Wealth Management Advisor


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Wealth Management Advisor

  1. 1. C LE NOX A DV I SOR S , I N C NEW YORK • CHICAGO • SAN FRANCISCO NOVEMBER/DECEMBER 2005 Wealth Management Advisor Minimizing taxes, building retirement assets INSIDE THIS ISSUE: Lenox Advisors integrates financial Planning for retirement when it’s just around the corner planning, insurance, asset management A not-so-taxing development Larger estate tax exemption may require you to rethink your plan and separately managed accounts for Maximizing the tax benefits of your vacation home Enjoy the property and realize rental income high net worth individuals. We integrate New protection for IRA assets financial security into financial success.
  2. 2. Planning for retirement when it’s just around the corner If you’re retiring in the near future, there’s good news more time with your grandchildren who live nearby, your and bad news. First, the good news: Thanks to today’s savings needs are likely to be less. healthier lifestyles and advanced medical care, you’re Try also to anticipate your future expenses. For example, likely to enjoy a long, active retirement that easily could will your house be fully paid off? Are you planning to last two or three decades. The bad news, of course, is buy a vacation home? Will you need to manage college that the longer your retirement, the more savings you’ll or wedding expenses for your children? Will you face need to fund it. any elder care costs for your parents? As you get close to retirement, you’ll need to make a number of choices that may decide whether your retirement years will be comfortable or financially stressful. Here are just some of the issues you should If you haven’t already be thinking about. developed an estate plan, Visualize your future Try to imagine your future life. How you envision spend- this is a good time to do so. ing your time will directly influence the amount of money you’ll need. If, for example, you dream of world travel and gourmet dining, you may need a relatively large nest Don’t overlook skyrocketing health care expenses in your egg. If you simply want to read great books and spend calculations. If you plan to retire before you turn 65 and become eligible for Medicare, check with your employer to see if retirees are eligible to receive health insurance. If not, investigate what it will cost to buy an individual health insurance policy to cover you and your spouse until you qualify. Also keep in mind that Medicare covers only a portion of health care costs, so explore supple- mental health insurance coverage as well as long-term care coverage. If you haven’t already developed an estate plan, this is a good time to do so. Think about what you want to leave to your loved ones, and whether you’d like to make any large charitable gifts. Estimate your income Estimating future income is the other half of the retire- ment nest egg equation. Review your assets, including cash, investing, retirement accounts, nonqualified deferred compensation and life insurance cash values. If you expect to receive pension income, consult your employer for an 2
  3. 3. estimate of the amount. If your employer offers to match your 401(k) contribu- Also, check with the Social tions, be sure to take advantage of this option up to the Security Administration maximum amount. By turning down an employer match, for an estimated benefits you’re walking away from free money. statement for you and your spouse. Generally, 3. Look for ways to cut costs. Make a detailed budget and if you delay your retire- eliminate any nonessential expenses. Some of your choices ment, you will receive may be difficult, particularly if you’ve become accustomed a higher Social to a particular lifestyle, but you can use the prospect of a Security payment. comfortable, worry-free retirement as motivation. Another important 4. Postpone retirement. Many people, knowing they question is whether haven’t saved enough, choose to postpone their retire- you plan to continue to work, either ment. Working longer will provide more funds for your part- or full-time. Many retirees use this time in their retirement nest egg, and can also bring other financial advantages, including: lives to pursue a second career — perhaps working for an important cause or fulfilling a lifetime goal. Continu- n Employee benefits, such as health insurance and ing to work can mean extra money as well as access the ability to make 401(k) plan contributions and to valuable employee benefits, such as a 401(k) plan receive employer matches, or health insurance, that can be helpful as you try to accumulate retirement savings. But keep in mind that, n Potentially higher Social Security income, and if your income surpasses certain limits, a portion of your Social Security benefits will be taxable. Adjust your plan Diversify your retirement portfolio What happens if you’ve done the math and determined The best way to reduce the risk of your retirement you won’t have enough to meet your retirement goals? savings account is to ensure your portfolio is broadly At this point, you have four options: diversified, with a varied mix of stocks, bonds and cash. The appropriate mix for your situation depends 1. Scale back your goals. Now is a good time to priori- on your age, the number of years you have until tize your dreams for retirement. To make sure you have retirement and your personal risk tolerance. As you get enough for the things that matter most to you, decide older and are less able to wait out market downturns, which of your goals are “must-haves” and which are it’s prudent to increase your holdings in lower-volatility “nice-to-haves.” Then, if you have to make difficult bond and cash investments. choices, you’ll have a better idea where to begin. If a significant portion of your nest egg is invested 2. Save more. It’s never too late to add to your nest egg. in your employer’s stock, work with your financial If you’re age 50 or older, you’re eligible to make “catch services representative to develop a tax-smart up” contributions to your 401(k) and IRA accounts, strategy to reduce that position. As employees at Enron and other companies learned the hard way, with annual 401(k) limits of $18,000 in 2005 and being overexposed to a single company can have $20,000 in 2006 ($14,000 and $15,000, respectively, if disastrous consequences for your retirement savings. under age 50), and annual IRA limits of $4,500 in 2005 and $5,000 in 2006 ($4,000 in both years if under But just because you’re close to retirement doesn’t age 50). Your IRA deduction may be reduced if your mean you should abandon the stock market. This income exceeds certain limits, and you or your spouse chapter of your life could last a very long time, and participates in a qualified retirement plan. you may need the growth potential stocks offer, provided you can tolerate the accompanying risk. 3
  4. 4. n The opportunity to continue to fund IRAs, Get professional advice because you need earned income to make Whatever your plans for retirement, make sure you annual IRA contributions. discuss them with your financial advisor. Even if you generally handle your own finances, professional advice Postponing retirement even just a year or two may be is vital at this stage of your life and can help you avoid enough to allow you to achieve your retirement goals. making costly mistakes. n A not-so-taxing development Larger estate tax exemption may require you to rethink your plan On Jan. 1, 2006, the federal estate tax exemption is the maximum combined state and federal effective rate scheduled to increase to $2 million from its 2005 level (after taking the deduction into account) can reach as of $1.5 million. This adjustment is part of a schedule of high as around 54%. changes originally set in motion by the Economic Growth and Tax Relief Reconciliation Act of 2001. The top estate tax rate also drops on Jan. 1 from 47% to 46%. As a result, many individuals are less likely to become subject For those with smaller estates, to the federal estate tax. the higher exemption amount may mean that even basic estate tax reduction strategies aren't necessary. Planning for larger estates The higher exemption amount probably won’t require those with large estates to change their estate plans. While estate taxes have decreased over the past five years and the top marginal federal tax rates have been reduced from a high of 55%, current law still dictates that getting a dollar out of your taxable estate can result in substantial savings for anyone whose assets will exceed the exemption amount. The higher exemption means that three basic estate plan- ning strategies — the credit shelter trust, the irrevocable life insurance trust and the annual exclusion gift — will now protect an increasing portion of the population from estate tax, even those of relatively great wealth. It should be noted, however, that state taxes are no longer The credit shelter trust allows a married couple to shelter subject to a dollar-for-dollar federal credit. Beginning in from tax an amount equal to double the estate tax exemp- 2005, state taxes are deductible rather than subject to a tion ($4 million in 2006) without having to distribute any credit. This means that, in states that still impose a tax, assets to children or other beneficiaries on the first spouse’s 4
  5. 5. death. Each spouse directs an amount by will into a trust for the benefit of the surviving spouse and, ultimately, children or other beneficiaries. If properly structured, the trust assets will be excluded from the surviving spouse’s estate. An irrevocable life insurance trust allows you to exclude the insurance proceeds from your and your spouse’s taxable estates by having the trust be both the owner and beneficiary of the policy. And annual exclusion gifts permit you to give as much as $11,000 ($22,000 for married couples giving a joint gift) free of gift tax to any number of individ- uals without using up any of the lifetime exemption. that annual income tax returns be filed, at least after the A married couple with assets of $4.5 million plus an addi- death of the grantor. These trusts can also be less flexible tional $1.5 million face amount of life insurance might, when it comes to a spouse’s or child’s ability to access for example, completely eliminate their estate tax simply funds because a trustee controls distributions. by using these three strategies. They could use a credit shelter trust to shelter $4 million and an irrevocable life Some nontax reasons remain, however, for creating insurance trust to shelter the insurance policy proceeds. these trusts, including asset protection for beneficiaries, Finally, by making annual exclusion gifts over a period particularly beneficiaries who are minor children. of years — in addition to the premiums on the insurance policy — they might remove an additional $500,000 or Seize the opportunity more from their estates. The changing estate tax exemption offers a perfect opportunity to re-evaluate your estate planning goals and Strategies for smaller estates objectives. If you don’t already have an estate plan, this is For those with smaller estates, the higher exemption an ideal time to inventory your assets and insurance and amount may mean that even basic estate tax reduction determine whether they will exceed the new $2 million strategies aren’t necessary. For example, you may no exemption amount. If so, discuss your tax reduction longer need to make annual gifts — at least not for options with an estate planning professional. n tax purposes. This may be a solution for some as the lower interest rates of recent years and lower projected The Economic Growth and Tax Relief Reconciliation stock market returns have many individuals feeling less Act of 2001 contains a “sunset” provision that repeals secure that their assets will fully cover their own future this Act as of December 31, 2010. Consequently, all tax financial needs. code changes made under the Act will revert to their status prior to enactment once again on January 1, The higher exemption also may cause you to re-examine 2011. Unless there is future legislation, the Act will the necessity for a credit shelter or irrevocable life only be effective through the year 2010. insurance trust. Both can be costly to set up and require 5
  6. 6. Maximizing the tax benefits of your vacation home Enjoy the property and realize rental income If you rent out your vacation home for part of the Personal or rental use year, it might provide you with both a much-needed If you use the home for 14 days or less, or under 10% getaway and some nice income. But be careful about of the days the property is rented out (whichever is how it affects your tax situation. Depending on how greater), your vacation home is treated as a rental frequently you personally use vs. rent out the prop- property. And, under a special exemption, you need erty, you may be trading its recreational or income not report rental income if you rent the house for 14 benefits for a higher tax bill. days or less annually. Note that you wouldn’t deduct expenses either — except for mortgage interest and How, then, can you continue to rent, yet maximize your real estate taxes deductible as an itemized deduction. vacation home’s tax and financial benefits? If you’re careful about how it’s used and by whom, you might be able to treat your home-away-from-home as a personal residence, a rental property or a mix of the two. Depending on how frequently you personally use vs. rent out the property, you may be trading its recreational or income benefits for a higher tax bill. But if you rent it for more than 14 days a year and use it yourself for more than 14 days, you must allocate expenses between your home’s rental and personal-use per- centages. For example, if you rent your home for six months every year and use it yourself for the other six, you must report the rental income on Schedule E, offsetting it with half of the property expenses and depreciation. Expenses exclusively related to renting, such as advertising costs, remain 100% deductible. You can deduct the rental portion of expenses for items such as mortgage interest, real estate taxes, maintenance, insurance, utili- ties, and depreciation. If your adjusted gross income falls 6
  7. 7. below $100,000, you may be able to recognize a Have your cake and eat it current-year net loss of up to $25,000. Allowable Vacation homes can offer losses phase out between $100,000 and $150,000. both a pleasurable retreat And if you’re a real estate professional or have enough and a valuable source of “passive” income from other sources, losses may be fully income. Be sure you deductible regardless of the income limitations. don’t ignore the tax implications of owning If you don’t qualify for the special loss allowance, your this asset. Review deductions are generally restricted under the passive your tax strategy activity rules, which say that any excess rental losses now for potential above rental income can usually offset only other pas- sive income until the property is sold. opportunities. n New protection for IRA assets An April 2005 U.S. Supreme Court decision and The Supreme Court, however, ruled that, because subsequent federal bankruptcy legislation provide investors face a substantial tax penalty if they withdraw new protection to owners of IRAs who declare IRA assets before turning age 591⁄ 2, the accounts bankruptcy. IRA assets now join those of corporate have more in common with 401(k)s and other types pensions, 401(k) plans and Social Security accounts as of retirement savings vehicles. being off-limits — at least in part — to creditors. Before the decision, 34 states already had laws With more than 45 million IRA accounts held nation- protecting IRA assets. Now, savings belonging to wide, according to the Investment Company Institute, residents of these other states are also protected: and 1.6 million Americans declaring bankruptcy in Alaska, Arkansas, Connecticut, Hawaii, Michigan, 2004 (Administrative Office of the U.S. Minnesota, New Hampshire, New Jersey, New Mexico, Courts), the court’s recent decision is Pennsylvania, Rhode Island, South Dakota, Texas, likely to have far-reaching Vermont, Washington, Wisconsin and the consequences. District of Columbia. The case involved a bankrupt An additional level of bank- couple whose creditors wanted ruptcy protection came just a to seize more than $55,000 week after the Supreme Court’s in retirement assets rolled decision, when the president over from an employer- signed the Bankruptcy Abuse sponsored savings plan Prevention and Consumer into an IRA. The court’s Protection Act of 2005. This 9-0 ruling reversed wide-ranging legislation includes several lower-court provisions that exempt up to decisions, which had $1 million of IRA accounts, adjusted treated IRA assets differ- for inflation, from creditors. This pro- ently from other retire- tection applies to bankruptcy ment accounts because filings after Oct. 17, 2005, and will account holders are allowed to supersede prior federal and state legisla- make withdrawals at any time, making tion and case law, to clarify the rules and IRAs comparable to savings accounts. bring protection to IRA account holders. n This publication was developed by a third-party publisher and distributed with the understanding that the publisher and distributor are not rendering legal, accounting or other professional advice or opinions on specific facts or matters and recommend you consult with a professional attorney, accountant, tax professional, financial advisor or other appropriate industry professional. The hypothetical examples used are for illustrative purposes only and not intended to represent the value or performance of any specific product or to predict or guarantee actual results, which will vary. ©2005 PFP/WMAnd05 7
  8. 8. C LE NOX A DV I SOR S , I N C NEW YORK • CHICAGO • SAN FRANCISCO 530 Fifth Avenue, 11th Floor, New York, NY 10036, 212-536-8700 • 300 South Wacker Drive, 8th Floor, Chicago, IL 60606, 312-347-1680 535 Pacific Avenue, 2nd Floor, San Francisco, CA 94133, 415-486-2180 • www.lenoxadvisors.com Unintended Consequence: The Dark Side of Parental Largesse By Joline Godfrey, author, Raising Financially Fit Kids “I can well afford to give my kids everything, so what’s the problem with that?” Recently I gave a talk in San Francisco. In the audience was a couple whose despair was all too obvious. Their 28 year- old daughter was living at home, had neither vocation or avocation, and was, they felt, completely without capacity to manage the substantial assets in trust that were about to come available to her. Loved and indulged, the young woman had not, as they put it, “found herself”. Tolerant of her search for purpose and meaning, they were alarmed that she still had neither skills or understanding to be the “CEO” of her trust fund. “What can we do?” they wanted to know. Making Children Happy I’ve heard every imaginable explanation of unbridled largesse: n I can so I will. n I don’t want her/him/them to hate me. n If I don’t give her/him (whatever), they will be outcasts among their peers. n I want him/her to be happy. n I want them to have what I didn’t have. n I want him/her to be free to (fill in the blank). I have never heard a parent or grandparent say: “Relieved from knowing how to audit their auditors, free to let their advisors make all their financial decisions, exempt from understanding the basic requirements of managing assets and shepherding legacy, my child/grandchild will be so much better off.” Unintended Consequences Making children (3 or 30) happy is, at least temporarily, easier than insisting they acquire the skills that lead to a secure and satisfying life. One father put it plainly, “Easier to feed the tiger,” he said to me, “than deal with her.” This loving Dad was referring to his 16 year-old daughter. Candidly explaining that the struggle to make her financially mindful was simply more than he could or would contend with, he was — on some not very deep level — choosing to confront the problems he was creating … later. Later often turns into the 28 year-old who the parents in my audience were now dealing with. Giving kids everything, “because you can” too often sets in play unintended consequences that work against the best interests of the child. Making sure children develop the financial skills to be self reliant (able to tell good advice from bad); secure (adaptable in an ever changing world), and purposeful (understanding that capital is a vehicle and not an end in itself) is a more effective form of largesse, than giving them all the pleasures of the world and exempting them from the imperative to become financially conscious and self managing. Joline Godfrey is the CEO of Independent Means, Inc., providing solutions for raising financially fit kids. She is also the author of No More Frogs To Kiss: 99 Ways to Give Economic Power to Girls; Our Wildest Dreams; Women Making Money Doing Good Having Fun, and is the publisher of MoneyWise™, The Raising Financially Fit Kids Newsletter as well as the author of numerous articles published in national magazines. AN COMPANY ® Securities offered through registered representatives of MML Investors Services, Inc., 530 Fifth Avenue, 14th Floor, New York, NY 10036, 212-536-6000 Investment Advisory Services offered through Lenox Advisors, Inc. Lenox Advisors, Inc. is not a subsidiary of, nor affiliated with MML Investors Services, Inc. Lenox Advisors, Inc. is a wholly owned subsidiary of National Financial Partners Corporation [NFP], a financial services holding company, New York, NY. Management services are provided by Lenox Management Company, LLC under contract with NFP. NFP is not an affiliate or subsidiary of MML Investors Services, Inc. #73725 © 2005 Lenox Advisors, Inc. All rights reserved.