PFwise.com - Blog

Where to Find Yields - Part 4 REITs (3%-6%)

6/6/2020

In last blogpost, we discussed investment grade bonds, now we will take a look at REITs.

4. REITS (3% - 6%)

What are they?
REITs are hybrid securities that offer bond-like yields and stock-like appreciation potentials. REITs are designed to generate income for investors as 90% of their taxable income must be distributed each year to shareholders.

What are the risks?
REITs can be volatile, just like stocks. Many REITs are not immune from the economic ravages of a recession.

Examples

Realty Income Corp (O)
Healthcare and Technology REITs, such as Physicians Realty Trust (DOC) and Digital Realty Trust (DLR)
REITs index fund, such as Vanguard Real Estate Index (VNQ), it provides a low cost entry to a diversified portfolio of about 180 REITs.

In next blogpost, we will discuss Dividend Stocks.

Where to Find Yields - Part 3 Investment Grade Bonds (2%-3%)

6/5/2020

In last blogpost, we discussed Muni Bonds, now we will discuss Investment Grade Bonds.

3. Investment Grade Bonds (2% - 3%)

What are they?
They are investment grade bonds issued by government, agencies, and corporations.

What are the risks?
Many triple-B bonds (the lowest rung on the investment grade ladder) - especially in energy and other economy-sensitive sectors - have suffered sharp declines in value and therefore trade at high yield levels, but they may be downgraded by the rating agencies to junk status.

Examples

Index funds, such as Vanguard Intermediate-Term Corporate Bond Index (VICSX) or IShares Core US Aggregate Bond (AGG).
Actively managed funds, such as Doubleline Total Return (DLTNX) and Dodge & Cox Income (DODIX).

In next blogpost, we will discuss REITs.

Where to Find Yields - Part 2 Muni Bonds (2%-3%)

6/4/2020

In last blogpost, we discussed short term savings accounts which have the lowest yields (also the safest). Now the next option.

2. Municipal Bonds (2% - 3%)

What are they?
Muni bonds are IOUs issued by state and local governments in the U.S. Their interest income is free from federal taxes, and for bonds issued in your state of residency, free from state and local taxes as well.

What are the risks?
In the rush for safe havens, investors snapped up Treasuries but not munis, Muni ETFs began trading at unprecedented discounts to their NAVs.

The longer the pandemic drags on and the deeper the recession, the more financial stress the state and local governments will feel, and munis from some sectors will be impacted.

Look for the muni bonds' durations. For example, if a bond fund's average duration is 5, it means if interest rates were to rise by 1%, its value would decrease by 5%.

Examples
National muni funds such as Fidelity Intermediate Municipal Income (FLTMX) and Vanguard Intermediate-Term Tax-Exempt Bond (VWITX).

In next blogpost, we will discuss Investment Grade Bonds.

Where to Find Yields - Part 1 Short Term Savings (0%-2%)

6/3/2020

We will use several blogposts to show you a complete picture of the various investment / savings tools where you can find yields (ranked from low to high), and their risks. Depending on your risk tolerance level and your needs for cash, you can determine the appropriate tools that fit your needs.

1. Short-Term Savings Accounts (0%-2%)

What are they?
CDs, bank savings, and money market accounts

What are the risks?
There are questions about whether uninsured money market mutual funds can maintain their $1-a-share value, thus, explicit federal government guarantees, such as on government securities and FDIC-insured accounts and CDs are more valuable. Also, if inflation rate is above interest rate, your money's purchase power will diminish.

Examples
a. Online bank saving accounts usually offer higher rates
b. IShares Short Treasury Bond (SHV)
c. T-bills from government directly: treasurydirect.gov
d. Money market accounts

In next blogpost, we will show you Municipal Bonds which will offer slightly higher yields.

How Different Investment Assets' Risks and Returns Compare

6/2/2020

With interest rates at historic lows and some companies reducing or eliminating dividends, it's a challenging time for investors who seek income from their portfolios. If you want higher yield, you have to take higher risk, but sometime higher risks don't always bring higher yields. See the chart below that compares different asset classes' risks and returns.

June 2020 PFwise.com Newsletter

6/1/2020

For archived newsletters, please visit here.

What Is the Right Order to Raise Cash In Time of Emergency?

5/31/2020

Q. My emergency fund is tapped out, what's the best order for me to get more funds from my other savings?

A. If you are out of job or furloughed for a prolonged period of time or have big health care expenses, and you are cash strapped, you might be tempted to run up credit card debt, but here are other options you should explore first:

1. Home equity line of credit (HELOC)
With HELOC, you can borrow up to your limit whenever you need the money, and interest rates are low. However, with HELOC, lenders will look at your credit score, the amount of equity you have in your home, and your income. If you are unemployed, it's difficult to qualify for a loan.

2. Reverse Mortgage
If you are age 62 or older, you can turn your home equity into cash. But, unlike HELOC, you don't have to repay the loan as long as you live in your home. The most popular type of reverse mortgage is the Home Equity Conversion Mortgage (HECM), which is insured by the federal government. You can take out a reverse mortgage as a lump sum, monthly payment, or a line of credit. The line of credit may offer the most flexibility, and if you don't use it, the untapped credit line will grow as if you were paying interest on the balance.

3. Roth IRA
Roth IRA is a low cost source of funds, because you can always withdraw the amount of your contributions tax and penalty free. The money comes out first.

4. Taxable Accounts
You don't have to pay any early withdrawal penalty when you take out money here.

5. 401(k)
If you or family members are diagnosed with COVID-19 or have suffered adverse financial consequences because of the pandemic, you can borrow up to $100,000 from your 401(k). The interest rate on 401(k) loan is low and you usually have 5 years to repay the loan. If you are unable to repay the loan within the repayment period, it will be treated as a distribution which means you will owe tax and if you are younger than 59.5, penalty on any unpaid balance.

6. Life Insurance Cash Value
A permanent life insurance policy has two components: the death benefit and cash value. Cash value is a tax-advantaged savings account funded by a portion of your premiums. You can withdraw your basis in cash value account tax free. You can also borrow against your policy, you will pay from 6% to 8%, depending on market rates and whether the loan is fixed or variable, if you don't repay the loan, or pay back only part of it, the balance will be deducted from your death benefit when you die.

7. Retirement Savings Account Withdrawal
Withdrawal from your 401(k) or Traditional IRA should be the last resort, because you must pay tax and early withdrawal penalty if you are younger than 59.5 (or 55 if you leave your job and take a withdrawal from your 401(k) account). The stimulus package in 2020 now allows you to withdraw money from your traditional IRA or employer-provided retirement plan without paying the 10% penalty. You will still owe tax on the money, but the law allows you to spread the tax bill over 3 years.

8. HSA Account
You can use money in your HSA for a variety of medical expenses that are not covered by insurance. If you lose your job, you can use money from HSA to pay premiums under COBRA.

9. 529 Account
The penalty for withdrawals from 529 plans are not as severe as they are for other tax-advantaged accounts. The earnings will be taxed, plus 10% penalty on the earings.

What To Do With Your Investment Portfolio With Economy in Recession?

5/30/2020

Q. With economy in recession, how should I adjust my investment portfolio?

A. The U.S. and most of the world's economies are in recession. You should consider the following:

Uncertainty and volatility are likely to remain high—a more cautious near-term portfolio tilt, without any significant asset class tilt, may be warranted.
More defensive assets such as high-quality bonds and non-cyclical equity sectors tend to do better during economic contractions.
The end of the business cycle, the recession phase, often provides investment opportunities for long-term investors.

How to Read A Public Company's Annual Reports

5/29/2020

Q. What to pay attention to when reading a company's annual report?

A. All public companies must file form 10-K, the annual report with the SEC.

Where to find 10-K?
You can find a firm's latest 10-K at its investor relations section of the company website. You can also search the SEC's Edgar database.

The following sections within 10-K are where you need to pay special attention to:

Business
This section provides an overview of the company, it will tell you what the company does, how it makes money, who are its competitors, and where it stands in its industry.

Risk Factors
The company must describe any issue that could adversely affect its business. Look for unusual ones, such as a single product or customer accounting for a big share of business.

Selected Financial Data
This table of key performance data - total revenue and net profit, among other figures - in each of the past 5 years shows the firm's sales and earnings trends.

Management's Discussion and Analysis
This section highlights business results over the past year compared with the previous one. The writing can be dry, but look for important information and analysis here.

Financial Statements
The auditor's report is a declaration from an accounting firm that the 10-K fairly presents the company's current financial position. "Critical Audit Matters" could point to potential problems.

The Income Statement is a report of sales, expenses, and profits in each of the past 3 years. Look for a rising trend and focus on net earnings rather than earnings per share, in part because share buybacks.

The Balance Sheet is a snapshot of the company's financial health. It shows the firm's assets and liabilities. Look for if retained earnings rising steadily or the trend of long term debt. Good companies generate enough profits per year to cover their long term debt within 3 to 5 years.

Passive Real Estate Investment Options

5/28/2020

Q. Other than REITs, are there any other passive real estate investment options?

A. Yes, for investors who don't want to deal with the headaches of being a landlord, other than REITs, fractional real estate investment could be an option. We will analyze its pros and cons below.

What is Fractional Real Estate Investment?
There are online companies that do the research, crunch the numbers, and hook you up with a property manager, then these companies covert real estate from an active investment to a passive investment and you can own a fraction of the properties.

Which Companies Offer Fractional Real Estate?
There are quite a few players, to name some below:

HomeUnion
Roofstock
Compound
RealtyMogul
Fundrise
Sharestates
YieldStreet

Pros of Fractional Real Estate

You are in real estate investment but without the headaches of the landlords, you may have cash flow and appreciation
You can invest in both commercial and residential real estate
You can invest in targeted markets of your likes
You can even do 1031 exchanges thru DST (Delaware Statutory Trust) which is different from REITs, with DST, you can garner the tax benefits of direct real estate investments: write off through deductions for interest and depreciation (REITs cannot)

Cons of Fractional Real Estate

Lack of liquidity: there is no market if you want to be out of it
You pay a premium for the access and convenience which could hurt your bottom line
You take the market risk and pay income taxes on dividends and capital gains taxes when a property sells

ETF 101 - How to Use ETFs

5/27/2020

In last blogpost, we discuss the cons of using ETFs, now let's discuss how you should use ETFs.

First, determine if ETFs are right for you or not
Are ETFs right for you? That will depend on your goals, level of investing experience, and investing style. Also, with so many choices, it’s critical to determine which type of ETF best fits your overall strategy.

For Young Investors
Are you getting started with investing? Having an appropriate mix of investments—also known as asset allocation—can be a critical factor in the overall performance of your portfolio. How you determine your asset allocation depends largely on your comfort with risk and the time frame for your investments. Generally, the younger you are, the more risk you can afford to take with your investments. As you get older, you may be less interested in growth and more interested in protecting the value of your portfolio. Once you determine the right mix of stocks, bonds, and cash, identifying which ETFs to buy to build a well-diversified portfolio can be straightforward.

Use ETFs to fill some gaps
Are you looking to fill some gaps in your portfolio? Even if your basic asset allocation is well structured, you may have some gaps you’d like to fill. Perhaps you want exposure to some extended asset classes, such as commodities or REITs. An ETF can be a cost-effective solution that helps you target and diversify within a particular part of the market.

Use ETFs for short term trading
Are you confident about your market outlook? If you have a strong conviction on a specific style—growth or value—or sector of the market and you want to make a tactical investment with a small portion of your portfolio, an ETF can be a useful investment tool. ETFs enable you to get in and out of the market intraday. Some short-term traders employ sophisticated charting techniques to determine when to buy and sell an ETF. While this isn't a suitable investment strategy for long-term investors, it demonstrates another way ETFs can be used in the market.

ETF 101 - Cons of Using ETFs

5/26/2020

We discussed the pros of using ETFs, how about the cons of using ETFs? For all the advantages of ETFs, there are shortcomings as well.

Can't Outperform the Benchmark
As with index mutual funds, index-based ETFs do not attempt to outperform their benchmark index. That’s the potential upside of actively managed funds or ETFs—and why investors may be willing to pay more for these instruments.

Leveraged and Inverse ETFs
Leveraged and inverse ETFs are not designed for buy-and-hold investors who are trying to track an index over a long period of time. Rather, these investments are intended for very aggressive, sophisticated investors who actively manage their investments daily. Because of compounding, leveraged and inverse ETFs are not likely to track the performance of a benchmark index over extended periods. Therefore, holding them long term may entail considerable and unnecessary risk.

"Costs" Using ETFs
Finally, with the tremendous growth associated with ETFs, you should know there are “costs” associated with the benefits of ETFs. Before you invest, do your due diligence to understand the structure of the ETF and its associated risks and tax implications. Many investors may not be aware that some products commonly referred to as ETFs are not funds at all. An example of this is exchange-traded notes, or ETNs. These products have counterparty risk because they are notes or structured debt, while others are set up as partnerships, which can mean greater tax complexity such as filing multiple state tax returns.

In next blogpost, we will discuss how do you use ETFs.

ETF 101 - 5 Pros of Using ETFs - Part B

5/25/2020

In last blogpost, we discussed first 2 advantages of ETFs, now the next 3 pros of ETFs.

3. Easy to trade
While you typically must wait until the end of the day for your mutual fund trade to be completed, you can trade ETFs any time during the day. That can be an advantage, particularly in fast-moving markets. Also, you can set stop, limit, and other order types with ETFs, just as with stocks. This can help you purchase an ETF at or near your desired price, or help limit your downside risk if the market moves against you. Finally, apart from a single share purchase, ETFs have no investment minimums.

Caveat
While mutual funds trade at their net asset value, ETFs can trade above or below the NAV of the underlying portfolio of securities. When markets are functioning normally, or if the ETF is composed of highly liquid securities, the ETF should trade at a market price at or near the NAV of the underlying securities. However, at other times, such as during periods of market turmoil, or if an ETF is composed of less liquid securities, premiums and discounts can develop.

One way to understand whether an ETF is accurately valued against its underlying securities is to look at the intraday indicative value (IIV) for the ETF. The IIV is designed to give investors a sense of the relationship between a basket of securities that are representative of those owned in the ETF and the share price of the ETF on an intraday basis. The IIV is updated by the listing exchange every 15 seconds and provides the investor a way to compare the market price with the ETF portfolio’s net asset value any time during market hours. Liquidity is another important factor when considering the ease of trading an ETF. Highly liquid ETFs are generally easier to buy and sell.

4. Transparency
Because many ETFs track an index, it's relatively easy to know exactly what you own. Each index-based ETF is required to publish its holdings and weightings daily. As an investor, owning an index-based ETF lets you become familiar with the positions and weights in the relevant index as well as the ETF. This can help you identify any overlap across your portfolio and provide you with timely risk measurements associated with the ETF’s holdings. Mutual funds also publish their holdings so you can identify any overlap across your portfolios, but just not as frequently. A mutual fund typically publishes its holdings every 1 to 3 months, depending on the fund’s investment policy.

Caveat
In general, ETFs are either index-based or actively managed ETFs. As with mutual funds, actively managed ETFs don’t seek to “track” their benchmark (they seek to outperform it). Although you will still have visibility into the actively managed ETF holdings, you will need to make sure your portfolio continues to be invested consistent with your overall risk tolerance and asset allocation strategy. Because the expense ratio is typically higher on actively managed ETFs—and expenses decrease fund returns—make sure you're getting the right level of return for the additional risk you are taking.

5. Tax efficiency
Although both ETFs and mutual funds are required to distribute capital gains annually, some ETFs may be more tax efficient than similar mutual funds. Why? As we mentioned above, ETF investors can only redeem ETF shares on an exchange and they can't redeem their shares directly with the fund. When faced with redemption requests from investors, ETF managers usually don't have to sell individual securities to meet these redemption requests. Instead, the ETFs can deliver baskets of their underlying portfolio's stocks "in-kind," rather than cash, to large investors, known as authorized participants or "APs." APs deal directly with the ETF and in this regard work like a clearinghouse, matching the shares of the underlying securities when redemptions come in with those required to meet the demand of new investors. ETF managers can use this in-kind redemption process to remove the stock shares from the portfolio with the lowest cost basis, limiting the ETF’s potential for distributing gains.

Additionally, since most ETFs closely track their underlying index, their trading activity tends to be low, as with index funds. ETFs typically generate a lower level of capital gain distributions relative to actively-managed mutual funds. Of course, tax treatment may vary based on fund structure, asset class, holding period, and other factors. Due to the varying tax treatment associated with different ETFs, it's important to understand the fund structure and associated tax treatment before investing.

Caveat
While capital gains distributions are often lower with ETFs than with similar mutual funds, that's not always the case. Also, some ETF distributions are taxable as ordinary income. So, if you're considering such income-generating ETFs, a tax-advantaged account might make sense.

In next blogpost, we will discuss the cons of ETFs.

ETF 101 - 5 Pros of Using ETFs - Part A

5/24/2020

In last blogpost, we discussed some basics of ETFs, now let's look at the 5 advantages of using ETFs.

ETFs have many appealing features for both long-term investors and short-term traders, although there are some potentially dangerous pitfalls to avoid for both investor types. Here are some of the main advantages, with a few caveats.

1. Diversification
Unlike individual stocks or bonds, many ETFs represent a basket of securities. For this reason, they can be an easy way for individual investors to build a well-balanced strategic asset allocation of stocks and bonds, as well as alternative asset classes, including commodities, real estate, and even currencies. ETFs can also be an effective way to fill a gap in a well-balanced portfolio or to make more targeted investment decisions—say, on gold, financial services stocks, or emerging market debt—without having to pick individual securities or commodities.

Caveat
Not all ETFs are successful in tracking their index (benchmark) closely. If you're using an ETF for exposure to a particular index and your ETF isn't tracking it closely, you might not be getting what you paid for. In addition, other ETFs have emerged with a narrower focus. They may give you access to varying styles, sectors, or regions, but can be limited in their diversification benefits. For example, some country-specific ETFs offer you exposure, but do so through a limited number of stocks associated with the ETF's corresponding country index.

2. Low cost
Expense ratios for many index ETFs are low compared to actively-managed mutual funds that focus on similar areas of the markets. The main cost advantage of index-based ETFs stems from the fact that they generally don’t attempt to outperform the market like actively managed funds or ETFs do. In investment terminology, index-based ETFs are all about beta (tracking the index), not alpha (outperforming the index), so fund companies don’t need to hire analysts to research the companies that are likely to outperform their indexes. Nor do ETFs have investment minimums or fees for early redemptions, although certain brokers may impose early redemption fees.

Caveat
Of course, on most ETFs you will pay a bid-ask spread (the difference in price between the market price for buying the ETF and the market price for selling the ETF), which can erode some cost advantage ETFs might have relative to mutual funds. Plus there's a trend towards more narrowly focused ETFs and actively managed ETFs, both have significantly higher expense ratios.

Last, some ETFs that hold less liquid positions can have wide bid-ask spreads, which can further add to the investment costs. In general, if you are likely to hold the ETF for only a short time, all other factors being equal, look for ETFs that have low bid-ask spreads, ideally those under 0.25% of the share price.

We will continue the discussion of next 3 pros of ETFs.

ETF 101 - What Is ETF?

5/23/2020

ETFs are baskets of securities that trade like stocks on an exchange. As with index mutual funds, many ETFs track an index, and those indexes can be very broad or extremely narrow.

But the way ETFs are priced, and bought and sold, differs from mutual funds. A mutual fund may be purchased or sold only at a price based on the net asset value (NAV) of the fund, which is typically determined once a day and is based on the closing price of all the securities in the portfolio at the end of the trading day. By contrast, you can buy and sell ETFs, like stocks listed on a stock exchange, throughout the trading day. When you want to buy or sell shares of an ETF, you'll see a bid and ask price for the shares, just like an individual stock. As with stocks, the price at which an ETF trades varies throughout the day.

With ETFs that trade frequently and track very liquid underlying securities, like the large-capitalization stocks in the S&P 500 Index, the price of the ETF and value of the securities in the fund tend to track closely. However, the price of an ETF that holds less liquid securities - like certain types of fixed income securities or stocks traded on a small foreign market that is closed during US trading hours - could vary more significantly from the NAV of the securities in the ETF. Also, most ETFs are passively managed (i.e., they attempt to track a benchmark index), while some are actively managed (i.e., they try to outperform a benchmark index).

In next blogpost, we will discuss the pros of ETF and some caveats.

Disability Insurance Policy - How to Estimate Your Income Protection

5/22/2020

Below is a worksheet that you can use to estimate your disability insurance policy income protection -

How to Evaluate an Insurance Company?

5/21/2020

A.M. Best Company | www.ambest.com | 908-439-2200

A.M. Best is the most experienced rating insurance company, having been in the business since 1906. Their Financial Strength Rating is recognized worldwide as the benchmark for assessing and comparing insurers’ financial stability. It assigns A++ through S to an insurance company.

Following is a description of what the top ratings mean:

A++ and A+ (Superior)—Assigned to companies that have, in A.M. Best’s opinion, a superior ability to meet their ongoing obligations to policyholders.
A and A- (Excellent)—Assigned to companies that have, in A.M. Best’s opinion, an excellent ability to meet their ongoing obligations to policyholders.
B++ and B+ (Good)—Assigned to companies that have, in A.M. Best’s opinion, a good ability to meet their ongoing obligations to policyholders.

Individual and Group Disability Insurance Policy Comparison

5/20/2020

If you ever wondered what are the differences between an individual disability insurance policy versus the disability insurance you have from your work, the table below compares Individual Disability Policy and Group Disability Policy -

9-Step Disability Insurance Decision Chart

5/19/2020

It's a classic catch-22: in tough economic times, you pull back on spending. But if something happens and you get sick or can't work, that's when you need financial help the most. Help that could have come from an individual disability policy.

Below is a 9-step Disability Insurance Decision Chart you can follow.

3 Financial Actions If You Are Laid Off

5/18/2020

If you are suddenly laid off, here are 3 actions you should take -

1. File for unemployment benefits.
Under the CARES Act, even if you have been furloughed rather than actually laid off, you still qualify for unemployment benefits, including an extra $600 per week through the federal government’s aid package to states. The benefit is also available to independent contractors and gig workers, but you need to file in order to start receiving the benefit. Some states have a one-week waiting period, but others have waived that. To see a list of unemployment offices for your state, go here.

2. Know the 401K options.
If you have been with your employer for any length of time, you likely have a 401(k) balance (or 403(b), if you were employed by a nonprofit, educational, or a state agency) that needs attention.

Consider the following: do you need to roll it over to an IRA? You also need to know about the special provisions in 2020, under the CARES Act, for taking a penalty-free early withdrawal. Also, 401K balances can be borrowed, and the repayment period — usually five years — has been extended for an extra year under the CARES Act. You’ll need to demonstrate that you have lost a job for a reason related to the pandemic in order to take advantage of the more lenient loan provisions. Special provisions of the CARES Act allow withdrawal of up to $100,000 or 100% of the vested amount, whichever is smaller.

3. What about health insurance?
Can you use COBRA to maintain benefits from your former employer? Or is a spouse still employed, enabling you to get coverage on the spouse’s plan? In some cases, you may need to shop for low-cost independent coverage. Losing coverage from an employer plan is a qualifying life event, allowing you to enroll in a plan even if the open enrollment period is over.

How to Use Life Insurance Instead of Stretch IRA to Transfer Wealth - Part C

5/17/2020

In last blogpost, we discussed 2 drawbacks of the 10-year rule. Now we will show why life insurance becomes a better opportunity with all the changes.

Why Life Insurance Becomes a Better Opportunity?

So what are you supposed to do with the money in that IRA?

You can still leave it to the kids or grandkids – that hasn’t changed.

All that’s changed is the vehicle for getting it to them. It’s far more efficient for you to withdraw your qualified money and buy a cash value life insurance policy. This creates an income-tax-free death benefit for the kids or grandkids, free of probate. Plus, in most states, some or all of the death benefit is protected from creditors (as long as the insured didn’t file for bankruptcy).

Another benefit?

Cash value policies with an LTC rider can act as a hedge against the need for long-term care. If you don't want to commit to buying expensive stand-alone LTC coverage, spending a fraction of that cost on an LTC rider allows you to dip into the policy's death benefit later, should you need it. Even if you prefer all that money to go to the kids, in these uncertain economic times, it never hurts to have a plan B. If you were confident about self-insuring before the COVID-19 pandemic's economic fallout, you may not feel the same way right now.

How to Use Life Insurance Instead of Stretch IRA to Transfer Wealth - Part B

5/16/2020

In last blogpost, we discussed what happened to stretch IRA. Now we will discuss the next topic.

Drawbacks of the New 10-Year Rule

So…what’s so bad about these changes? The kids or grandkids still get the money, right?

Well, yes, but many parents and grandparents would prefer their kids to wait before they access that money. Maybe they don’t want the kids getting full access until they hit a particular age – 35 instead of 18, for example. But even if the kids wanted to obey those wishes, without a stretch provision, they'll be forced to empty the account within 10 years – perhaps before they’re responsible enough to use it wisely, as the parents or grandparents intended.

And here’s another drawback.

If your heirs inherit a traditional IRA, that money hasn’t been taxed yet. When they start withdrawing money, it could have a significant impact on the amount of income tax they owe. If, for example, a grandchild is in her 40s and in her peak earning years, adding extra income via forced IRA withdrawals is probably going to bump up her tax bracket, forcing her to pay more.

Most parents and grandparents don’t want to leave behind a tax burden.

But that’s exactly what could happen with the elimination of the stretch provision.

Next blogpost, we will discuss why life insurance becomes a better opportunity with the changes.

How to Use Life Insurance Instead of Stretch IRA to Transfer Wealth - Part A

5/15/2020

What Happened to Stretch IRA?

Before the SECURE Act, people who didn’t need the money they’d saved in an IRA could leave it to their kids or grandkids. The kids or grandkids could then choose a provision called “stretch,” which allowed them to withdraw money from that IRA based on their life expectancy. In other words, they could let most of that money sit for decades, compounding tax-free.

The recent SECURE Act changed those rules, effectively eliminating the stretch IRA in all but a few special cases. Now, those kids and grandkids would need to start withdrawing money from an inherited IRA much earlier. A 10-year clock starts ticking when the account owner dies. The heirs can either: (a) take the money all in year one, (b) distribute withdrawals evenly over the next 10 years, or (c) take it all in a lump sum at the end of the 10th year. No matter which option they pick, the account needs to be emptied within 10 years of the account owner’s death.

Keep in mind that there are a few exceptions to the 10-year rule: it will not apply to spouses, minor children (until they’re of age), chronically ill or disabled beneficiaries, and beneficiaries less than 10 years younger than the deceased account owner.

Next, we will discuss the drawbacks of the new 10-year rule.

A Practical Guide on Kiddie Tax

5/14/2020

How to Determine if Kiddie Tax Applies
The kiddie tax applies to dependents under age 19 and full-time students under 24. To determine if a dependent child is subject to the kiddie tax, do the following:

Add up the child’s net earned income and net unearned income.
Then subtract the child’s standard deduction to arrive at taxable income.
The portion of taxable income consisting of net earned income is taxed at regular rates while the portion of taxable income consisting of net unearned income over $2,200 this year is taxed at the parents’ marginal federal income tax rate.

Strategy to Gifting to Children
Thus, if you have kids, tax planning would focus on keeping investment interest, dividends and capital gains below $2,200, where taxes will be low.

Once the kiddie tax no longer applies, more investment income can be taxed at lower rates. Gifting highly appreciated shares to adult children who are not subject to the kiddie tax, while staying under the $15,000 annual gift tax exclusion limit, can be a good strategy if the children are in very low income tax brackets.

2 Ways to Use Upstream Gifting to Save on Tax

5/13/2020

Aid to aging parents is termed “upstream” gifting, it usually involves making gifts to parents or adult children who are in much lower tax brackets.

There are two popular ways to do so.

1) Gift dividend-paying stocks or funds
You can gift your dividend-paying stocks or stock funds to your parents. The payouts of dividend-paying stocks usually are qualified dividends, on which you might owe 15% or 20% in tax. In the hands of taxpayers — including retirees — with 2020 taxable income up to $80,000 on a joint return ($40,000 for single filers), such income falls into a 0% tax rate. Ultimately, you might inherit them in the future with a basis step-up, effectively removing any tax on all prior appreciation.

2) Gift appreciated stocks
Another plan is to give appreciated securities to seniors, who can sell them for needed cash. Again, if taxable income is up to the amounts mentioned previously, there will 0% tax on profits treated as long-term capital gains. Helping your parents with their financing can be vital, as many retirees live on tight budgets. This creates a win-win situation and reduces taxes.

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