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How Can I Get Rich?

Hey Paul: I am 15 years old and I have one question for you – How can I get rich?

Your question is probably the first one on many people’s minds. I have two teenagers and a tweener who have not exactly gobbled up my previous columns’ advice on taxes, social security and Obamacare. But your question is one that perhaps everyone short of the Pope have pondered – Wouldn’t it be nice to have enough money to never have to wonder if you have enough money?

I came across a blog by J.D. Roth that reviewed three national best-sellers on the topic of what makes the rich different from the rest of us – other than they have more money. Roth gives summary lists of Rich Habits: The Daily Success Habits of Wealthy Individuals by Tom Corley, The Secrets of the Millionaire Mind (Think Rich to Get Rich) by T. Harv Eker and The Top Ten Distinctions between Millionaires and the Middle Class by Keith Smith.

Let me share a few of their “get rich” insights. Corley’s survey found that the rich live within their means, don’t gamble, read daily, limit screen time, network, volunteer, work hard, set goals, don’t procrastinate, listen, avoid toxic relationships, have a mentor, and make their own luck. As a young person you likely have heard many of these principles from your parents, teachers, or preacher. What I like about Corley’s findings is that they apply broadly regardless of your wealth status or goals.

Eker believes in financial blueprints that largely dictate our approach to life, which in turn drives our financial success or lack thereof. His rich versus poor contrasts sound like Donald Trump lines – Rich people think big, poor people think small; Rich people are bigger than their problems, poor people are smaller than their problems; Rich people admire other rich and successful people, poor people resent rich and successful people. I have to stop here as my blood pressure is rising. Eker evidently equates a person’s worth directly proportional to their net worth – the millionaire is a hundred times more worthy than the poor person. Young man, let me advise you to never fall into the mindset that your money measures your worth in absolute or relative terms.

Smith continues with a similar list of ten distinctions between Millionaires and the middle-class (I guess the poor have taken enough of a beating). In order of importance he states that millionaires think long-term, talk about ideas, embrace change, take calculated risks, continually learn and grow, work for profits, believe they must be generous, have multiple sources of income, focus on increasing their wealth, and ask themselves empowering questions. These ideas sound reasonable until you read the flip side – for example, the middle class thinks learning ended with school.

I don’t think these authors have it all wrong. People do sometimes get rich because they work diligently towards lofty goals and took risks that paid off financially. In his blog Roth also counters some of the authors’ suggestions mentioning that he has friends who embrace change and love learning but are not millionaires. He notes that it’s possible to be successful and poor and it’s possible to be rich and a fool.

On that note, I will play psychologist and ask what do you really want? Gobs of money and the power and toys that go with it? Financial peace? To find the balance between working to make money and the time to enjoy spending it (or giving it away)? Okay, you are 15, you want to be a multi-millionaire, live in a big house, drive a fancy car and have a beautiful wife. You want me to take a break from giving out “life-lessons” and just tell you how to become rich.

Fine. You will need to work very hard at one thing (everything else becomes a distant second). You need to dream big and wake up and work towards those dreams every day. You need to prepare to make deep sacrifices of time with family and friends.   If you are “book smart” there are well-established paths to becoming a physician or big-shot lawyer. If you are an “idea guy” then you can do everything in your power to succeed financially and you have a really low chance you’ll hit the big time. If you go into business you’ll need to be tough on suppliers and employees and ruthless with the competition.

Alright that was my over-the-top war speech of what it takes to be the best. I have been fortunate to know many wealthy people who did it “the right way”. One thing that I’ve discovered is that to a person their high net worth was not the source of their happiness. Numerous surveys have found that beyond a relatively modest level – what I would consider the low-end of middle-class – that more money had NO impact on a person’s well-being! Things like quality relationships, positive self-esteem, and spirituality factor much more powerfully into quality of life then money.

Confession time – I was probably a lot like you at your age. I too dreamed of being a self-made millionaire (I still think I have million dollar ideas). But I like many others have grown up and found terrific blessings in doing what I love doing, being around people that I love, and living for a higher purpose. Of course if you can do all that and make big money too, go for it!

Dr. Paul Hamilton is an Associate Professor of Economics at Asbury University and a CFP providing financial coaching to middle-class Americans. He is available to provide free workshops to churches, local businesses and other groups.

 Contact him at Paul.Hamilton@Asbury.edu or www.USA-Economics.com

 

 

 

 

Who Needs a Financial Advisor?

Hey Paul: We are a middle-class family with three children the oldest headed off to college next fall. We are halfway through a 30-year mortgage but otherwise do not have any debt. All our retirement savings of about $300K is in our employers’ 401(k). Do we need a financial advisor? What would be the benefits as we plan towards retirement and other life goals?

It’s a great blessing to have people in your life that you can rely on for trusted advice and accountability. The trick is, of course, how to identify those people with the skill set and character to deliver advice at a reasonable price.

The truth is that almost anyone can call himself or herself a “financial advisor”. If they provide “investment advice” then generally they need to register with the state and undergo background checks and have achieved a certification such as being a Certified Financial Planner (CFP). But that fact that a person is not a criminal and has some book knowledge of money doesn’t necessarily make them a good financial advisor.

A recent commercial (http://goo.gl/bG0tB5) features a Chase Financial Advisor visiting various retirement parties where his clients profusely thank him for making this all possible. While I am all for being grateful for those who have helped us along life’s journey, it is preposterous to claim that it was the advisor rather than the client who put in 40 years of work that is owed the lion’s share of the credit.

Perhaps the small print of the commercial should include Vanguard founder, John Bogle’s take on financial advisors:

“Our hypothetical fund investor has earned $1,170,000, donated $700,000 to the mutual fund industry, and kept the remainder of $470,000. The financial system has consumed 60% of the return, the fund investor has achieved but 40% of his earnings potential. Yet it was the investor who provided 100% of the initial capital; the industry provided none. Confronted by the issue in this way, would an intelligent investor consider this split to represent a fair shake? “ In other words your advisor brought you a bottle of wine to celebrate your retirement and drove up in the Porsche that you bought him.

Now that I have thoroughly bad-mouthed my own (side) occupation, let me provide some brighter views and various alternatives to getting good financial advice. There are several opportunities to obtain solid financial advice. For those who work in a company with a Human Resources office, some basic but very important guidance can usually be gathered on selecting a health insurance plan, flexible spending accounts, and opportunities to contribute (often with a company match) to the employer retirement account.

A second resource is your tax preparer particularly if they are a CPA. A CPA’s forte is tax planning but some have developed expertise in financial planning. Since they would be familiar with much of your finances from your tax return, turning to financial advice is a natural compliment to their services. My mother-in-law has been relying on David Hudson, CPA for many years for both tax and financial advice.

To truly receive comprehensive financial planning one must typically turn to a “financial planner” which as I mentioned earlier can mean many different things. The Hatfield and McCoy feud in financial advising is between those who are fee-based versus those who are commission based. I won’t drag you into all the gory details but much of the challenge is that people are reluctant to pay for advice but will accept a “free” financial review that almost always concludes with a sales pitch for an annuity, permanent life insurance &/or long-term care insurance. These aren’t necessarily bad financial products but often are riddled with exorbitant fees.

The fee-based financial planner is not necessarily a viable option for middle-class households. A typical comprehensive plan will run you around $2000 and for those assets they manage for you there is around a 1% annual fee. [Shameless self-promotion warning] In my own practice I charge $1000 for the plan and show the client how to manage their assets using Betterment.

Let me ask you something. When you’ve been at a restaurant and got a so-so meal did you complain to the manager? No, probably not. Your ‘problem’ is that you are too nice. And when your supposedly trusted advisor puts the hard sell on you won’t be able to say no or ask the tough questions and expect full answers.

What would be some tough questions to ask your advisor? If I invested the funds in an index fund instead of buying this financial product, what is the probability that I’d come out ahead? [No advisor will answer this. Watch out for a mildly related fact such as ‘70% of seniors rely at some point on long-term care.’] How much is your compensation for selling this product? [Could easily be more in an afternoon than you make in a month.]

Fortunately an imminent ruling by the Department of Labor is going to impose a ‘fiduciary standard’ on all financial advisors. A fiduciary is required to put the client’s interest above their own – a modern version of Love Thy Neighbor as Thyself.   The DOL fiduciary ruling will dramatically change how financial planners provide advice and sell products.

Do you need a financial advisor? You know it sounds like you’ve got some enduring financial principals figured out on your own – living within your means, avoiding debt, and working hard. My first advice would be to self-educate by reading a general book on finances as well as religiously turning to my More-Than-Money column each week. A second piece of advice is to seek out a fee-based planner and pay an hourly fee to get specific advice such as financing your child’s college education.

Dr. Paul Hamilton is an Associate Professor of Economics at Asbury University and a CFP providing financial coaching to middle-class Americans. He is available to provide free workshops to churches, local businesses and other groups.

 Contact him at Paul.Hamilton@Asbury.edu or www.USA-Economics.com

 

 

 

 

 

 

 

 

What One Economist Thinks about Obamacare

Hey Paul: I am 60 years old and just retired. I have $500K in my retirement accounts, $200K in mutual funds, and a $300K home. I know I can’t start Medicare until age 65. What should I do for the next five years to secure health insurance?

 Well typically you’d have to look into private insurance (expensive) or COBRA (expensive) or just try to stay healthy and pay out-of-pocket for medical expenses (risky). Maybe I shouldn’t be telling you this but just between you and me, Obamacare provides a great deal for people in your situation. The eligibility for health insurance premium subsidies is solely based on annual income not wealth. So someone like yourself with a net worth of $1M but without earnings, not withdrawing too much tax-deferred retirement income and not yet drawing social security benefits can be qualified for significant subsidies to your insurance.

I am starting to sound like one of those “one weird trick will save you thousands” pop-up adds but you do have to have the right mix of taxable income. If it is below 100% (or 138% in KY) of the Federal Poverty Level then you could be eligible for Medicaid. But Medicaid also has a wealth test that you miserably fail — essentially you can have a home and car but essentially no financial assets. You need to have income between 138% and 400% of the FPL to remain eligible for Obamacare subsidies.

Potentially you could use your retirement funds to hit the right taxable income and then use your mutual funds to maintain your desired standard of living. Of course the only goal in life is not to appear poor to draw government assistance so perhaps your insurance plans will necessitate looking into other options.

Hey Paul: What do you think about Obamacare?

First let me concur with Senator John McCain on his characterization of our President: “He’s a decent family man and citizen that I just happen to have disagreements with on fundamental issues. He’s not an Arab.”

On the positive side Obamacare has provided about 500,000 Kentuckians with free or heavily subsidized health insurance. There has likely been more work provided for medical professionals and their associates. I am not aware of any significant layoffs as employers couldn’t afford to pay another expensive employee benefit. This is due in part to the exemptions for small businesses to provide employer-based insurance.

On the downside I think Obamacare “worked” for two reasons. First the U.S. medical and insurance industry was and still is bloated with inefficiency and unexplainable high costs. Obamacare has soaked up some of this waste and put it towards health insurance premiums. However the health system remains on an unsustainable path. Second, as the examples in this column have illustrated, the large uptake in insurance is basically due to the huge subsidies. No company would claim success on an extraordinary give-away program.

So what’s wrong with Obamacare? Let me relate my own personal experience in taking my wife in the middle of the night to the ER for severe stomach pains. While waiting to get her admitted we sat in the lobby area. I put my hands over my face and doubled over letting out a dull grown. My wife asked me if I too was feeling sick. No, I said, I just was reacting to being in place without prices — a living hell for an economist. She felt no sympathy.

The problem with the American medical industry and the attendant insurance business is not that we need government subsidies or to allow interstate competition or anything else being put forward by our current or next President. We need to let people make decisions based on information including prices and quality of services. Our current system including Obamacare invites a “buffet strategy” with very limited incentives to economize on our use of precious resources.

About 15 years ago there was a push for high deductible (catastrophic) plans coupled with Health Saving Accounts. This was a big step in the right direction. But prices remained a mystery so the system remains broke. In the mean time, I’ve found that after a doctor’s appointment that wondering through Lowe’s observing the posted prices restores my belief in the capitalism system.

Dr. Paul Hamilton is an Associate Professor of Economics at Asbury University and a CFP providing financial coaching to middle-class Americans. He is available to provide free workshops to churches, local businesses and other groups.

 Contact him at Paul.Hamilton@Asbury.edu or www.USA-Economics.com

 

Obamacare and Taxes

Hey Paul: We are the classic American family with a nice home, two kids and a dog. We both work with a combined income of $50,000. I am self-employed and my husband works for a small business so we don’t have employer provided insurance. Are we eligible for Obamacare?

Sounds like a really nice life you’ve carved out for your family. All you need now is health insurance and maybe a boat. Yes, it appears that you meet the criteria to received subsidized health insurance through the Affordable Care Act (aka Obamacare). The main criteria are that you have a “modest” income and are not eligible for employer or government insurance such as Medicaid or Medicare. For a family of four you could make up to $95,400 in 2015 and be eligible for Obamacare. In KY Medicaid has been expanded up to 138% of the Poverty Level that for a family of four would be about $32,913.

Medicaid coverage is great as it covers essentially 100% of medical expenses – no premiums, no deductibles, no co-pays (ok, literally $1 in some cases). Well you don’t get quite that good of deal. Your annual premium is capped at 6.63% of your annual income — $3314 per year or $276 per month. The government will pay the premium difference to afford the second-lowest silver plan available in this area. This plan would cost about $7000 so the U.S. government is picking up over half the tab. If your finances are good and health is bad you could opt for a Gold Plan with lower expected out-of-pocket costs. If your finances are bad and health is good you could opt for a Bronze plan and pay only $187 per month or $2187 annually in premiums. For readers with different situations you can quickly get your numbers at http://kff.org/interactive/subsidy-calculator/

The ACA enrollment period runs through mid-November through mid-February so currently you cannot join. If you have had a significant life event – change in employment, family size or marital status then you can join outside the regular sign-up months. The penalty for not having any type of insurance including forgoing Obamacare jumps to $2085 in 2016 – just slightly less then what you pay for a Bronze plan.

Hey Paul: Our family signed up for Obamacare coverage in December. How does this impact our tax filing in April?

The Affordable Care Act (aka Obamacare) uses the filing of taxes to adjust the amount the government subsidizes your health insurance. Since you have just begun receiving assistance with your healthcare insurance costs in 2016 you shouldn’t have anything to report next month as that applies to 2015.

The vast majority of households receive direct subsidies paid to their insurance company during the year. One could opt to pay fully out-of-pocket and then be reimbursed when you file your taxes the following April. However it usually makes sense to go ahead and take the credit throughout the year and then settle at tax time.

For those who received direct subsidizes through Obamacare, their 1040 will require them to verify their family and income situation. If they ended up making a higher income &/or having a smaller family size then they will need to repay part of the insurance premium subsidy.   The maximum repayment for couples and families ranges from $600 for those under 200% of the Federal Poverty Level up to $2500 for those at 400% of the FPL. For those who ended up making more than 400% of the FPL will need to repay the full amount.

Conversely those whose income was lower than expected during the enrollment or have had an addition to the family will be able to receive a tax credit to reflect their true economic situation in the past year.

As I harp on every week in my tax series, any of the free or low-cost tax prep software will walk you through the necessary information and do the math for you!

Hey Paul: I am 24 years old and making a good income but at a small company without health insurance. What can President Obama do for me?

President Obama has a couple of good options for a young person particularly if you are in good health. First, part of Obamacare is to extend dependent coverage up to age 26. Personally I believe that if you are 26 and your Mom is still cooking dinner and doing your laundry and paying for your health insurance there are some codependency issues going on. But by law group plans have to extend this option – if your parents also agree to continue family coverage rather than move to a single or couple plan.

If you can’t get on your parents plan another good option for those under 30 is a catastrophic health insurance plan through Obamacare and the marketplace exchange. “Catastrophic” plans are insurance the way God intended them to be. They are high deductible plans with the first $6600 of expenses other than preventative care coming out-of-pocket. The upside of these plans are they offer the cheapest premiums and may motivate not over-consuming medical services and positive lifestyle changes. Obamacare Silver and Bronze plans for you would run only about $165 and $138 per month, respectively. The catastrophic plan premium will be even less and worth a look!

Dr. Paul Hamilton is an Associate Professor of Economics at Asbury University and a CFP providing financial coaching to middle-class Americans. He is available to provide free workshops to churches, local businesses and other groups.

 Contact him at Paul.Hamilton@Asbury.edu or www.USA-Economics.com

 

Prepare to Plan Your Taxes or Plan to Pay More

Hey Paul: What is the difference between “tax planning” and “tax preparation”? Are they the same thing?

These two terms are closely related and I suppose could mean the same thing to some people. For those who are procrastinating doing their taxes until April 18th could claim to be in the planning stage – collecting W2’s, charitable gift receipts, etc. But tax professionals would refer to everything you do to get your 1040 done as “tax preparation.”

Tax Planning typically refers to the development of tax saving strategies that precede the tax preparation stage. Tax planning takes place in the calendar year before taxes are settled the following mid-April — after December 31st there isn’t much you can do about last year’s finances.

The following is a list of “tax strategies” you can think about implementing this year – or perhaps serendipitously you can use for 2015 taxes if your story fits.

  • Contribute to qualified retirement accounts: By making an IRA contribution or other tax-deferred income such as to a 401(k) during the year you will delay taxing that income. For the roughly half of the U.S. households who pay no Federal income tax, contributing to a Roth IRA will result in little or no additional Federal income tax now and tax-free withdrawals in the future.
  • Cover health care expenses pre-tax: For those with employer-provided health insurance, you can pay no Federal, state, or payroll taxes on your share of the premium. Flexible Spending Accounts (FSA) have similar tax benefits and cover out-of-pocket medical expenses including dental and vision. Starting last year FSA plans have an option to rollover up to $500 of unused funds; in the past it was a use-it-or-lose-it fund. Health Savings Accounts (HSA) need to be coupled with high-deductible health insurance and are essentially a bigger version of an FSA.
  • Itemize rather than take the standard deduction: The major categories are charitable giving, taxes (property, state income or sales taxes), and mortgage interest expense. For single and married households the standard deductions are $6300 and $12,600, respectively. These are high hurdles to cross if you don’t have a mortgage. One strategy is to lump deductions into a specific year by making early property tax payments or high charitable giving.
  • Start a side business: Small business owners love their write-offs – home office space, cell phone, business related mileage, etc. Landlords are infamous for having accounting losses due to depreciation of the home while actually having a fairly profitable rental business. Put your child to work as part of the family business and they will pay no taxes on the first $6300 of their income — more importantly you turn an allowance into an earning.
  • Give money away: Giving is not only good for the spirit but also to avoid taxes. If the gift is to a qualified non-profit than it may be deductible as an itemization. Another strategy is to gift (up to $14K!) to anyone. Give away assets that have losses or small gains since you acquired them and try to leave highly appreciated assets as part of your estate when they will escape capital gains taxation. To whom should you give? One idea is to set up a Roth IRA or 529 College Savings plan for a child or grandchild. These investments grow tax-free and withdraws are tax free if used for retirement or college. You can also give directly (up to $100K!) from your tax-deferred retirement account to a charity – this escapes taxation entirely on that income.

For the rich-and-famous tricks such as characterizing business income as a capital gain that is taxed much lighter than regular income and avoids payroll taxes. This is one way Wall Street hedge fund managers and CEO’s pay less tax than their secretary. If your patriotic ties aren’t binding you could move to a foreign country – or at least shift your assets to the Cayman Islands. At some point we cross the line from tax avoidance to tax evasion!

If you missed the opportunity to purposely reorder your 2015 finances to qualify for lower taxes there still exists the opportunity to make the most of what naturally occurred last year. Here are the things you can do to be a smart tax filer:

  • File your taxes – it’s the law and you may actually get 1000’s of dollars from the IRS. In my estimation there is a much more money left on the table by those who don’t file or miss obvious tax savings compared to those who don’t file thinking they are beating the system.
  • Use low-cost tax software, free tax prep such as offered by the AARP (Mon. and Wed. mornings at the Jessamine Public Library) or a tax professional. I would highly advise against the old-school method of pencil, calculator and tax instruction booklets!
  • Take the tax credits that you qualify for – EITC, child tax credit, various college education credits, retirement contribution credits and many other tax savings are potentially there for you. Tax software or a qualified preparer will (almost) certainly catch all of these as long as they know your story.
  • Contribute up to $5500 (or $6500 if over 50) to an IRA. This will delay when the income is taxed which may be lower in retirement than in your working years. You can make an IRA contribution up to the tax deadline and have it count for 2015.

So by spending a few hours a year preparing taxes you can save a few hundred dollars in fees; By spending a few a few hours in tax planning you can potentially save much more by choosing the favorable actions and timing to minimize your tax liability.

Dr. Paul Hamilton is an Associate Professor of Economics at Asbury University and a CFP providing financial coaching to middle-class Americans. He is available to provide free workshops to churches, local businesses and other groups. Contact him at Paul.Hamilton@Asbury.edu or www.USA-Economics.com

 

Your Tax Bracket is Likely Zero

Hey Paul: My accountant told me that I’m in the 15% tax bracket. What does that mean? Am I paying 15% of my income to the IRS?

 Bracketed in Nicholasville

The concept of tax brackets doesn’t come up too often unless you are talking to your CPA, financial advisor or an economics professor. The simplest and most important thing that your tax bracket can tell you is how much tax you paid on the last dollar you made in the year. Unless you are right on the edge of a tax bracket it also tells you how much each additional dollar of income will be taxed.

In your case you paid 15% in Federal taxes on part but not all of your income.  Most of your income is untaxed or taxed at 10%. Putting all these taxes together means your average tax rate will be much less than 15%.

Putting some numbers on this will help. Suppose you are single and have gross income of $50,000. There are six general steps used in calculating the net tax liability.

Step 1: Your Gross Income of $50,000 is reduced by any “adjustments” to income. The primary one for many people is contributing to a tax-deferred 401(k) or IRA. Suppose you contributed $6000 to your 401(k) –- this will bring your Adjusted Gross Income (AGI) to $44,000.

Step 2: The Federal government does not tax the first $10,300 for singles – you are eligible for a $6300 “standard deduction” and $4000 “personal exemption.” You don’t have to do anything special to qualify for these deductions. If you do have state and property taxes, charitable gifts and mortgage interest expense that collectively exceeds $6300 you can itemize and deduct the higher amount. Assuming you just take the default deductions your “taxable income” will be $33,700.

Step 3: There are seven Federal taxes brackets ranging from 10% to 39.6%. The taxes are applied in a staircase fashion – as your annual income rises it can put you in a higher tax bracket. For Singles the first $9225 of taxable income is taxed at 10%. From $9226 up to $37,450 of taxable income is taxed at 15%. Since your taxable income is $33,700 the 15% tax rate would be applied to $24,475 of income that falls in your top tax bracket. Your tax at this stage would be about $4594.

Step 4: The Federal government subsidies many things society supposed wants more of – children, college education, green energy, etc. Credits are a terrific bonus as they are a direct dollar-for-dollar reduction in tax liability. The one catch is that many credits are “nonrefundable” – that is they can only reduce your tax liability to zero. Suppose you bought a Tesla this year and are eligible for a $7500 credit. However since your tax liability is only $4594 the credit only wipes out $4594. The good news is that you are living in America for free!

Step 5: Well almost free. The IRS makes a few adjustments such as tacking on Social Security and Medicare taxes that weren’t paid during the year. The IRS may also ding you for early (before age 59.5) retirement withdrawals and the infamous Obamacare mandated “health care individual responsibility” tax penalty.

I’ll assume none of these apply to your situation.

Step 6: Settling up – the IRS looks at what you’ve already paid in taxes you’re your pay check or estimated quarterly payments. The 1040 oddly adds in refundable credits as part of Payments. Most households overpay and look forward to a large refund upon filing their taxes. In your case let’s assume you paid $2400 in Federal taxes out of your paycheck in 2015. Since you don’t have any tax liability you can expect the tidy sum of $2400 directly deposited into your bank account.

So in what might seem like forever ago you asked what it meant to be in the 15% tax bracket. That was the highest tax rate applied to your taxable income in Step 3. However your actual net Federal tax liability is zero! In fact if you head earned $63,125 instead of $50,000 your tax liability would still be zero!

Of course there are other taxes that you’ll be paying – Social Security at 6.2% and Medicare at 1.45% of gross income. Kentucky state income tax brackets are lower than Federal rates but you’ll likely pay a few percent of your income to Frankfort. So your true “tax bracket” is more like 10% as you are hit with payroll taxes and state income taxes while keeping below the Federal government’s tax threshold.

For those who prefer to work crossword puzzles rather than solve math problems, keep in mind that several of the top tax preparation companies offer free or low cost tax software. See last week’s More-Than-Money column for more info and links.

On that note let me give a shout-out to the AARP Tax Prep team who are offering FREE tax preparation with a target audience of moderate-income, senior citizens but they will assist any age or income level. They do have limits on the complexity of the returns (e.g. no farming income or business with an inventory like MaryKay). The AARP offers tax preparation Monday and Wednesday’s from 8:30 to 11:30am at the Jessamine Public Library up to the week before this year’s tax filing deadline of April 18.

Dr. Paul Hamilton is an Associate Professor of Economics at Asbury University and a CFP providing financial coaching to middle-class Americans. He is available to provide free workshops to churches, local businesses and other groups.

 

Contact him at Paul.Hamilton@Asbury.edu or www.USA-Economics.com

 

 

The Taxman Pays People to Live in America

Hey Paul: As a single Mom of two kids and a modest income I don’t have any taxes withheld from my paycheck. I won’t receive a refund as I didn’t pay any taxes.

My total income for the year was about $22,000. Do I need to file a tax return by April 15th? If I do how much will it cost?

 Living Free in America

I’ve got good news and better news for you. The good news is that you do need to file a tax return as only those with very low incomes are exempted. Why is this good news? As former Presidential candidate, Mitt Romney, callously noted four years ago – 47% of Americans pay no Federal Income taxes. The even better news for you is that many households with modest incomes like yourself actually get paid to live in the greatest nation in the world!

What does it cost to file? More good news – FREE! That is, it won’t cost you any money to file using any of the major tax preparers’ online forms. This includes TurboTax, H&R Block, and TaxAct (the one I personally use). These three companies also offer free KY state income tax returns! For a complete list of free providers and the income limits see http://revenue.ky.gov/FFAOffers.htm

As the recent commercials by TurboTax remind us – you don’t have to be a genius to file your taxes. However you do have to take some self-initiative to become part of the DIY crowd. The first step is collecting your information – you’ll have to do this regardless of whether you DIY or have a paid tax preparer. H&R Block has a comprehensive list of forms – see goo.gl/WdAvJp. The long list can look imposing but most people have only a handful of items to collect – for workers like yourself a W2 from your employer or 1099-MISC for contract work are the most important items. You could have other items like alimony received, IRA contributions, “Obamacare” forms and perhaps a few others.

Retirees may have social security (SSA-1099), pension and retirement withdrawals (1099-R). Business owners are required to document revenues and expenses. Investors with dividends or gains or losses from sales will have various 1099 forms. If you have relatively significant mortgage interest expense and charitable gifts then you may deduct these through itemization. Sounds messy but just answer the questions the tax prep program asks!

I realize that you like many people may be apprehensive about trying to do your own taxes. I can picture my Mom working skillfully through the paper forms with pencil and calculator at the kitchen table when I was growing up. If you had to navigate today’s tax code by reading the IRS instruction booklets then I’d say pay someone to save you several hours of work and the strong likelihood you’d make an error.

However today’s online software makes it easy – if you’ve ordered a pizza from Papa John’s you can do your own taxes. Once you’ve got your information organized it will likely take less than an hour to complete the online tax forms. That may save your over $200 in having someone else do your taxes – not a bad deal for an hour’s effort.

If you truly have math or technology anxiety then there are several terrific local services that provide free tax preparation services. Check out the United Way site

http://www.unitedway.org/myfreetaxes/KDVA or call 1-855-MY-TX-HELP to see when and where free tax services are provided.

To give you an idea of how things will turn out I ran what I know about you through TaxAct and have the following positive news to report. You are entitled to Federal “refund” of a whopping $6648 and a KY tax owed of $276. The key to your federal refund is the Earned Income Tax Credit (EITC) of $4724 – the government subsidizes work rather than taxing it over a range of modest incomes. Secondly, for each child a tax credit of up to $1000 applies that is refundable as your income is high enough. These tax credits are not big secrets yet a lot of people in your situation do not file or file incorrectly and miss out on a lot of money. If you have missed out in past years it is possible to file amended returns and recoup the full tax refund due to you.

I’ll be holding tax preparation workshops at the Jessamine Public Library Saturday mornings in March at 10:40am. Bring your laptop or tablet and we’ll work through the details together.

Dr. Paul Hamilton is an Associate Professor of Economics at Asbury University and a CFP providing financial coaching to middle-class Americans. He is available to provide free workshops to churches, local businesses and other groups.

 Contact him at Paul.Hamilton@Asbury.edu or www.USA-Economics.com

 

 

When should you start Social Security?

Paul Hamilton | More Than Money | Posted: Friday, February 19, 2016 8:01 pm

Hey Paul,

When should we begin our Social Security benefits? We are a middle-income couple with about $300K in our 401(k) and IRA. We are in reasonably good health, own our home and don’t anticipate any major changes in lifestyle as we enter our retirement years.

Jack and Diane

The timing of Social Security benefits may very well be the most important financial decision you’ll make as you enter retirement. In particular, as a middle-income couple you will have the full slate of potential start ages available. In contrast, the couple that enters retirement with meager savings has no choice but to start Social Security benefits as soon as possible. Alternatively, the wealthy couple can likely opt for the longevity strategy typically involving the high-earner waiting until 70 to start benefits while the lower earner starts spousal benefits at age 66.

The spousal age difference, relative earnings and several other characteristics will matter in making the Social Security decision. I will assume that the Jack is a couple years older than Diane and that he was the sole breadwinner — a situation that is quickly evaporating in America. A typical Social Security benefit for someone who made, in today’s dollars, annual incomes in the $40K’s would be about $1,500 a month — $18,000 annually. All future benefit amounts will maintain their buying power with annual cost-of-living-adjustments.

A quick overview of your benefit options is as follows:

• As all benefits will be based on Jack’s earnings you can start your benefit as early as age 62 and take a 25 percent hit, or wait until age 70 and enjoy a 32 percent permanent bonus on your benefit.

• Diane will only have a spousal benefit which is half of Jack’s age 66 benefit — $9,000. This is reduced if she starts the spousal benefits early with an age 62 reduction of 30 percent.

Three potential strategies

The Early Money Grab Strategy. Jack starts his own benefit at age 62 with a 25 percent permanent reduction, bringing his benefits to $13,500. Diane also starts benefits at age 62 and her spousal benefit, which would have been $9,000 at age 66 but is reduced to 70 percent of the full amount by taking it four years early, is down to $5,600. The total benefit is $19,100 for the two of you. If Diane predeceases Jack then he will just keep his $13,500 own benefit. If Jack predeceases Diane then her widow benefit will be 82.5 percent of his full retirement age benefit — $14,850.

The Patience Wins the Game Strategy. This may be an unrealistic plan in that you may exhaust your entire life savings before Social Security kicks in. The attractiveness of this strategy is that it provides the largest lifetime benefits if you both or even just Diane lives into her 90s. The key steps are that Jack, as the high-earner and older spouse, will wait until age 70 to start his own benefits. This will increase his benefits by 32 percent to $23,760. What you’ve done is locked in the maximum, not only for yourself while alive, but also for your wife. Diane’s key step is to wait to age 66, when she can start her full spousal benefit of $9,000. The spousal benefit doesn’t get any larger after full retirement age so no use in delaying it any further.

The Avoid Extremes (a.k.a. Smart) Strategy. Let me suggest that you think about a compromise solution that combines some early cash flows with the longevity insurance of waiting. If Jack waits until age 66, he’ll get the full benefit of $18,000. Diane can start her full spousal benefit of $9,000 at age 66. So, combined you’ll have $27,000 from social security. When one of you passes, the surviving spouse still receives $18,000 for life.

Social Security and retirement savings

You can reasonably withdraw $8,500 annually from $150K of retirement funds and expect it to last until age 90. Combining this with Social Security benefits brings gross income up to $35,500 — not much lower then your working days earnings. I’d call that a comfortable retirement!

Social Security benefits won’t be taxed as long as your taxable withdrawals from your 401(k) and IRA are not more than $18,500 annually. As a couple, you’ll need to fully finance the first four years out of your retirement savings — this could burn through half of your $300K. But $150K in retirement savings with no debt and $27K of untaxed Social Security perpetuates a middle-income lifestyle for many retirement years.

I have only discussed one specific case here. In practice everyone has a unique life story with various marital histories, earning levels and accumulation of retirement assets. As a service to the readers of this column I have provided a free social security planning page on my website, USA-Economics.com. This planning app will allow you to better understand your own Social Security benefits similar to what I have described for Jack and Diane. No one should have to make the biggest retirement decision on his or her own.

Social Security isn’t just for seniors

Paul Hamilton | More Than Money | Posted: Thursday, February 11, 2016 6:59 pm

Hey Paul,

My parents are close to retirement and they each have a Social Security statement that gives their retirement benefits at different starting ages and shows their lifetime earnings. I don’t recall receiving anything like that. I am not thinking too much about retirement yet but should I have received a Social Security statement?

Leftout by SSA

The SSA stopped sending out annual reports to all workers about five years ago as a cost-saving measure. They still send a statement when a worker reaches 60 as that is when Social Security benefits become most relevant. However, Social Security isn’t just for old folks — it provides life and disability insurance to workers of all ages.

Fortunately, you can easily access your Social Security information online. Go to SSA.gov/MyAccount to set up access. As long as you know your name and Social Security number and can recall some personal trivia such as old addresses, lending banks, models of cars then you’ll be able to see some very interesting and important benefit information.

The chart accompanying this column shows a typical statement for a middle-class worker. Let’s suppose your report is identical. The report includes estimates of what your monthly benefit will be if you retire as early as possible at age 62, at your full retirement age of 67, and the latest age of 70 to begin benefits. This worker earned $47,423 last year but his retirement benefit at age 67 is predicted to be $1,680 monthly — $20,160 annually in today’s dollars. The projected benefits are based on your earnings history and then assumes you earn your past year’s income up to the start of your Social Security benefits. A lot can happen both to your actual earnings, as well as Social Security policy, in the few decades before you retire so don’t put too much weight on these retirement benefit projections.

More pertinent to your situation are the life and disability benefits. The core benefits are all roughly the same whether it turns out to be retirement, survivor or disability benefits — $1,680 if you make it to 67, $1,569 if your spouse makes it to 67 without you, and $1,527 if you become disabled this year. The SSA doesn’t track your family structure so the report will estimate family benefits under the assumption that you have a spouse and minor children.

I don’t like to bring up to people the possibility of their early departure from this world, but it may be of some comfort that your spouse could receive $1,176 in mother benefits while she has one or more children under 16. Additionally each child under 18 (or 19 and still in high school) can receive $1,176 — this is 75 percent of the full widow benefit of $1,569. Your family maximum benefit is $2,908 so if you have a surviving spouse and two minor children then each benefit will be reduced to remain at the benefit cap.

So, the next question to ask yourself is whether $2,908 along with your wife’s earnings, assets and life insurance proceeds are enough to sustain her while the kids are still around. Once the kids age out of Social Security, she will not receive any benefits again until early widow benefits kick in at age 60 at the earliest. In this case she will only receive $1,122 –- 71.5 percent of the widow benefit of $1,569 if she had waited to start benefits at age 67. Of course, she may have her own Social Security benefits that are larger or remarry.

Enough about a world with you. The next scenario may be equally sobering: Your health deteriorates to the point where you “can no longer perform any substantial work.” Social Security disability is more restrictive than most private disability insurance. If you qualify as a disabled worker you are entitled to a benefit of $1,527. Your wife and any minor children are entitled to 50 percent of this amount but only up to a family maximum of at most 150 percent of your benefit. Thus the highest monthly disability check your family could receive is $2,290.

In summary, it is well worth obtaining and looking over your Social Security statement even at younger ages to see what level of life and disability insurance would be available.

Hey Paul,

My husband and I are both in our early 30’s with two children ages 5 and 8. I have worked part-time since our first child was born. My husband had worked in construction but for the last few years has worked at a factory. We are both relatively healthy as are our children. A friend mentioned they had bought disability insurance through an insurance agent. Should we have disability insurance?

Young and Invincible

The decision to purchase disability insurance is complicated by the unpredictable onset and different forms disability can take. Even at your peak health years there is the possibility an accident or chronic illness will limit your ability to work.

This reminds me of a story of a professor who apparently had a stroke while teaching class. A student quickly called 911 reporting that the prof was hunched over and mumbling incomprehensibly. The ambulance arrived but emergency personnel were not given a room number. The EMS team ended up taking out five other professors on gurneys before they got the right professor.

OK, I made up this story but the moral is that if your work requires your full mental or physical abilities then acquiring disability insurance should be given strong consideration.

The SSA reports that about 30 percent of workers qualify for Social Security benefits at some point in their working years. This is astonishing given that the SSA definition of disability includes “the inability to engage in any Substantial Gainful Activity,” which is any job with $1,130 in monthly earnings. So a middle-income teacher or high-income lawyers are not eligible for Social Security disability if they can perform a minimum-wage job.

Based on what you have told me, both you and your husband would likely be eligible for Social Security disability benefits if you meet certain criteria — have earned income at least half the time since age 21 and in five of the last ten years. Earning only $5,040 in the 2016 calendar year qualifies you for a full year of work credits.

The first thing to do is to check what level of Social Security disability you may be eligible for if you become disabled. Reliable estimates of this can be retrieved online from the SSA but need some clarifications. Importantly, Social Security disability covers only major disabilities where the worker can no longer “perform any substantial work;” this is in contrast to most private disability policies that cover “own occupation.” For example, if your husband could no longer do construction work but could still work at a minimum-wage job, then Social Security disability would not kick in.

Social Security disability essentially allows the worker to retire and provides a benefit comparable to if they had worked up to their retirement age. In addition, a spouse and minor children receive up to 50 percent of the worker’s benefit. However, the total family benefits are usually capped at 150 percent of the worker benefit. The average worker’s Social Security benefit is about 40 percent of their average earnings, so the family maximum benefit would only replace about 60 percent of the worker’s income. Where does the other 40 percent come from?

If there were a group disability plan through your husband’s work, I would give that strong consideration. For one thing, there is likely no medical exam required. Secondly, the benefits are tailored to the types of disability that commonly disrupt this type of work. Like any insurance it is not an investment — you are likely to not need the benefits, but if needed, the benefits are a lifesaver.

I would prioritize other items such as term life insurance and saving for retirement above the need for disability insurance. If your budget can accommodate a couple of hundred dollars each month to purchase private disability insurance to supplement Social Security disability benefits, then give it serious consideration. Not all of us are profs that can lecture incoherently until retirement.