All Posts by Chris Chen CFP

Follow

About the Author

Chris Chen CFP CDFA is a Wealth Strategist with Insight Financial Strategists LLC in the Boston area. He specializes in retirement planning and divorce financial planning

Sep 03

Roth 401(k) or not Roth 401(k)?

By Chris Chen CFP | Financial Planning , Investment Planning , Retirement Planning , Tax Planning

Roth 401k or not Roth 401k?

Which is better, more money in your paycheck or more tax-free cash in your retirement? It’s an important question only you can answer. 

According to a 2017 research paper at Harvard Business School, employees who have the option to contribute to a Roth 401(k) instead of a traditional 401(k) tend to contribute the same amount to either account. Given that a Roth 401k tends to result in more money taken out of your paycheck every week or month than a traditional 401k, that’s unexpected!  

Traditional 401k contributions are made on a pre-tax basis while Roth 401k contributions are made post-tax . So, assuming a given level of cash flow available, most of the time contributions to a traditional 401k will be easier than contributions to a Roth 401k because traditional plans drive your annual taxable income lower. You’ll still have to pay taxes on the contributions later when you retire. but the “taxable event” is deferred.

Take the case of Priya, a 49-year-old single mom. She makes $135,000 a year and lives alone with her son.  Not counting her employer’s match, Priya saves $350 per pay period in her traditional 401k, totaling $9,100 a year.  Absent other considerations, her $9,100 contribution reduces her annual taxable income from $135,000 to $125,900.  As a result, since her taxable income is less, she will pay less income taxes.

Roth 401ks and Roth IRAs are not tax-free: they are merely taxed differently

What if Priya were to switch her contributions to her company’s Roth 401k? She is considering contributing the same amount: $9,100. However, because contributions to a Roth are post-tax , they would no longer reduce Priya’s taxable income.  Thus, she would pay taxes on $135,000 instead of $125,900.  Hence Priya would end up owing more taxes for the year.

No brainer for the traditional 401k, right? Wrong. Roth 401ks provide one major advantage. If Priva switched to the Roth and maintained her contribution level, she might end up with more income in retirement as Roth 401k distributions in retirement are tax-free , whereas traditional 401k distributions are taxed as income .  However, switching her contribution to the Roth would be at the expense of her current cash flow.  Can Priya afford it?

What if she would reduce her Roth contribution to keep her current cash flow constant? In that case, it is not clear that Priya’s after-tax income in retirement would be higher or lower with a Roth 401k than with a traditional 401k. Answers would require further analysis of her situation.

It’s important to remember that Roth 401ks and Roth IRAs are not tax-free: they are merely taxed differently . That makes the decision to invest in a Traditional or a Roth 401k is an important financial planning decision :  employees need to understand the benefits and drawbacks of both approaches to make an informed decision that balances current spending desires with future income needs.

According to John Beshears, the lead author of the Harvard study, one possible explanation for his finding is that people are confused about the tax properties of the Roth . Another possibility could be that people have greater budget flexibility than they give themselves credit for. Either way, employees should seek additional support before making this very important decision.

 

A prior version of this article appeared in Kiplinger and Nasdaq.com
 

Feb 07

5th Annual Symposium

By Chris Chen CFP | Financial Planning

5th Annual Symposium

Oakley CCThe 5th Annual Symposium on Divorce Financial Issues will be held on Friday March 24, 2017 at the Oakley Country Club in Watertown, MA. The Symposium provides a full day devoted to Financial Issues for Divorce Professionals such as therapists, coaches, mediators and lawyers.

This year, the Symposium is a fundraiser in support of the Community Dispute Settlement Center (CDSC), a 501(c)(3) not for profit mediation and training center dedicated to providing an alternative and affordable forum for resolving conflict. Part of the registration fee will be donated to CDSC.

The Symposium is offered by Insight Financial Strategists LLC, a Registered Investment Advisor with a focus and expertise in Divorce Financial Planning , in conjunction with the speakers and their respective firms.

This year’s presenters include

Ross Grifkin, a banker in Waltham, MA: buying out a small business in a divorce.

Kim Whelan a mediator in Newton, MA: tricks and traps of the middle income divorce.

David Kellem a lawyer and mediator in Hingham, MA: the post divorce budget and how it impacts divorce settlements and negotiation

Bill Coyne, a lawyer in Newton, MA: divorce as your last estate plan

Chris Chen, a financial planner in Waltham: divorce and disability insurance

The Symposium will be held at the Oakley Country Club in Watertown, MA on Friday March 24 from 8:30 to 4:30. Continental breakfast and a buffet lunch will be served. The cost of the Symposium is $195. Use code EARLY75 for a $75 early bird discount valid until March 5, 2017. Please register here

We look forward to see you there!

 

 

Jan 30

Politics and Economics

By Chris Chen CFP | Financial Planning , Retirement Planning

Politics and Economics

 

Frankfurt am Main, Skulptur "Bulle & Bär"We started the year in the middle of a correction, as the S&P500 lost 13.3% between November 4, 2015 and February 11, 2016.

However, supported by a slow but continuing economic recovery, rising corporate profits and low interest rates, 2016 ended up being a pretty good year for the financial markets with the S&P500 rising 11.96%.

Concerns over China, falling oil prices, surging junk bond yields, recession fears, the rising dollar, Brexit, a four-quarter profit recession, a contentious U.S. election, weakness in U.S. manufacturing, and eurozone banking worries all conspired against bullish sentiment during various times of the year.

While the pundits credited a solid market prior to the election to the expectation that Clinton would win, we were surprised by the reaction to Trump’s win and the consequent exuberant market rally. Most of the year’s gains happened in the fourth quarter after the election.

So what about 2017?

Trump and the Republican Congress have made many promises, some of which appear to help sustain the financial markets.  In particular the move to tax reform and limit regulations will probably be implemented and  is viewed very positively by the business community.

Some proposals such as rebuilding infrastructure have the Congress and Trump at odds. Historically, infrastructure has not been a strong Republican concern. It remains to be seen whether a significant bill can pass Congress.

Some other initiatives are more problematic and could have consequences that have not yet been factored in the financial markets.  The move to limit legal immigration and the intent to expel millions of undocumented immigrants could have a ripple effect throughout the economy, including Silicon Valley and the agriculture industry.

Talking about altering trade patterns, starting with the elimination of the TPP and various noises about import tariffs goes counter to decades of bipartisan free trade efforts.  It is not clear what the net impact of these policies, which have not yet been fully defined, will have on the economy. However, restricting free trade is not a positive.

Last but not least, Republicans have a political imperative to deal with health care. Will they show the intestinal fortitude to go through with a full repeal of Obamacare, as has been talked about? A full “repeal now and replace later” could create chaos for States, employers, insurance companies, the healthcare industry, and the public. We’ll have to wait and see to evaluate the net effect.

The financial markets are demonstrating optimism in the midst of all this political turmoil, although we don’t know if the clouds on the horizon carry rain or not. Regardless the US economy is strong and resilient; it will survive our dysfunctional politics.

 

This post is extracted from our January 2017 newsletter.  Please write to let us know that you would like a copy

Jan 17

Five Common Questions About Divorce

By Chris Chen CFP | Divorce Planning , Financial Planning , Retirement Planning

divorcing-swansdivorcing-swans5 Common Questions About Retirement and Divorce

divorce and retirementRetirement accounts are often one of the major assets of divorcing couples. Analyzing and dividing retirement accounts can be fairly complex . Some of the major questions that I come across include the following:

1. Is My Retirement Account Separate Property?

People will often feel very proprietary about their retirement accounts. They will reason that because the account is in their name only, as opposed to the house which is usually in both their names, they should be able to keep those accounts. Most of the time, this is flawed reasoning. The general rule is that assets that are accumulated during marriage are considered marital assets regardless of the titling.

However, there are cases when part of a retirement plan can be considered separate. This often depends on state law, so it is best to check with a specialist before getting your hopes up.

2. Can I Divide a Retirement Account Without Triggering Taxes?

Most of us know that taking money out of a retirement account will usually trigger taxes and sometimes penalties. However, dividing retirement accounts in divorce provides an exception to that rule. You can divide most retirement accounts in divorce tax-free through a Qualified Domestic Relations Order  (QDRO). As a result of the QDRO, both spouses will now have a separate retirement account.

QDROs are used for 401(k)s, defined benefit pension plans, and other accounts that are “qualified” under ERISA . Many accounts that are not “qualified” such as 403(b)s use a “DRO” instead. The federal government uses its own procedure known as a “COAP”. Some accounts such as IRAs and Roth IRAs can be divided with a divorce agreement without requiring a QDRO.

Since there are so many different retirement accounts, the rules to divide them vary widely. Plan administrators will often recommend their own “model” QDRO. It usually makes sense to have a QDRO specialist verify that the document conforms to your interests.

3. Can I Take Money out Without Penalty?

In general, you cannot take money out of retirement accounts before 59½ years of age without triggering income taxes and a 10% penalty . It makes taking money out of retirement accounts a very expensive proposition as you may only get 60 to 70 cents for every dollar that you withdraw, depending on your tax bracket and the State that you live in.

In addition, that money that was set aside for retirement will no longer be there for that purpose. Although you might tell yourself that you will replace that money when you can, that rarely ever happens.

However, if you have no other choice, it so happens that divorce is one of the few exceptions to the penalty rule. A beneficiary of a QDRO (but not the original owner) can, pursuant to a divorce, take money out of a 401(k) without having to pay penalties. However, you will still have to pay income tax on your withdrawal. Note that this only applies to 401(k)s. It does not apply to IRAs.

4. How Do I Compare Retirement Accounts with Non-Retirement Accounts?

Most retirement accounts contain tax-deferred money. This means that when you get a distribution, it will be taxable as ordinary income. At the other end of the spectrum, if you have a cash account, it is usually all after-tax money. In between you may have annuity accounts where the gains are taxed as income, and the basis is not taxed; you may have a brokerage account where your gains may be taxed at long-term capital gains rate; or you may have employee Restricted Stock which is taxed as ordinary income. All of these accounts can be confusing.

In order to get an accurate comparable value of your various assets, you will want to adjust their value to make sure that it takes the built-in tax liability into account. Many divorce lawyers will use rules of thumb to equalize pre-tax and after-tax accounts. Rules of thumbs can be useful for back-of-the-envelopes calculations , but should not be used for divorce settlement calculations, as they are rarely correct.

What is the harm you might ask? Rules of thumb are like the time on a broken clock – occasionally correct, but usually wrong . In the best of cases, they may favor you. In the worst cases they will short change you. If the rule of thumb is suggested by your spouse’s lawyer, it will have a good chance of being the latter.

Because these calculations are not usually within a lawyer’s skill set, many lawyers and clients will use the services of a Divorce Financial Planner to get accurate calculations that can form a solid basis for negotiation and decision making. It is usually better to know than to guess .

5. Should I Request a QDRO of My Spouse’s Defined Benefit Pension?

Defined Benefit pension plans provide a right to a stream of income at retirement . Unlike 401(k)s and IRAs they are not individual accounts. They do not provide an individual statement with a balance that can be divided.

As a result, many lawyers take the path of least resistance and will want to QDRO the pension. It is usually painful to the pension beneficiary who will often feel very emotional about his or her pension. And it is not necessarily in the spouse’s interest to QDRO the pension .

A better approach is to consider the value of the defined benefit pension compared to the other retirement assets. With a pension valuation, you can judge the value of the pension relative to other assets and make better decisions on whether and how to divide it. A pension valuation will allow each party to make an informed decision and eventually provide informed consent when agreeing to a division of retirement assets.

Another key consideration is that defined benefit plans are complex. Although they have common features, they are each different from one another, and each come with specific rules. You will be well advised to read the “plan document” or have a Divorce Financial Planner read it and let you know the key provisions.

A common provision is that the benefit for the alternate payee can only start when the plan participant starts receiving benefits and must stop when the plan participant passes away. It is all good for the plan participant. But what if as a result of that, the alternate payee ends up losing his or her pension benefits too early?

Hence a key issue of valuing defined benefit plans is that a true valuation is more than just numbers. It also involves a qualitative discussion of the value of the plan, especially for the alternate payee. Some Divorce Financial Planners can handle the valuation of interests in a defined benefit plan easily and the discussion of the plan. Others will refer you to a specialist.

The Bottom Line

Retirement plans are more complex than most divorcing couples expect . Unlike cash accounts they do not lend themselves to a quick asset division decision.  The short and long-term consequences of a sub-optimal decision can be far reaching. It will be worth your while to do a thorough analysis before accepting any retirement asset division.

 

 

A previous version of this post was published in Investopedia

Aug 25

Is Your Portfolio Diversified?

By Chris Chen CFP | Financial Planning , Investment Planning

Is Your Portfolio Really Diversified?

Diversification is simple to understand. In the context of managing your portfolio, diversification is (simply) about investing in diverse securities so as to lower the risk of the portfolio. Ever since markowitzNobel Prize winner Harry Markowitz wrote his seminal paper “Portfolio Selection” in 1952, finance professionals (and increasingly lay people) have understood that the true risk of an asset is its contribution to the risk of a portfolio.

In a recent survey run by Insight Financial Strategists, according to 41% of respondents a single mutual fund is sufficient diversification . After all, even the most concentrated mutual fund typically has several dozen stocks. However, many mutual funds diversify within a single asset class in a single country, such as, large-company stocks in the U.S.

Others will concentrate their portfolio on a few securities, sometimes with very unfortunate results. For instance, between September 1, 2015, until November 17, 2015, the Sequoia fund (symbol SEQUX) lost 26.3% of its value largely due to its high concentration in a single stock, Valeant (VRX). Looking at the price evolution of VRX below (source: Google), and knowing that SEQUX had more than 30% invested in VRX, it is not surprising that the mutual fund tumbled.

Stock price of VRX from 9/1/2015 to 12/1/2015

Price of VRX from 9/1/2015 12/31/2015

In practice, diversification is hard to implement. There are many levels of diversification. Some of them are:

  • by individual securities
  • by asset manager;
  • by asset class; and
  • by geography.

Ideally, an investor will want to diversify so that the various investments are not correlated with one another, have low correlation or even have negative correlation. For instance, according to data from portfolio analytics firm Kwanti, Goldman Sachs (GS) and JP Morgan (JPM) have an 89% correlation based on monthly returns. In other words, buying GS and JPM in the same portfolio only provides a low diversification value.

diversification is about investing in diverse securities so as to lower the risk of the portfolio

In another example, based on monthly returns, JPM and Walmart have a negative correlation of -0.14%, according to data from Kwanti . I don’t know that I would necessarily want to buy either JPM or WMT. However, this pair provides good diversification from one another.

Most of us end up investing in mutual funds and exchange-traded funds, not in individual securities. The same principle applies there. Having a single large cap mutual fund that tracks Standard & Poor’s 500-stock index may not be sufficient diversification.

Sure, the S&P 500 ETF provides more than one security and is, therefore, diversified. But in general, most of the securities within a single asset class will be highly correlated with one another (such as with JPM and GS). With that, you would be protecting yourself against the risk inherent in any given company in the portfolio, but not against risks inherent to the asset class or other factors.

Ideally, you would want to be diversified across asset classes, across regions of the world and across asset managers. The following jelly bean chart from Schwab demonstrates the benefits of a wide diversification program: the ranking of the assets by performance changes seemingly randomly from year to year. A fully diversified portfolio (the orange boxes in the chart) is intended to avoid the peaks and valleys of individuals asset classes while providing a more middle-of-the-road return experience.

Jelly Bean chart

Is your portfolio diversified? A detailed analysis from a fee-only Certified Financial Planner can give you the full scoop on your portfolio and provide suggestions to mitigate the risks that you are exposed to. Like any other sound advice, apply it now, not later.

 

A previous version of this post was published in Kiplinger.

Jul 19

Getting Help When You Need It Most

By Chris Chen CFP | Divorce Planning , Financial Planning

Getting help when you need it most

chess pieces divorcingWhen “Lindy” was trying to figure out the implications of the latest divorce settlement offer that she received from her soon-to-be ex-husband “Ted,” she panicked. She would have asked her lawyer for
guidance, as 79% of divorcing individuals end up doing, but she was not sure that her divorce lawyer could give her the guidance she needed .

The previous offer had come two days before their last court appearance. There was just not enough time to understand the implications of the various components of the offer and assess whether it was an equitable division of marital assets. Lindy was just too nervous to make the decision “on the steps of the courthouse”, so she said no.

Even Lindy’s lawyer was happy with the process

Clearly, there is something wrong with a process in which the financial outcome is so critical to both parties but people like Lindy and Ted get no professional financial support despite spending substantial sums of money litigating a divorce. Yet it is not surprising. The financial issues of divorce have become terribly complex ranging from shorter-term tax issues to longer-term financial planning issues.  Divorce lawyers have enough on their hands with the legal issues of divorce. Increasingly, divorce lawyers are unable to counsel their clients in depth on the financial implications of divorce , which inevitably have a lasting impact on their quality of life and stability long after the divorce itself is finalized.

According to a recent survey conducted by the Institute of Divorce Financial Analysts, 75% of respondents believe that a divorce financial specialist would have been helpful in the preparation, negotiation or recovery phases of their divorces . According to this same survey, 45% of people litigating their divorces felt unprepared to enter financial negotiations and 40% of those mediating their divorces feel the same way.

No wonder divorce financial planning has risen as a specialty. Professionals dedicated to meeting the needs of divorcing individuals can help people such as Lindy and Ted understand the financial issues of divorce, negotiate settlements and recover into a financially stable post-divorce life.

In Lindy’s case, she was fortunate to be referred to a Divorce Financial Planner by a divorce coach. Divorce Financial Planners build on financial expertise often acquired by Certified Financial Planners (CFP®) or Certified Public Accountants (CPAs). They also often hold the Certified Divorce Financial Analyst (CDFA®) designation. They excel in their ability to simplify the complex financial issues of divorce so that people like Lindy and Ted can understand the consequences of their decisions and plan accordingly for their separate futures. In addition, Divorce Financial Planners bring to the table an understanding of tax issues in divorce, employee stock options, retirement plans, pension plans, Social Security, real estate and long-term financial planning.

They help assess potential outcomes of strategies such as trading home equity for ownership of retirement accounts—is that a good idea for you for the long term?

In Lindy’s case, the new offer seemed to address her needs better. Ted offered to give Lindy more of the 401(k) in exchange for keeping his pension. In addition, Ted offered more alimony.

However, Ted’s offer was still not clear about his employee stock options, as he did not know how to value them. In addition, the offer did not address the issue of college funding for their 13 year old daughter.

Lindy’s Divorce Financial Planner carefully reviewed the settlement offer in light of her individual circumstances, explained the various issues and made recommendations for her lawyer. After some more negotiations, Lindy and Ted were able to come to an agreement and avoid a costly trial. Even Lindy’s lawyer was happy with the process , as it helped him to focus on his area of expertise: writing the agreement and managing the legal process.

A previous version of this post was published in Kiplinger

Dec 23

Interest Rates, the Economy and You

By Chris Chen CFP | Financial Planning

Interest Rates, the Economy and You

Janet Yellen official portrait

Janet Yellen, Chair of the Federal Reserve

The Federal Reserve recently announced on December 16 that it would increase the Federal Funds rates by 0.25%.  It has been 3,457 days since the Fed increased rates, with the last rate increase in 2006, or almost 9.5 years.  The Fed’s policy of ultra low rates was initiated during the Great Recession and was intended to help stimulate an economy that was reeling from the sub-prime mortgage crisi. Evidently, the Fed believes that the economy is strong enough to withstand a return to a more normal rate environment.

Most observers believe that the Federal Reserve will continue to raise rates through 2016 and 2017. Some believe that the Fed will increase rates three or four times in 2016. According to Brian Wesbury, Chief Economist at First Trust, on December 17, the federal funds future market is priced to anticipate two rate hikes next year.

Here is a guide to what it means for the rest of us:

Mortgage borrowers may consider that now may be the time to refinance , especially if you are on an Adjustable Rate Mortgage (ARM). The December 16 increase is not likely to have a very strong impact on long term interest rates, which tend to follow the 10 year Treasury rate. However future fed funds rate increases will most likely push the yield curve up, leading to more costly refinancing down the road.

the very modest increase in the Fed Funds rate will not yet trigger an increase in bank and CD rates sufficient to cause a stampede from mattresses to CDs

On the other hand, short term mortgage rates will be affected immediately thus leading to an immediate increase in ARM payments. As noted above, conventional wisdom is that rates will continue to increase , and will eventually have a substantial upward impact on traditional long term mortgage rates. Get yours while you can!

Borrowers with Home Equity Lines of Credit (HELOC) will be impacted directly by the fed funds increase with increased monthly payments which will become more painful as the Fed continues to step up rates over the next few years. If you have the income, the credit score, and the debt ratio, you may want to refinance your HELOC into a long term fixed rate mortgage. If not, make efforts to pay down your balance to keep your payments manageable!

Credit card borrowers are likely to see an increase in interest rates and payments, even though credit card interest rates are already sky high. If you can pay those credit cards down, do so . For those who use 0% credit cards to roll balances from one period to another, expect that the 0% interest rate period will shorten over time: you will have to roll over balances more often.

From an income standpoint, long suffering fixed income investors are not out of the woods yet. As the Boston Globe reported me saying in October, the very modest increase in the Fed Funds rate will not yet trigger an increase in bank and CD rates sufficient to cause a stampede from mattresses to CDs. However it is a marginal improvement, and perhaps savers will be rewarded with increased returns as rate hikes continue over the next few months and the next few years.

Investors saw the stock market close up on the day of the Fed’s announcement, with the S&P 500 closing at 2,073.07. Clearly, the market was not spooked by the modest .25% increase , or the prospect of more increases next year. This may be an opportunity to do a portfolio check and ensure that you maintain a well diversified portfolio that is adapted to your needs, risk tolerance and time horizon. In particular you will want to understand the impact that your bond allocation will have on your portfolio.
If you have not done so already, schedule a review on your debt and investment strategies with your CERTIFIED FINANCIAL PLANNER™ Professional.

 

A previous version of this post appeared in the Boston Globe’s Managing Your Money blog

Nov 23

Four Year End Financial Planning Tools

By Chris Chen CFP | Financial Planning , Investment Planning , Retirement Planning , Tax Planning

Four Year End Financial Planning Tools


Couple_sitting_at_a_kitchen_table (Rhoda Baer)As we are coming to the end of a lackluster year in the financial markets, it is time again to focus on year end financial planning before time runs out in a few weeks .

Much of year end financial planning seems to be tax related . Any tax move, however tempting, should be made with your overall long term financial and investment planning context in mind. It is important not to let the tax tail wag the financial planning dog .

Here are four key areas to focus on that will help you make the best of the rest of your year end financial planning.

you should never forget to ask why you bought that security in the first place

1) Realize your Tax Losses

At the time of this writing the Dow Jones is down 0.16% for the year and the S&P500 has been up just 1.35% for the year. There are a number of stocks and mutual funds that are down this year, some substantially, and could provide tax losses. Now may be a good time to plan tax loss harvesting. The IRS limits individual deductions due to tax losses to $3,000 . However, realized losses (i.e., stock that you sell at a loss) can be offset against realized gains (i.e. stocks that you sell at a profit), thus providing you with a great tool to rebalance your portfolio with minimal tax impact.

2) Reassess your Investment Planning

While it is important to take advantage of tax opportunities, you should never forget to ask why you bought that security in the first place . Thus tax loss harvesting opportunities can provide a great opportunity to reassess your portfolio strategy. It may have been a few years since you have set your investment strategy. Perhaps you did so when the market looked better than it does now.

As we know, it is very difficult to predict the market, especially in the short term . The last eleven months should have reminded us that bear markets happen. On average the market has been flat (so far) in 2015. Are you ready, and equally important, is your portfolio ready for a potential significant downturn? This is a good opportunity to review your portfolio’s asset allocation, and determine whether it makes sense for your situation.

3) Revisit your Retirement Planning

As you probably know retirement planning is also a little about taxes . In 2015, you may contribute  a maximum of $18,000 to a 401(k), TSP, 403(b), or 457 retirement plan . In addition, if you’re age 50 or over, you may contribute an additional $6,000 for the year. Have you contributed less than the maximum to your retirement plan? You have until December 31 to maximize your contributions to your plan , receive the benefit of reducing your 2015 taxable income, and improve your retirement planning.

The contribution limits are the same if you happen to contribute to a Roth 401(k) instead. While your contributions to the Roth 401(k) are made with after-tax income, distributions in retirement are tax-free. Consult with your Certified Financial Planner professional to determine whether a Roth plan or a traditional would work best for you.

4) Plan your charitable donations

Charitable donations can also help reduce your taxable income, as well as provide other financial planning benefits. If you have been giving cash, consider instead giving appreciated securities. You can deduct the market value of the securities at the time of donation from your current income, and legally avoid the capital gains tax that would be due if you sold the stocks and realized a gain instead. Now, who would not want an opportunity to save on taxes?

If you are retired and need to balance income with your philanthropic impulses, consider giving with a Charitable Remainder Annuity: you may be able to reduce your taxable income, secure a stream of income for the rest of your life, and do good. Check in with your Certified Financial Planner professional about opportunities that may fit your needs.  

Sep 29

Pension Division in Divorce

By Chris Chen CFP | Divorce Planning , Financial Planning , Retirement Planning

 

Pension Division in Divorce

Pension Division

Themis, Goddess of Justice

Jenni (specifics details have been changed) came to our office for post-divorce financial planning. Jenni is 60, a former stay-at-home Mom and current yoga instructor with two grown children. She never had a professional career and spent much of her adult life with a series of low-paying part-time jobs. She is thinking about retiring now and wanted to know whether she would be able to make it through retirement without running out of assets.

Jenni traded her interests in her husband’s 401(k) in exchange for the marital home, an IRA and half of a brokerage account . The lawyers agreed that the 401(k) should be discounted by 25% to take into account the fact that a 401(k) holds pretax assets.

Adjustments to the Value of a 401k

That sounds reasonable on the surface. But as a professional financial planner, I believe that it was a mistake for Jenni to agree to a 25% discount adjustment to the 401(k). After analyzing her finances, it became clear that Jenni would likely always be in a lower-than-25% federal tax bracket after retirement. Had she met a Divorce Financial Planner sooner, he or she would have likely advised against agreeing to a 25% discount to the value of the 401(k).

Jenni and Ron, her ex-husband, also agreed that she would get half of her marital interest in a defined-benefit pension from his job as a pediatrician with a large hospital.  At the time that pension division was agreed to, Ron thought that there was no value to the pension, and it was probably “not worth much anyway.” Neither lawyer disagreed.

[A Pension does] not come with a dollar balance on a statement

This underscores the importance of seeking the advice of the right divorce professional to analyze financial issues!  Working in a team with mediators and divorce lawyers, divorce financial planners usually pay for themselves .

After a little research I found that Jenni would end up receiving a little over $37,000 a year from the pension division at Ron’s retirement, assuming he is still alive then. This is far from an insignificant sum for a retiree with a projected lifestyle requirement of less than $5,000 a month!

There are also restrictions with dividing Ron’s defined-benefit pension: the ex-spouse or alternate payee (Jenni in this case) can get his or her share only when the employee takes retirement. Furthermore, the payments stop when the employee passes away. (Each defined-benefit pension has its own rules . Each defined benefit pension division should be evaluated individually ).

The Value of  Pension Division Analysis

A defined-benefit pension such as this one does not have a straightforward value in the same way as a 401(k). It does not come with a dollar balance on a statement. A pension is a promise by the employer to pay the employee a certain amount of money in retirement based on a specific formula . In order to get a value and for it to be fairly considered in the overall asset division, it needs to be valued by a professional.

In her case, Jenni’s share of the pension division was 50% of the marital portion of the defined-benefit pension. Was it the best outcome for Jenni? It is hard to re-evaluate a case after the fact. However, had she and Ron known the value of the pension, they might have decided for a different pension division that may have better served their respective interests. Jenni may have decided that she wanted more of the 401(k), and Ron may have decided that he wanted more of the pension. Or possibly Jenni may have considered taking a lump-sum buyout of her claim to Ron’s pension . In any case, they would have been able to make decisions with their eyes open, instead of taking the path of least resistance.

The news that her share in Ron’s defined benefit pension had value was serendipity for Jenni. It turned out that the addition of the pension payments in her retirement profile substantially increased her chances to make it through retirement without running out of assets. But it is possible that an earlier understanding of the pension division and other financial issues could have resulted in an even more favorable outcome for Jenni .

 

A previous version of this article was published at Kiplinger.

Sep 09

Stock Market Blues

By Chris Chen CFP | Financial Planning , Investment Planning

Stock Market Blues

Stock Market BluesAs the stock market plunged almost 10% on Monday August 24, following similar plunges in China and Europe, it is natural to ask whether one should be invested in the stock market at all. After all a 10% drop is significant, and the media makes sure that we know that.  

the average equity fund investor made on average 5.19% a year

And it is not just the US stock market. We have heard rumblings since June now about economic malaise in China, including a similar drop of 8% in the Shanghai stock market on August 24 as well. We have fretted about Grexit, the potential Greek exit from the Eurozone. We have seen gas going down at the pump, and we cannot even feel good about that!

So then, is it time now to get out of the stock market? Or if you have cash on the sidelines, is it time to get in?

It is worth pondering that from 1900 to 2010, 10% corrections have happened on average three times a year. 20% corrections have happened on average every 3.5 years. In other words, stock market corrections happen “all the time”. Based on statistical evidence, the only thing that your Financial Planner can tell you with regard to future stock market directions is that it will go up and it will go down!

I know, it’s not very reassuring. Your adviser or financial planner has probably told you that you need to be invested for the long term. That requires us to be committed, and to be invested. (If we have needs that are not long term, say college tuition for the next term, that money should not be in the stock market).

When, then, should we get in or out? The fact is that no one, not even the smarty pants who run your mutual funds, are able to time the market with any reliability. That is one of the reasons why mutual funds are consistently invested; they don’t get in and out of the market based on short term fluctuations.

In a recent study, Dalbar found that from January 1995 to December 2014, the average equity fund investor made on average 5.19% a year, while the equity markets went up on average 9.85% annually. One of the key contributing factor to this huge disparity is that individual investors have a tendency to get out when the stock market is low, and to get in after it has recovered.

Yet, it is natural to be scared. If you feel scared about the financial markets, today may be a good time to call your Financial Planner. If you manage your own money, today may be the time to set an appointment with one!

A previous version of this article appeared in the Boston Globe on August 24, 2015

1 2 3 5