Objective information about retirement, financial planning and investments

 

SALT and Your Taxes

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One of the big topics again this tax season is SALT. This is not a seasoning for food, but rather SALT stands for state and local taxes. The treatment of these expenses in terms of their deductibility for those who itemize was a major change beginning with the 2018 tax year, arising out of the Tax Cut and Jobs Act passed at the end of 2017.

What is SALT?

As mentioned above this includes state and local taxes. In most cases the biggest components will be your state income tax, state and local sales taxes and the real estate taxes on your home.

The SALT cap 

Beginning with the 2018 tax year, SALT taxes have been capped at $10,000 as an itemized deduction. This represents a significant reduction for many taxpayers compared to prior years. Those in states with high state income taxes and areas with high real estate taxes will likely feel the greatest impact.

Our latest real estate tax bill alone has put us over the cap limit. The state income tax rate for Illinois stands at 4.95%. As with the 2018 tax year, his means that none of the state income taxes on income earned by my wife and I will be eligible as an itemized deduction for 2019 and beyond. These rules extend through the 2025 tax year.

Fewer taxpayers can itemize 

One estimate indicated that the number of itemizers would drop from about 46.5 million in 2017 to about 18 million in 2018. The increase in the standard deduction is another major change impacting the ability to itemize along with the SALT cap.

  • For those filing married and joint the standard deduction increased from $12,740 to $24,000 for 2018. For the 2019 tax year this increases to $24,400, it increases to $24,800 for 2020.
  • For single filers the standard deduction increased from $6,350 to $12,000. For the 2019 tax year this increases to $12,200, it increases to $12,400 for 2020.

This means for those with itemized deductions less than these amounts it makes financial sense to just take the standard deduction.

What impact does the SALT cap have on your taxes? 

Beyond whether or not you can still itemize deductions, you will need to determine the effect of the SALT cap and other changes under the new rules on your overall tax situation.

For example, a married couple might have previously been able to claim $18,000 in itemized deductions prior to the new rules. Now with the SALT cap, their itemized deductions will be lower, and they will be forced to claim the standard deduction. However, the $24,400 standard deduction for 2019 likely provides a greater benefit than the amount they itemized in prior years.

Other factors to consider:

  • Tax rates are generally lower than in prior years starting with 2018.
  • Some businesses and the self-employed might be eligible for a pass-through deduction of 20% of their business income in some cases. In our case this will be helpful to our situation for 2018 and will be again in 2019.
  • The income limits on the child-care credit have been increased allowing more parents to take advantage of this credit. Remember a direct credit on your taxes is worth more than a deduction in income.
  • The alternative minimum tax will impact fewer taxpayers than in past years due to changes in the income limits.
  • Along with the increase in the standard deduction, the personal exemption has been repealed under the new rules. This was worth $4,050 per person in 2017.

The point is the SALT cap will impact each of us differently depending upon our situation.

The impact on real estate

Some have said that the SALT cap was retribution to those in “blue” states that didn’t support the president in the last election. I’ll leave that to you the reader to decide.

This cap disproportionately impacts states with high state income taxes and relatively high real estate values. According to one study, New York, New Jersey, Connecticut, California and Maryland were the top five states in terms of the deduction for SALT as a percentage of taxpayer’s AGI (adjusted gross income) in 2016.

The inability to fully deduct property taxes and mortgage interest will make the after-tax cost of buying a home in high cost areas more expensive. Some have speculated that the cap on the ability to deduct these taxes might influence decisions about where people live and potentially cause some people to relocate to lower tax, lower cost states. It could also have an impact on the level of housing starts in these high cost areas, and the fortunes of home builders and related industries.

Planning around the SALT cap

Most of the changes enacted as part of the Tax Cut and Jobs Act expire after the 2025 tax year, so the SALT cap will be around for a few years. Here are some planning considerations.

Bunch deductible expenses. This could involve deferring or accelerating expenses that are eligible for itemizing into one year to get you over the standard deduction threshold. A couple of examples:

  • Bunch your charitable contributions in to a single year. If you were going to make say $5,000 in contributions over several years, bunch all or as much of that amount as possible into a single year if it will help you to reach the level where you will be able to itemize.
  • Same thought process as above with elective medical expenses. If there is a procedure or other elective expense, plan to incur it in the year that is most beneficial tax-wise if possible.

Consider directing some of your RMD to charity. For those who are taking required minimum distributions from their retirement accounts, consider using the QCD (qualified charitable deduction) to contribute some or all of your RMD to a qualified charity. There is no charitable deduction, but the amount of the QCD is not subject to federal taxes.

Max out your retirement plan contributions. This has nothing to do with itemized deductions, but this can provide the double benefit of a larger tax break if you aren’t currently doing this along with the added savings for retirement. If your company offers a 401(k) or similar plan be sure that you are contributing as much as possible. If you are self-employed be sure that you have a retirement plan set-up and that you are contributing as much as possible as well.

Review your mortgage and real estate situation. It may behoove you to pay down your mortgage if you can, especially if you can no longer itemize. If you are looking at buying a new home, be sure to take the SALT cap into account when calculating the after-tax cost of ownership.

The Bottom Line 

Tax season is a good time to take a look at your tax situation not only for last year but also going forward. Be sure to consult with a qualified tax or financial professional to help you review your situation as needed.

Need help looking at your overall financial plan and want another opinion on where you stand? Not sure if your investments are right for your situation? Concerned about stock market volatility? Check out my Financial Review/Second Opinion for Individuals service for detailed guidance and advice about your situation.

NEW SERVICE – Financial Coaching. Check out this new service to see if it’s right for you. Financial coaching focuses on providing education and mentoring on the financial transition to retirement.

FINANCIAL WRITING. Check out my freelance financial writing services including my ghostwriting services for financial advisors.

Please contact me with any thoughts or suggestions about anything you’ve read here at The Chicago Financial Planner. Don’t miss any future posts, please subscribe via email. Check out our resources page for links to some other great sites and some outstanding products that you might find useful.

4 Steps to Make Your 401(k) Work as Hard as You Do

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Whether you work as an employee or you are self-employed you work hard for your money. In spite of what was said on PBS Frontline The Retirement Gamble and elsewhere in the press, in my opinion 401(k) plans are one of the best retirement savings vehicles available. Here are 4 steps to make sure that your 401(k) plan is working hard for your retirement.

Get started 

This might seem basic, but you can’t benefit from your employer’s 401(k) plan unless you are participating. If you haven’t started deferring a portion of your salary into the plan this is great time to start. Look at your budget, determine how much you can afford to defer each pay period and get started. You may be able to do everything online, otherwise contact the plan administrator at your company.

Are you self-employed? There are a number of retirement plan options to consider. If you don’t have a retirement plan in place for yourself, do this today.  You work way too hard not to be putting something away for retirement.

Increase your contributions 

This is a great time to review the amount of your salary deferral and look to increase it if you are not already maxing out your contributions.  For 2020 the maximum contribution is $19,500 if you are under 50 and $26,000 if are 50 or over (and if you turn 50 before the end of the year). For those 50 and over you can still make the full $6,500 catch-up contribution even if your contributions are otherwise limited to an amount below the maximum due to your plan failing its testing. This situation can occur for highly compensated employees and usually occurs at smaller plans.

If you were enrolled into your employer’s plan under an automatic enrollment scenario the amount you are deferring is likely inadequate to meet your retirement needs, you need to revisit this and take affirmative action both in terms of the amount deferred and the investment options to which those salary deferrals are directed.

It’s often popular to urge 401(k) participants to contribute at least enough to receive the full amount of any company match. I agree that it makes sense to go for the full match, but the key words here are at least. The quality of each plan is different, but if your plan offers a solid investment menu and reasonable expenses, consider increasing your contributions beyond the minimum required to receive the full company match. Automatic salary deferrals are an easy, painless way to invest and simplicity in saving for your retirement should not be pooh-poohed.

Take charge of your investments, don’t just default 

Target Date Funds are offered by many 401(k) plans and are often the default option for those participants who do not make an investment election. While TDFs may be fine for younger participants, I’m not a huge fan for those of you within say 15-20 years of retirement. If you are in this situation, look at an allocation that is more tailored to your overall situation. At the very least if you are going to use the Target Date Fund option offered by your plan take a hard look at how the fund will invest your money, how this fits with investments you may have outside of the plan, and the fund’s expenses.

Plan for your retirement 

While contributing to your 401(k) plan is a great step, it is just that, a step. Your 401(k) is an important tool in planning for retirement, but the keyword is planning.  Many 401(k) plan providers offer retirement planning tools on their websites.  They may also offer advice in some format.  Consider taking advantage.

If you work with a financial advisor make sure that they consider your 401(k) and all investments when helping you plan for your retirement.  I find it amazing every time that I hear of some brokerage firm that forbids its registered reps from providing clients advice on investing their 401(k) account because the plan is not offered by their firm.

Approaching retirement and want another opinion on where you stand? Not sure if your investments are right for your situation? Need help getting on track? Check out my Financial Review/Second Opinion for Individuals service for detailed guidance and advice about your situation.

NEW SERVICE – Financial Coaching. Check out this new service to see if it’s right for you. Financial coaching focuses on providing education and mentoring on the financial transition to retirement.

FINANCIAL WRITING. Check out my freelance financial writing services including my ghostwriting services for financial advisors.

Please contact me with any thoughts or suggestions about anything you’ve read here at The Chicago Financial Planner. Don’t miss any future posts, please subscribe via email. Check out our resources page for links to some other great sites and some outstanding products that you might find useful.

Photo source:  Annie Spratt via Upsplash

How Much Apple Stock Do You Really Own?

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Apple (AAPL) stock has been a great investment over the years. Based upon its stock price and the number of shares outstanding it is the largest U.S stock based upon market capitalization. This means it is the largest holding in many popular index mutual funds and ETFs. This can lead to significant stock overlap in your portfolio if you aren’t aware of the underlying holdings in the funds and ETFs you own.

Chuck Jaffe wrote an excellent piece for Market Watch several years ago discussing the impact that a significant drop in Apple stock had on a number of mutual funds that hold large amounts of Apple. He cited a list of funds that had at least 10% of their assets in Apple.  On a day when Apple stock fell over 4% these funds had single day losses ranging from 0.22% to 2.66%.

The point is not to criticize mutual fund managers for holding large amounts of Apple, but rather as a reminder to investors to understand what they actually own when reviewing their mutual funds and ETFs.

Major price gains

Apple stock gained over 88% in 2019 and has an average annual gain in excess of 32% for the 15-years ending December 31, 2019. For index funds and ETFs whose holdings are market-cap weighted, these types of gains mean that the percentage of the fund in Apple stock has increased as well.

Percentage of Apple stock in major funds and ETFs

A number of index ETFs and mutual funds counted Apple as a significant holding as of December 31, 2019. The following percentage of assets for each fund are from Morningstar.

  • ishares Russell 1000 Growth ETF 8.53%
  • Vanguard Growth Index Investor 8.17%
  • Fidelity Growth Company 5.98%
  • SPDR® S&P 500 ETF Trust 4.57%
  • iShares Core S&P 500 ETF 4.57%
  • Fidelity 500 Index 4.34%
  • Vanguard 500 Index Investor 4.32%

In addition, it is also a dominant holding in several tech-related index funds, including:

  • Technology Select Sector SPDR® ETF 19.72%
  • Vanguard Information Technology ETF 17.53%
  • Invesco QQQ Trust 11.51%

Stock overlap 

In the late 1990s a client had me do a review of their portfolio as part of some work I was doing for the executives of the company. He held 19 different mutual funds and was certain that he was well-diversified.

The reality was that all 19 funds had similar investment styles and all 19 held some of the popular tech stocks of the day including Cisco, Intel and Microsoft. As this was right before the DOT COM bubble burst in early 2000 his portfolio would have taken quite a hit during the market decline of 2000-2002.

This type of situation could easily be the case today with stocks in companies like Apple, Microsoft, Alphabet (Google’s parent), Facebook and others. Tools like Morningstar can help investors look under the hood of various ETFs and mutul funds to gauge the amount of stock overlap across their portfolio.  (The prior link is an affiliate link. I may receive compensation if you purchase their service at no extra cost to you)

Understand what you own 

If you invest in individual stocks you do this by choice. You know what you own. If you have a concentrated position in one or more stocks this is transparent to you.

Those who invest in mutual funds, ETFs and other professionally managed investment vehicles need to look at the underlying holdings of their funds. Excessive stock overlap among holdings can occur if your portfolio is concentrated in one or two asset classes. This is another reason why your portfolio should be diversified among several asset classes based upon your time horizon and risk tolerance.

As an extreme example, someone who works for a major corporation might own shares of their own company stock in some of the mutual funds and ETFs they own both inside their 401(k) plan and outside. In addition, they might directly own shares of company stock within their 401(k) and they might have stock options and own additional shares elsewhere. This can place the investor in a risky position should their company hit a downturn that causes the stock price to drop. Even worse if they are let go by the company not only has their portfolio suffered but they are without a paycheck from their employer as well.

The Bottom Line 

Mutual fund and ETF investors may hold more of large market capitalization stocks like Apple and Microsoft than they realize due to their prominence not only in large cap index funds but also in many actively managed funds. It is a good idea for investors to periodically review what their funds and ETFs actually own to ensure that they are not too heavily concentrated in a few stocks, increasing their portfolio risk beyond what they might have expected.

Not sure if you are invested properly for your situation? Check out my Financial Review/Second Opinion for Individuals service.

NEW SERVICE – Financial Coaching. Check out this new service to see if it’s right for you. Financial coaching focuses on providing education and mentoring regarding the financial transition to retirement.

FINANCIAL WRITING. Check out my freelance financial writing services including my ghostwriting services for financial advisors.

Please contact me with any thoughts or suggestions about anything you’ve read here at The Chicago Financial Planner. Don’t miss any future posts, please subscribe via email. Check out our resources page for links to some other great sites and some outstanding products that you might find useful.

 

Social Security and Working – What You Need to Know

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In today’s world of early or semi-retirement, many people wonder when they should begin taking their Social Security benefits. The combination of Social Security and working can complicate matters a bit. You can begin taking your benefit as early as age 62, but that is not always the best choice for many retirees. If you are working either at a job where you are employed or some sort of self-employment, you need to analyze the pros and cons based on your situation.

Full retirement age

 Your full retirement age or FRA is the age at which you become eligible for a full, unreduced retirement benefit. FRA is an important piece in understanding the potential implications of working on your Social Security benefit.

Your FRA depends on when you born:

  • If you were born from 1943 -1954 your full retirement age is 66
  • If you were born in 1955 your FRA is 66 and two months
  • If you were born in 1956 your FRA is 66 and four months
  • If you were born in 1957 your FRA is 66 and six months
  • If you were born in 1958 your FRA is 66 and eight months
  • If you were born in 1959 your FRA is 66 and ten months
  • If you were born in 1960 or later your FRA is 67

Source: Social Security

Social Security and working

If you are working, collecting a Social Security benefit and younger than your FRA your benefits will be reduced by $1 for every $2 that your earned income exceeds the annual limit which is $18,240 for 2020. Earned income is defined as income from employment or self-employment.

During the year in which you reach your full retirement age the annual limit is increased. For 2020 this increased limit is $48,600. The reduction is reduced to $1 for every $3 of earnings over the limit.

This chart shows the monthly reduction of benefits at three levels of earned income for 2020.

                                         Reduction of Benefits – 2020

Age $25,000 earned income $50,000 earned income $75,000 earned income
Younger than FRA $282 per month $1,323 per month reduction $2,365 per month reduction
Year in which you reach FRA No reduction $39 per month reduction $733 per month reduction
FRA or older No reduction No reduction No reduction

Source: Social Security

Temporary loss of benefits

The loss of benefits is temporary versus permanent. Any benefit reduction due to earnings above the threshold will be recovered once you reach your FRA on a gradual basis over a number of years.

However, your benefit will be permanently reduced by having taken it prior to your FRA. This means that any future cost-of-living adjustments will be calculated on a lower base amount as well.

One other point to keep in mind, continuing to work can add to your Social Security wage base, somewhat offsetting the permanent benefit reduction from taking Social Security early.

A one-time do-over 

Everyone is allowed a one-time do-over to withdraw their benefit within one year of the start date of receiving their initial benefit. This is allowed once during your lifetime.

One reason you might consider this is going back to work and earning more than you had initially anticipated. This is a way to avoid having your benefit permanently reduced. You would reapply later when you’ve reached your FRA, or your earned income is under the limits. Your benefit would increase due to your age and any cost-of-living increases that might occur during this time.

When you do take advantage of this one-time do-over, you must pay back any benefits received. This includes not only any Social Security benefits that you received, but also:

  • Any benefits paid based upon your earnings record such as spousal or dependent benefits.
  • Any money that may have been withheld from your benefits such as taxes or Medicare premiums.

Social Security and income taxes 

Regardless of your age or the source of your income, Social Security benefits can be taxed based upon your income level. This could certainly be impacted from income earned from employment or self-employment, but it also includes other sources of taxable income such as a pension or investment income.

The amount of the benefit that is subject to taxes is based upon your combined income, which is defined as: adjusted gross income + non-taxable interest income (typically from municipal bonds) + ½ of your Social Security benefit.

The tax levels are:

Tax filing status Combined income % of your benefit that will be taxed
Single $25,000 – $34,000 Up to 50%
Single Over $34,000 Up to 85%
Married filing jointly $32,000 – $44,000 Up to 50%
Married filing jointly Over $44,000 Up to 85%

Source: Social Security

The Bottom Line 

The decision when to take your Social Security benefit depends on many factors. If you are working or self-employed you will want to consider the impact that your earned income will have on your benefit.

You should also understand that your benefits can be subject to taxes at any age over certain levels of combined income, regardless of the source of that income.

Approaching retirement and want another opinion on where you stand? Need help getting on track? Check out my Financial Review/Second Opinion for Individuals service for detailed advice about your situation.

NEW SERVICE – Financial Coaching. Check out this new service to see if it’s right for you. Financial coaching focuses on providing education and mentoring regarding the financial transition to retirement.

FINANCIAL WRITING. Check out my freelance financial writing services including my ghostwriting services for financial advisors.

Please contact me with any thoughts or suggestions about anything you’ve read here at The Chicago Financial Planner. Don’t miss any future posts, please subscribe via email. Check out our resources page for links to some other great sites and some outstanding products that you might find useful.

Photo by Sharon McCutcheon on Unsplash

Retirement Plan Contribution Rates and Limits – 2020

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With the new year upon us, it’s a good time to be sure you understand the contribution rates and limits for various retirement plan options so you can contribute as much as possible. As you look at your financial planning for 2020, you will want to maximize your retirement contributions to meet your retirement savings goals. Here are the limits for some popular retirement savings vehicles.

401(k) 

The contribution limits for 2020 are:

  • $19,500
  • $26,000 for those who will be 50 or over at any point during the year, including a $6,500 catch-up contribution.

These same limits apply to those of you who have access to a 403(b) plan via your employer.

The limits are slightly different for 457(b) plans offered by some governmental entities and other non-profits. The basic contribution limits are the same as for the 401(k) and the 403(b). However, for participants who have not contributed the maximum amounts in prior years, there is a special catch-up contribution limit that increases to a maximum of $39,000 in 2020 for those within a few years of the plan’s retirement age. If this describes your situation check with the plan administrator to see if you are eligible.

Health Savings Accounts

Health savings accounts (HSA) are another option that is increasingly being used as a retirement savings vehicle and should be considered by those of you who are eligible via participation in a high-deductible medical insurance plan.

For 2020, high-deductible medical plan is one with deductibles of at least:

  • $1,400 for individuals
  • $2,800 for a family

The maximum HSA contribution rates are:

  • $3,550 for an individual
  • $7,100 for a family
  • There is a $1,000 additional catch-up contribution available for those age 55 or over

An HSA is a great way to save for retirement medical costs as the money deferred can be carried over from one year to the next. Once you retire, the money can be used for either qualified medical expenses or treated like an IRA. Contributions are made on a pre-tax basis, withdrawals for qualified medical expenses are tax-free.

While you can use the money to reimburse yourself for covered medical and dental costs at any point in time, the real power of an HSA is the ability to use the money as an additional retirement savings vehicle. The key is to cover any out-of-pocket medical costs from other sources while you are working.

IRA 

The total contribution limits for IRAs remain unchanged from 2019:

  • $6,000
  • An additional $1,000 catch-up contribution for those who will be 50 or over at any point during 2020.

These contribution limits are totals for contributions across both traditional and Roth IRAs, as well as for both pre-tax and after-tax contributions.

Here are some additional IRA limits/rules to be aware of in 2020:

Roth IRA contribution limits and phase-outs 

If your filing status is single:

  • The phase-out in the amount that can be contributed begins at an income level of $124,000.
  • The phase-out range extends to $139,000 no Roth IRA contributions can be made at income levels above this.

If your filing status is married filing jointly (or you are a qualified widow or widower):

  • The phase-out in the amount that can be contributed begins at an income level of $196,000.
  • The phase-out range extends to $206,000 no Roth IRA contributions can be made at income levels above this.

As an example of how the phaseout works, a single filer with income of $131,500 could contribute $3,000 to a Roth IRA or $3,500 if they are 50 or over. This person can still contribute the full $6,000 or $7,000 maximum to an IRA, the remainder would need to be made to a traditional IRA on a pre-tax or after-tax basis depending upon their situation.

Income in this case is based upon modified adjusted gross income (MAGI) which is a modified version of the adjusted gross income (AGI) figure found on your tax return.

Traditional IRA pre-tax contribution income limits 

For those of you who are covered by a workplace retirement plan (whether or not you contribute) such as a 401(k), there are income limits above which you can’t make a pre-tax contribution. For 2020 those income limits are:

If your filing status is single:

  • The phase-out in the amount that can be contributed on a pre-tax basis begins at an income level of $65,000.
  • The phase-out range extends to $75,000; no pre-tax IRA contributions can be made at income levels above this.

If your filing status is married filing jointly (or you are a qualified widow or widower):

  • The phase-out in the amount that can be contributed begins at an income level of $104,000.
  • The phase-out range extends to $124,000; no pre-tax IRA contributions can be made at income levels above this.

If you are not covered by a retirement plan at work, then there are no income limits restricting your ability to contribute to a traditional IRA on a pre-tax basis.

If you are not covered by a workplace retirement plan, but your spouse is, the phase-out limits for pre-tax contributions start at $196,000 and extend to $206,000.

For those whose income may limit or eliminate their ability to contribute on a pre-tax basis, you are still eligible to contribute to a traditional IRA on an after-tax basis. You can mix and match between traditional and Roth IRA contributions, as well as between pre and post-tax contributions within the $6,000/$7,000 maximums for total IRA contributions.

SIMPLE IRA

A SIMPLE IRA plan is a business retirement plan that offers less administrative and paperwork burdens for small business with 100 or fewer employees. Self-employed individuals can also use a SIMPLE IRA.

For 2020, the contribution limits have been raised to $13,500, with those who are 50 or over eligible to contribute an additional $3,000. In addition, there is a mandatory employer contribution of either a 3% match or a 2% non-elective contribution. 

Self-employed retirement plans 

Solo 401(k) plans 

Solo 401(k) plans are available to a business owner, their spouse who works in the business and to any partners in the business. Solo 401(k) plans cannot include any other employees and are not the right choice for businesses with employees.

The contribution limits for 2020 for solo 401(k) plans are:

  • The same $19,500/$26,000 employee contribution limits as a regular 401(k) plans.
  • The maximum combined employer and employee contributions for 2020 are $57,000 and $63,500 for those 50 and over. The employer profit sharing contribution is based on a maximum of 25% of compensation up to the total $57,000/$63,500 limits.

SEP-IRA 

Contributions to a SEP-IRA are made by the employer only. Employee deferrals are not permitted. While a SEP-IRA plan can include employees, as a practical matter these plans can get expensive if employees are included.

Contribution limits for 2020 are:

  • The lesser of 25% of compensation or $57,000. There are no catch-up contributions for those who are 50 or over.

Note there are other options for the self-employed including a small-business 401(k) and a defined benefit pension plan depending upon your situation, including your business’ size, cash flow and other factors. 

The Bottom Line

These popular retirement savings options are all solid vehicles to help you accumulate a retirement nest egg. This is the time to look at your situation, decide how much you can contribute, and which options fit your situation. Studies have shown that the biggest determinant of the size of your retirement nest egg is the amount that you’ve saved.

What are you waiting for? The best time to start saving for retirement (or to increase your retirement contributions) is today.

Approaching retirement and want another opinion on where you stand? Need help getting on track? Check out my Financial Review/Second Opinion for Individuals service for detailed advice about your situation.

NEW SERVICE – Financial Coaching. Check out this new service to see if it’s right for you. Financial coaching focuses on providing education and mentoring on the financial transition to retirement.

FINANCIAL WRITING. Check out my freelance financial writing services including my ghostwriting services for financial advisors.

Please contact me with any thoughts or suggestions about anything you’ve read here at The Chicago Financial Planner. Don’t miss any future posts, please subscribe via email. Check out our resources page for links to some other great sites and some outstanding products that you might find useful.

Photo courtesy of sasint

Stock Market Highs and Your Retirement

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After a rough year in 2018, the S&P 500 and the Dow sit in record territory. So far in 2019, stocks have staged a very nice recovery with the S&P 500 up about 29% year-to-date. These gains are in spite of the questions and issues surrounding the Trump administration, the threat of trade wars with a number of countries and uncertainty about what the Fed will do with interest rates.

Difference Between Stocks and Bonds

At some point we are bound to see a stock market correction of some magnitude, hopefully not on the order of the 2008-09 financial crisis. As someone saving for retirement what should you do now?

Review and rebalance 

During the last market decline there were many stories about how our 401(k) accounts had become “201(k)s.” The PBS Frontline special The Retirement Gamble put much of the blame on Wall Street and they are right to an extent, especially as it pertains to the overall market drop.

However, some of the folks who experienced losses well in excess of the market averages were victims of their own over-allocation to stocks. This might have been their own doing or the result of poor financial advice.

This is the time to review your portfolio allocation and rebalance if needed.  For example, your plan might call for a 60% allocation to stocks but with the gains that stocks have experienced you might now be at 70% or more.  This is great as long as the market continues to rise, but you are at increased risk should the market head down.  It may be time to consider paring equities back and to implement a strategy for doing this.

Financial Planning is vital

If you don’t have a financial plan in place, or if the last one you’ve done is old and outdated, this is a great time to review your situation and to get an up-to-date plan in place.. Do it yourself if you’re comfortable or hire a fee-only financial advisor to help you.

If you have a financial plan this is an ideal time to review it and see where you are relative to your goals. Has the market rally accelerated the amount you’ve accumulated for retirement relative to where you had thought you’d be at this point? If so, this is a good time to revisit your asset allocation and perhaps reduce your overall risk.

Learn from the past 

It is said that fear and greed are the two main drivers of the stock market. Some of the experts on shows like CNBC seem to feel that the market still has some upside. Maybe they’re right. However, don’t get carried away and let greed guide your investing decisions.

Manage your portfolio with an eye towards downside risk. This doesn’t mean the markets won’t keep going up or that you should sell everything and go to cash. What it does mean is that you need to use your good common sense and keep your portfolio allocated in a fashion that is consistent with your retirement goals, your time horizon and your risk tolerance.

Approaching retirement and want another opinion on where you stand? Need help getting on track? Check out my Financial Review/Second Opinion for Individuals service for detailed advice about your situation.

NEW SERVICE – Financial Coaching. Check out this new service to see if it’s right for you. Financial coaching focuses on providing education and mentoring on the financial transition to retirement.

FINANCIAL WRITING. Check out my freelance financial writing services including my ghostwriting services for financial advisors.

Please contact me with any thoughts or suggestions about anything you’ve read here at The Chicago Financial Planner. Don’t miss any future posts, please subscribe via email. Check out our resources page for links to some other great sites and some outstanding products that you might find useful.

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4 Benefits of Portfolio Rebalancing

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Last year was a down year for the markets, with the S&P 500 down 4.38% in 2018, the first down year for the benchmark since 2008. The index is up again in 2019 with a gain of 29.25% YTD through December 27.

So far, 2019 has been a solid year for real estate and a good one for fixed income as well. With all of these gyrations among various asset classes, you may be taking on more or less risk than is appropriate for your situation. If you haven’t done so recently, this is a good time to consider rebalancing your investments. Here are four benefits of portfolio rebalancing.

4 Benefits of Portfolio Rebalancing

Balancing risk and reward

Asset allocation is about balancing risk and reward. Invariably some asset classes will perform better than others. This can cause your portfolio to be skewed towards an allocation that takes too much risk or too little risk based on your financial objectives.

During robust periods in the stock market equities will outperform asset classes such as fixed income. Perhaps your target allocation was 65% stocks and 35% bonds and cash. A stock market rally might leave your portfolio at 75% stocks and 25% fixed income and cash. This is great if the market continues to rise but you would likely see a more pronounced decline in your portfolio should the market experience a sharp correction.

Portfolio rebalancing enforces a level of discipline

Rebalancing imposes a level of discipline in terms of selling a portion of your winners and putting that money back into asset classes that have underperformed.

This may seem counter intuitive but market leadership rotates over time. During the first decade of this century emerging markets equities were often among the top performing asset classes. Fast forward to today and they coming off of several years of losses.

Rebalancing can help save investors from their own worst instincts. It is often tempting to let top performing holdings and asset classes run when the markets seem to keep going up. Investors heavy in large caps, especially those with heavy tech holdings, found out the risk of this approach when the Dot Com bubble burst in early 2000.

Ideally investors should have a written investment policy that outlines their target asset allocation with upper and lower percentage ranges. Violating these ranges should trigger a review for potential portfolio rebalancing.

A good reason to review your portfolio

When considering portfolio rebalancing investors should also incorporate a full review of their portfolio that includes a review of their individual holdings and the continued validity of their investment strategy. Some questions you should ask yourself:

  • Have individual stock holdings hit my growth target for that stock?
  • How do my mutual funds and ETFs stack up compared to their peers?
    • Relative performance?
    • Expense ratios?
    • Style consistency?
  • Have my mutual funds or ETFs experienced significant inflows or outflows of dollars?
  • Have there been any recent changes in the key personnel managing the fund?

These are some of the factors that financial advisors consider as they review client portfolios.

This type of review should be done at least annually and I generally suggest that investors review their allocation no more often than quarterly.

Helps you stay on track with your financial plan 

Investing success is not a goal unto itself but rather a tool to help ensure that you meet your financial goals and objectives. Regular readers of The Chicago Financial Planner know that I am a big proponent of having a financial plan in place.

A properly constructed financial plan will contain a target asset allocation and an investment strategy tied to your goals, your timeframe for the money and your risk tolerance. Periodic portfolio rebalancing is vital to maintaining an appropriate asset allocation that is in line with your financial plan.

The Bottom Line 

Regular portfolio rebalancing helps reduce downside investment risk and ensures that your investments are allocated in line with your financial plan. It also can help investors impose an important level of discipline on themselves.

Approaching retirement and want another opinion on where you stand? Not sure if your investments are right for your situation? Need help getting on track? Check out my Financial Review/Second Opinion for Individuals service for detailed guidance and advice about your situation.

NEW SERVICE – Financial Coaching. Check out this new service to see if its right for you. Financial coaching focuses on providing education and mentoring for the financial transition to retirement.

FINANCIAL WRITING. Check out my freelance financial writing services including my ghostwriting services for financial advisors.

Please contact me with any thoughts or suggestions about anything you’ve read here at The Chicago Financial Planner. Don’t miss any future posts, please subscribe via email. Check out our resources page for links to some other great sites and some outstanding products that you might find useful.