JoeTaxpayer

Back in September, I wrote an article titled “All That Glitters“, and expressed my thoughts on gold as an investment. Recently, I’ve seen more charts that compare the price of oil and gold by forming a ratio, the number of barrels of oil that an ounce of gold will buy. First, on CNBC’s Kudlow and Company, and more recently in an Economist article borrowing my September story’s title. From that article, I offer this chart:

What conclusion do we draw from this chart? Gold priced too low? Oil too high? I believe both are in bubble territory, each for its own reason. Only time will tell who is the right prognosticator.

Joe

written by JOE \\ tags: Finance, gold, money, oil, Savings

There is a ‘rule of thumb’ out there that one should save 3-6 months salary (net, I assume) and from the near 16,000 Google returns on “emergency fund” “rule of thumb”, it would seem this is a hot topic among financial concerns. At Master Your Card, Kristy on Monday discussed the importance of the emergency fund, and while I agree with her that you shouldn’t put those funds into stocks, which may or may not be down at the very time you need the funds, I am concerned about the priority most attribute to the fund.

You see, most financial rules, are just that, generalizations that may apply to many/most of the readers of such advice. It’s easy, however, to offer examples where the rule(s) need some modification once the rest of the situation is understood.

For emergency funds, first, does your company have, and do they provide any matching contributions, to a 401(k)? If so, this is my highest priority. Some companies match as much as the first 6% of an employees’ salary deposited into their 401(k). On $50,000/yr, that’s $3,000 the company will match against your $3,000 deposit. In the 25% tax bracket, your net cost is only $2,250. Let me spell this out carefully - you are out of pocket $2,250, but now have $6000 in your 401(k)! Do you see why this is my top priority? Should you fund an emergency fund first, or take $2,250 and turn it into $6,000? If you lost your job, and had to take it out next year, you will likely drop to the 15% bracket, and after the 10% penalty for withdrawal, you still take out $4500. A side benefit, also subject to dispute, is that with $6,000 in the 401(k), you now have the ability to borrow $3000 back out, at 7-8%, and use that loan to knock down the high interest credit card debt. Yes, there are those who advise against the 401(k) loan, but in this scenario, it can be part of a kick start to both your retirement savings and debt reduction plan.

From a completely different perspective is an article on MSN titled “The $0 emergency fund“. I think that may be taking it a bit too far.
Joe

written by JOE \\ tags: 401(k), 401(k) loan, emergency fund, Retirement, Savings

Have a healthy and happy holiday.

You may click on the above image to be taken to US Memorial.Org to learn more about this holiday.
Joe

written by JOE \\ tags: memorial day

The May 2 Issue of The Week magazine had an interesting article titled “The Global Food Crisis“. While I held the belief that the move to bio fuels was the major cause of the recent rise in food prices, this article gave me a better view of the big picture. While bio fuel demand is one of the causes, six years of drought in Australia, flooding in Argentina and other weather related events added to the crisis. What I missed completely was the shift in diet within China. The average Chinese person now consumes 110 pounds of meat per year, up from 44 pounds two decades ago. It takes 10 pounds of grain to produce one pound of pork and 20 pounds of grain to produce a pound of beef, so it would seem that the rise of the Asian middle class was a major factor in the current crisis. This raises new and troubling questions. Can the world shift from being largely vegetarian to omnivore and not create its own ongoing crisis? Perhaps when we realize that bio fuels are a misguided solution to this problem will we get on with the research that will lead toward a lasting solution - the alternate energy provided by solar and wind. Enjoy the holiday weekend.

Joe

written by JOE \\ tags: bio fuel, energy, Finance, food crisis, money

Earlier this week, I talked a bit about the Social Security replacement rate, how much a single person could expect to receive at their normal retirement age. As we discuss trying to make up the difference to enjoy a post retirement income which replaces working income by close to 80% we run into the Social Security tax trap, the fact that for a single person, when half your benefit plus other taxable income exceeds $25,000, the benefits become taxable. So I updated the table a bit.

Now we can see the amount of (taxable) income we can have before we hit the range where SS benefits are taxable. We also can see the amount of money needed to generate that income (using the 4% withdrawal rate we’ve discussed in the past). Note: The column “$25K-1/2 Benefit” is increased by $8950, the sum of the standard deduction and exemption for a single person. Of course if you have high enough deductions to file schedule A this will increase further. So, getting back to the discussion of pretax and post tax savings, we are closing in on the gross numbers you can save, pretax, with little risk of either hitting a higher tax bracket at retirement or running into the range where Social Security benefits are taxable. In the next few weeks, I will offer more analysis, along with observation on this scenario for couples.

Joe

written by JOE \\ tags: Finance, Investing, money, Retirement, Savings, Social Security

I’ve had more frequent conversations recently regarding a number of financial topics. The pretax vs post tax IRA certainly tops the list along with the required income needed at retirement, both in absolute terms as well as replacement ratio. I thought this would be a good time to discuss how much of that retirement income is expected to come from Social Security. The primary insurance amount (the benefit (before rounding down to next lower whole dollar) a person would receive if he/she elects to begin receiving retirement benefits at his/her normal retirement age) is shown below for those with annual incomes ranging from $20K per year to $90K per year.

A few observations here: This reflects the benefit an individual would receive, and my comments for tax purposes also reflect one filing single. The way this is calculated, a lower wage earner receives a higher percent of his income at retirement than a higher earner. If we use 80% (not saying I agree or disagree, but 80% keeps popping up) as a target replacement income, the $55K earner will have half of this target covered by Social Security. In my next post, I’ll discuss the Social Security Tax trap, and tie the analysis back to the pretax vs post tax investing decision.
Joe

written by JOE \\ tags: Finance, Investing, Retirement, Social Security

The book “Last Chance Millionaire” by Douglas R. Andrew was interesting to me, if only for the lack of depth. It reminded me of the original “Twilight Zone” TV series in this regard - every episode could be summarized in about three sentences or one minute of action, and the remaining 24 minutes was filler.

Mr. Andrew spends the first 200 or so pages making the case that one should always have a mortgage, and it should be as large as possible. Now there’s a premise I’d not want to spend too much time debating, but I’d agree that there are better times to borrow and other times to pay down one’s debt. I am old enough to remember a 30 year fixed rate of 13.5% which, in the 25% bracket is still 10-1/8% after tax. At that rate, I prefer to pay down the mortgage and advise other to follow. With rates below 6%, someone in the 28% bracket has an after tax interest cost of 4.32%. There, I just saved you 200 pages.

He goes on to suggest investing in Indexed Universal Life Insurance. I am on record as being anti-variable annuities, but this product offers a few different twists. The withdrawals are first made against the principal within the account, so no taxes are due. Then with a bit of smoke and maybe a mirror or two, further withdrawals are taken as ‘loans’ against the account, which are then paid back on death.

I wanted to find out how the account grows in value and discovered a policy by Pacific Life called “Pacific indexed Accumulator II” which describes the annual crediting. One receives the return of the S&P index (no dividends) with a maximum of 12%, and minimum 0%. So the trade-off appears to be that you give up the dividend (The S&P currently yields about 2.1%) as well as accept a cap of 12% per year, in exchange for a guarantee of no annual losses. I’m still on the fence about borrowing to fund this, but the concept itself has a certain appeal. This chart from the prospectus does a good job illustrating the return you would have gotten over the past 20 years. I thank one of my regular readers for bringing this book and investment approach to my attention.

Joe

written by JOE \\ tags: douglas r. andrew, Finance, indexed universal life, Investing, last chance millionaire, money, Retirement, Savings

Last September I wrote about a zero interest credit card offer I took advantage of. I took the money and bought a CD, pocketing $1000 interest in 6 months time. I received a few comments and questions, centering around how this would impact my credit score. I offered a chart showing how the score is impacted, in general, but couldn’t say for sure the precise impact of any one action on the score. That would take regular access to the score itself, which through MyFICO, would cost nearly $50/yr. Now, I discovered a free way to have regular access. It seems that WAMU (Washington Mutual) offers such access to their credit card holders. The card has no annual fee, and you just click through a link to see your score. They offer an option to get email notification if your score moves by more than 20 points. Combine this with a regular request for your full credit report, and you have a good plan to monitor your credit health

Joe

written by JOE \\ tags: annualcreditreport.com, Credit, credit cards, credit report, Equifax, equity line, Experian, Finance, lend, loan, Suze Orman, TransUnion

The June Kiplinger’s magazine ran an article, “Raiding your 401(k).*” It advises against borrowing from one’s 401(k) and cites a T. Rowe Price study suggesting that someone borrowing $10,000 for 5 years (at age 35) will be short $145,000 at retirement even after paying back the loan. At 10%, $10,000 would grow to $131,100 in 27 years, that’s just math. Maybe they think this guy will retire at 63, not 62. But he did not take a withdrawal, he took a loan. My 401(k) charges 6.5% for a loan, credited back to the account. This means a 3.5% hit to the return on that borrowed $10,000. The account will come up short about $900 for having had the loan outstanding. Still using the 10% return, the retiree may find he is short nearly $13,000 at age 62, certainly not $145,000. Someone at T Rowe hit the wrong key, and none of my friends at Kiplinger’s catch this?

Think about this, though, the story cannot just end there. I can make the case that what matters is where that $10,000 loan went. Did the person buy a plasma TV and sound system? Or did he pay off all his credit card debt (at 24%) and start fresh? I can add to this - perhaps he was paying $288/mo and would have done so for 5 years to pay off the cards, but now is able to pay only $196 to the 401(k) loan, and use the extra $92 as an addition monthly deposit to his account. He is in the 25% bracket, and deposits a full $123 (which is the gross amount that nets him the $92) to his 401(k) and it’s matched by his employer, dollar for dollar, so at the end of year 1 he has nearly $3000 more in his account which more than makes up for the $350 hit he has from the loan itself. By staying on this path, he’s actually ahead by over $150,000 at retirement time.

As with any example, your mileage may vary. There is just one point I’d like you to take from this post. In finance, there are few absolutes. For every person who uses their 401(k) loan wisely, there may be five who blow the money and run up their credit cards again. But just as I take issue with Dave Ramsey’s statement that ‘responsible use of a credit card does not exist’, I feel that there are wise ways to use loans, 401(k) or otherwise. While I admit that a short article appearing in a magazine cannot cover every possibility, the one missing (and most important question was ignored - what does the borrower do with the money?

Joe

*The article is not yet available on line. As soon as I am aware it’s accessible, I will link to it.

UPDATE - I made an error here. (I prefer to leave the error in tact, above, but add this footnote.) In fact, the article did state “assume contributions stop for the life of the loan, as usually occurs”. This would make the math work, although I still take issue with these assumptions. I plan to revisit this subject in a future post.

written by JOE \\ tags: 401(k), 401(k) loan, credit card, Finance, Inumeracy, kiplinger's magazine, Retirement, saving

George Will had an article in the May 5 edition of Newsweek titled “Questions for Obama“. One question was;

“You favor eliminating the cap on earnings subject to the 12.4 percent Social Security tax, which now covers only the first $102,000. A Chicago police officer married to a Chicago public-school teacher, each with 20 years on the job, have a household income of $147,501, so you would take another $5,642 from them. Are they undertaxed? Are they rich?”

I have a question for George - Do you know the $102,000 FICA withholding cap is per person, not per family? If a couple each makes the same income, their current total cap is $204,000. So your Chicago couple would need quite a few raises before they even come close. In 2005 (last census numbers) shows that only 2.67% of households made more than $200,000. Now, how does that impact your view on eliminating the FICA withhold income cap?

JOE

written by JOE \\ tags: fica, Finance, george will, newsweek, payroll tax, Social Security