or evicted from your principal residence.

–Funeral expenses.

–Expenses to the repair of damage to your principal residence.

What You Stand to Lose

Regardless of why you need the money, you’ll have to pay both income taxes (unless it’s a Roth IRA) and an additional 10 percent penalty. Let’s put that into real numbers. Say you want to take $20,000 from your 401(k) and you’re in the 25 percent tax bracket. Income taxes on your distribution could be $5,000. Now add the 10 percent penalty of $2,000. You could end up having to deduct about $7,000, or 35 percent, from your $20,000 distribution — a hefty price cut.

Next, figure out how much you’d lose in potential earnings over time. For example, if you had a total of $20,000 in the account, and let that money grow at a hypothetical annual interest rate of 5 percent for another 15 years, you’d have over $41,500 — more than double your money!

Finally, even if you continue to make contributions after an early distribution, annual 401(k) limits will make it hard to recoup your losses. On top of that, in certain circumstances, you’re not allowed to make additional contributions for six months after the withdrawal. That’s six months of lost savings.

This example is hypothetical in nature and not intended to represent, predict or project the performance of any specific investment. Charges, expenses and taxes that would be associated with an actual investment are not reflected.

Penalty-Free Options

There are some exceptions to these rules. For instance, if you leave or lose your job at age 55 or later, you can take a lump sum 401(k) distribution. You can also set up a payment schedule of substantially equal payments over your lifetime, which has to be a minimum of 5 years or until you reach age 59 and a half — whichever is longer. This is known as separation of service, and while both situations are penalty-free, you’d still pay income taxes.

The penalty is also waived if you become disabled: You’d pay for medical expenses exceeding 7.5 percent of your adjusted gross income. If you die, a payment is made to your beneficiary or estate. Otherwise, it would be waved if you were mandated to give your distributions to a former spouse under a qualified domestic relations order.

Another Less Costly Option — a 401k Loan

A 401(k) loan is potentially a less costly way to take some cash if your retirement plan allows it. There are no penalties or taxes, but you do have to pay interest. On the plus side, that interest will go back into your account, so in a sense you’re paying it to yourself. However, repayment schedules are strict and failure to repay may trigger penalties and taxes. Also, if you lose your job or change jobs, you’ll almost certainly have to pay back the entire loan within 60 days. If you don’t, once again you’ll likely be hit with penalties and taxes.

The Ultimate Cost

To me, taking an early distribution should be a last resort. I’d advise you to think carefully and talk to your tax advisor. Make sure you understand what a distribution would mean in terms of upfront dollars and lost opportunity for growth. While it may seem like the answer to a current financial need, you could be sacrificing your future financial security by depleting your retirement savings now. That’s the ultimate cost.

Carrie Schwab-Pomerantz, CERTIFIED FINANCIAL PLANNER(tm), is president of Charles Schwab Foundation and author of The Charles Schwab Guide to Finances After Fifty, available in bookstores nationwide. Read more at http://schwab.com/book. You can e-mail Carrie at askcarrie@schwab.com. This column is no substitute for an individualized recommendation, tax, legal or personalized investment advice. Where specific advice is necessary or appropriate, consult with a qualified tax advisor, CPA, financial planner or investment manager. To find out more about Carrie Schwab-Pomerantz and read features by other Creators Syndicate writers and cartoonists, visit the Creators Syndicate website at www.creators.com.

COPYRIGHT 2016 CHARLES SCHWAB & CO., INC. MEMBER SIPC.

DIST BY CREATORS SYNDICATE, INC. (0316-0926)

Photo: Flickr user _e.t.

Does Your Teen Need to File a Tax Return?

Does Your Teen Need to File a Tax Return?

Dear Carrie: My daughter is 16 and has her first paying job. Does she need to file a separate tax return? — A Reader

Dear Reader: Congratulations to your daughter — and to you. A first job is an important milestone for both kids and parents. It’s a step toward independence and personal responsibility for your daughter. And it’s an opportunity for you to teach her some financial realities.

Taxes are definitely a part of that financial reality. So I’ll first discuss the parameters for filing a tax return. Then I’d like to get into ways you can help your daughter learn to manage her money wisely — which, to me, is the most important lesson of all.

Basic Guidelines for Filing a Teen’s Tax Return

Whether or not your daughter needs to file a separate tax return depends on three basic factors:

–Is she considered a dependent by the IRS?

–How much income does she have?

–What type of income does she have?

The IRS considers a child to be a dependent if he or she:

–Is under 19, or under age 24 and a full-time student, or permanently disabled at any age;

–Lives with you more than 50 percent of the year

–Doesn’t provide more than half of his or her own financial support.

Next, you need to look at her income, both the amount and type.  Here’s where it gets more complicated, because there are different rules and income limits for earned income from a job, unearned income from dividends, interest or investment gains — or a combination of both

For Earned Income Only

This is pretty straightforward. A dependent who doesn’t have unearned income only has to file a separate tax return if earned income is above the standard deduction — $6,300 for 2015. So if your daughter earned less than that, she wouldn’t have to file.

But it could be a good idea to do it anyway. If her employer withheld federal income tax, she might be entitled to a refund. You don’t want her to miss out on that. Plus, it’s a good learning experience.

For Unearned Income Only

Unearned income is a different story. If a child has unearned income above $1,050 for 2015, a tax return is required. But when dealing with unearned income only, you can choose to either file a separate return for your child or include that income on your own return. One caveat: If you include it on your return, it could boost you into a higher tax bracket — and possibly higher tax rates.

For a Combination of Both

The rules change again if a dependent has both earned and unearned income.

In this case, you need to file a separate return if:

–Unearned income is more than $1,050.

–Earned income is more than $6,300.

–Combined income totals more than the larger of $1,050 or earned income (up to $5,950) plus $350.

To make this a little clearer, let’s say your daughter had $100 in interest income plus $5,000 in earned income. She wouldn’t have to file a return because both her unearned and earned incomes are below the thresholds and her total income of $5,100 is less than $5,350 (earned income plus $350). However, if she had $400 in interest income, she would have to file because her total income of $5,400 would be more than her earned income plus $350.

Now let’s say your daughter had $400 in earned income and $800 in interest income. In this case, she would have to file a return because her total income of $1200 is more than $1050.

All this can be a bit confusing, so unless your daughter’s situation is fairly straightforward, I’d talk to your tax professional. Also check out IRS Publication 929 for a thorough treatment and worksheet.

A Word on the “Kiddie Tax”

You may have heard of the Kiddie Tax, so I think that’s also worth a mention. This has to do with tax rates on unearned income.

For 2015, your child’s unearned income less than $1,050 is not taxed. Unearned income between $1,050 and $2,100 is taxed at his or her rate. Unearned income above $2,100 is taxed at the parent’s highest income tax rate. If your child has a lot of unearned income, that could be pretty significant.

Going Beyond Taxes

Whether or not your daughter files a return, I’d definitely talk to her about taxes and withholding, and have her work with you as you prepare either hers or your own return.

Then take it beyond taxes and talk about responsible money management. Now that your daughter is earning her own money, help her create a budget so she can make the most of it. For instance, what do you expect her to pay for? Clothes? Entertainment? Gas? Have her keep track of her expenses monthly (an online budget calculator can help).

Suggest that she save a certain percentage of her paycheck each month for some future goal. If she hasn’t done so already, help her open both checking and savings accounts and set up an automatic deposit from one to the other. Now that she has earned income, you might even help her open a Roth IRA.

Establishing good money habits early is incredibly important but, in general, kids don’t learn much about managing money in school. It’s up to you. So show her how you manage for both the short- and long-term. If you take it step-by-step, and include her where appropriate in your own money strategies, you’ll set her on the path to being able to not only handle her taxes, but her financial future, as well.

Carrie Schwab-Pomerantz, CERTIFIED FINANCIAL PLANNER(tm), is president of Charles Schwab Foundation and author of The Charles Schwab Guide to Finances After Fifty, available in bookstores nationwide. Read more at http://schwab.com/book. You can e-mail Carrie at askcarrie@schwab.com. This column is no substitute for an individualized recommendation, tax, legal or personalized investment advice. Where specific advice is necessary or appropriate, consult with a qualified tax advisor, CPA, financial planner or investment manager. To find out more about Carrie Schwab-Pomerantz and read features by other Creators Syndicate writers and cartoonists, visit the Creators Syndicate website at www.creators.com.

COPYRIGHT 2015 CHARLES SCHWAB & CO., INC. MEMBER SIPC.

DIST BY CREATORS SYNDICATE, INC. (0216-0833)

Photo: Flickr user Cliff

Ask Carrie: Do Asset Allocation And Diversification Still Work?

Ask Carrie: Do Asset Allocation And Diversification Still Work?

Ask Carrie: Do Asset Allocation And Diversification Still Work?

Dear Readers, Here we go again. Just when we thought we could put the worries of 2008 and its aftermath behind us, market volatility once again has individual investors spooked and wondering what to do. While every investor knows that risk comes with the territory, the recent wild gyrations are enough to make even the hardiest investors question their approach.

So it comes as no surprise that I’m getting a lot of questions about how to protect a portfolio. People understandably want to know if the standard thinking has changed, and if so, how. The good news is that even though some points of execution have been fine-tuned, the fundamental principles of asset allocation and diversification remain the best ways to control risk. Let’s take a look:

Asset Allocation and Diversification Still Best for Risk Control

Asset allocation and diversification seem pretty similar, and a lot of folks confuse the two, but they’re actually quite different. The key to creating a lower-risk portfolio is to understand that difference and how the two work together.

Asset allocation is the way you divide your money among stocks, bonds, cash and other investments. This division into the various asset classes should be based on how much risk you’re willing to take and how soon you’ll need your money. Stocks carry the highest risk, cash the lowest, and bonds/fixed income are somewhere in between. Any money you’ll need within the next three to five years should be kept in lower risk investments.

The use of asset allocation as a way to manage risk was first introduced in the 1950s as Modern Portfolio Theory. This theory basically proposed that rather than judging risk by looking at an individual investment, you need to look at how all the investments in your portfolio work together. By choosing a variety of investments that react differently to market conditions — those described as having a low correlation to each other — an investor could reduce overall risk.

Diversification takes this a step further. It spreads your money around different types of investments within each asset class. For instance, instead of one stock or bond, ideally you would have many of each. Dividing even further, you want to have different types of stocks, such as large cap, small cap and international. And within those divisions, it may be best to have stocks in different sectors (i.e., technology, healthcare, telecommunications) and different industries within the sectors. Your ultimate goal is to find investments that don’t move in lock step with one another. That way, when one investment goes through a rough patch, another will hopefully compensate.

You might say that asset allocation lays the foundation for the structure of your portfolio, and diversification fills it in. With the two working together, you have greater exposure to investments that ideally will perform differently under various markets conditions — one may go up when the other goes down — and balance your risk.

Adapting to Changing Market Realities

But we live in a far from ideal world. Since the 2008 financial crisis, there’s been a much higher correlation between asset classes. Anticipated returns from stocks and bonds are both lower. Globalization has meant that markets are more susceptible to external shocks — not only financial but also political and environmental. And investors are more wary. As a result, updated portfolio advice, while still built upon asset allocation and diversification, focuses more on downside risk with the goal of giving you the greatest return for the least risk. This means that there are some further refinements that today’s investor needs to consider.

Finding your Target Asset Mix

As I mentioned before, the appropriate basic mix of asset classes depends on your feelings about risk and how long you plan to keep your money in the market. Traditionally, an aggressive investor with a long time horizon and a high risk tolerance might have as much as 90 percent of a portfolio in stocks with 10 percent in cash; a moderate investor could have perhaps 60 percent stocks and 40 percent bonds and cash; a conservative investor could pare that back to 20 percent stocks and 80 percent bonds and cash. Of course, the more aggressive the portfolio, the greater the risk.

Those broad categories still hold, but what’s evolved is the fine-tuning possible within them. Individual investors now have access to what are considered “non-traditional” asset classes that can offer even greater diversification. These include things like real estate investment trusts, commodities (i.e., energy, agriculture, precious metals), Treasury Inflation Protected Securities and international bonds among others. These non-traditional asset classes have low correlation to traditional asset classes — they move differently in different markets –s o adding them to your portfolio can potentially lower your investment risk.

How to Stay on Top of it All

An appropriate asset allocation and a long-term view are still fundamental to mitigating risk and protecting your portfolio, but that doesn’t mean you should invest and forget.

While it’s never smart (and rarely successful) to try to time the market, you can take advantage of market opportunities or attempt to avoid risk by tactically changing your asset mix within a certain range. It’s important to note, however, that this doesn’t mean that you would move in and out of the market altogether, but rather making subtle shifts to respond to changing market conditions. For instance, if your current equity allocation is 40 percent, you may choose to underweight or overweight by a small percentage, depending on the markets. At the very least, you should be reviewing your portfolio quarterly and rebalancing yearly to stay within your target asset allocation.

There’s a lot to think about, but bottom line, yes, asset allocation and diversification are still essential for protecting your portfolio. But to make yourself feel even more secure, it would be a good idea to check in with your financial advisor and discuss adjustments you might make in light of our current financial realities.

Carrie Schwab-Pomerantz, Certified Financial Planner, is board chairwoman and president of the Charles Schwab Foundation and author of “The Charles Schwab Guide to Finances After Fifty.” Read more at http://schwab.com/book. You can email Carrie at askcarrie@schwab.com. For more updates, follow Carrie on LinkedIn and Twitter (@CarrieSchwab). This column is no substitute for individualized tax, legal or investment advice. Where specific advice is necessary or appropriate, consult with a qualified tax adviser, CPA, financial planner or investment manager.

This column is no substitute for an individualized recommendation, tax, legal or personalized investment advice. Where specific advice is necessary or appropriate, consult with a qualified tax advisor, CPA, financial planner or investment manager. Asset allocation and diversification cannot ensure a profit or eliminate the risk of investment losses. To find out more about Carrie Schwab-Pomerantz and read features by other Creators Syndicate writers and cartoonists, visit the Creators Syndicate website at Creators.com.

Photo: Traders work on the floor of the New York Stock Exchange January 20, 2016. REUTERS/Brendan McDermid