Money & Life Winter 2009 Issue Single Gear 2009 10803


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Money & Life Winter 2009 Issue Single Gear 2009 10803

  1. 1. WINTER 2009 ISSUE A Business Owner’s Guide to Inflation I f the U.S. economy emerges from a painful recession over the next year, concerns over higher inflation may creep back into the headlines. “Inflation” represents an increase in the price of goods and services, as measured in currency (such as U.S. dollars). Why might inflation be a threat? Renewed economic growth could increase demand for goods and services at a time when low interest rates and government stimulus programs have unleashed vast amounts of money into the economy. When too much money chases a limited quantity of goods and services, higher inflation can result. In the U.S., inflation is measured by changes in the Consumer Price Index (CPI), published monthly by the Bureau of Labor Statistics. The average rate of inflation in the U.S. over the past 25 years has been about 3% per year. HIGHLIGHTS A normal range for annual increases in the CPI is about 1-4%. For every year from 1992 1 A Business Owner’s Guide to Inflation through 2008, inflation stayed within this range, which is considered to be optimum for promoting steady economic growth. 2 The Roth IRA: To Convert or Not to Convert? Rarely has the U.S. economy experienced “deflation,” a period of falling prices. In fact, we 3 The Benefits of a Current Business Appraisal have had only two years of deflation since 1940 (1949 and 1955) and both were mild. 4 Term Conversions Create Access to Permanent Insurance Protection The Stagflation Threat business has limited need for financing now, this Currently, some economists are worried about can be a good time to lock in loan terms or lines the potential for higher inflation, above the of credit. Loans become scarcer in time of stag- 1-4% range, and they point to the late 1970s as flation because lenders are less willing to lend in a precedent. This era followed another grueling a sluggish economy. Now is a good time to put recession, from 1973-75, and it produced an financial statements and loan requests in order, average annual increase in the CPI of more than build relationships with lenders, and learn about 9% over an eight year period (1974-81). Small Business Administration loan programs. During this era, millions of Americans became Lock in your operating costs – If your Michael L. Pitkin 602-957-7155 familiar with “stagflation” – a term that 2 business rents space, today’s commercial Registered Representative, Park Avenue describes above-average inflation coupled with real estate market may offer opportunities to Securities LLC (PAS). Securities products sluggish economic growth. In a stagflation re-negotiate leases and lock in favorable and services are offered through PAS, an indirect wholly owned subsidiary of The economy, consumers’ standard of living declines long-term costs. In a sustained period of rising Guardian Life Insurance Company of America (Guardian), New York, NY. as prices rise faster than wages. Corporate inflation, rents generally move higher– especially PAS is a member FINRA, SIPC. profits may be stagnant, and returns from both those with built-in cost-of-living increases. Other stocks and bonds may be disappointing until the operating costs, such as those for vehicles and economy resumes growth. equipment, also can rise during inflationary times. Locking in those costs now can be a smart move. Precautions Against Higher Inflation Identify and reward your most valuable 3 people – In the recent recession, many If the U.S. economy does experience above- average inflation (or stagflation), how can business owners have had to tighten their belts business owners prepare? Here are a few on labor costs, and some have had to cut back specific ideas: the workforce or hours. But even in tough times, business success depends on retaining a core Plan your financing needs – High interest group of key employees. Unless the business 1 rates and high inflation usually go together, offers executive benefits or incentives, your most because banks and other lenders want to earn a valuable people can be vulnerable to competitors. rate of return in excess of inflation. Even if your (See Inflation on page 3) 1
  2. 2. The Roth IRA: To Convert or Not to Convert? On January 1, 2010 the income limits on converting a Traditional IRA to a Roth IRA will be eliminated. That means everyone is eligible to convert to a Roth and after investors complete the conversion process, they will not be taxed on future investment growth. But a Roth conversion may not make sense for all investors. If you’re thinking of converting to a Roth, here are some things to discuss with your tax advisor. Beginning in 2010, the income limits on Roth IRAs will be eliminated, so investors of all income levels will be able to convert their Traditional IRA assets to Roth IRA assets. This is significant because today your modified adjusted gross income (MAGI) must be $100,000 or less for you to be able to convert. Your Tax Advisor Can Help You Roth IRAs: Consider These Key Points: • Once you have held the Roth IRA for at least five years and you are at least age 59½, • You may pay less in taxes – If you convert withdrawals are tax-free your Traditional IRA balance to a Roth IRA, • You don’t have to take required minimum distributions when you turn age 70½ you’ll pay taxes on the amount being • If you don’t need the money, you can leave your Roth assets to your children or other heirs converted. But because of market volatility, Traditional IRAs: your account balance may be lower than it • Contributions may be tax-deductible* was when the market was stronger. In effect, • Offers incentives for taxpayers who expect to be in a lower tax bracket during retirement you may pay less in taxes. • The taxpayer gets the tax benefit immediately • Option to spread the tax burden over two * Contributions to a Traditional IRA may be tax deductible depending on your income and whether or not you participate in an employer-sponsored retirement plan. years – When you convert to a Roth IRA, you will have to pay taxes on any deductible contributions and investment earnings. But, if Is a conversion to a Roth IRA right for you? Here are some you make the conversion in 2010, you can points to consider: pay the taxes in 2010 or you can spread the My tax rate will not decline If you think you’ll be in a lower tax bracket in retire- taxes over the subsequent two years, 2011 NO when I retire. ment, then converting to a Roth IRA might not make sense and 2012. for you. You may prefer to leave your assets in Traditional • No required minimum distributions – YES IRA and pay the taxes when you take the withdrawals. Unlike Traditional IRAs, Roth IRAs do not I won’t need to withdraw the If this is not a long-term investment, the Roth’s potential require that you take required minimum money for at least five years and NO for tax-free earnings may not make back the money you distributions when you reach age 70½. That I will be at least age 59½ before pay in taxes on the conversion and early withdrawals are means your account can continue to grow I need to make a withdrawal. subject to penalties. tax-free until you – or your heirs – are ready YES to withdraw the money. I can pay the taxes due on If you can’t pay the taxes from sources other than your • Income limitations still apply – You the conversion without dipping NO IRA, then converting to a Roth may not make sense. There may not necessarily be eligible for further into my IRA. are two reasons why paying the taxes with your IRA may contributions to a Roth IRA. Income not make sense: 1) you will lose the potential benefit of YES tax-free growth on that amount and, 2) if you’re under 59½, limitations will still apply to Roth contribu- you will also incur a penalty for early withdrawal. tions. Talk with your tax advisor to You may want to consider learn more. converting your Traditional IRA balance to a Roth IRA. Talk to your tax advisor to learn more about the A Hypothetical: important tax and retirement planning considerations. Spreading the Tax Burden • Matthew’s Traditional IRA has a $50,000 To find out more about Traditional and Roth IRAs, consult your tax advisor. You can also access balance a Roth Conversion Calculator at To access the calculator, click • He converts it to a Roth IRA on on Retirement Programs on the first two screens at Then click on Retirement Calculators and scroll to “Should I Convert to a Roth IRA?” February 1, 2010 • Matthew decides not to pay the taxes on Please note that neither Guardian Investor Services LLC nor any of its Not FDIC the conversion in 2010 Not A affiliates or agents are authorized to give legal or tax advice. Inves- or NCUA Deposit tors should consult with their tax advisor or an attorney regarding their Insured • Matthew elects to include $25,000 in specific situation. gross income for 2011 and $25,000 in This material provided by: Guardian Investor Services LLC (GIS) No Bank or GIS is wholly owned subsidiary of The Guardian Life Insurance gross income for 2012. May Lose Credit Union Company of America, New York, NY. Value Guarantee 2 GIS is a member: FINRA, SIPC
  3. 3. The Current Opportunity In Grats The Benefits of a Current Business Appraisal A Grantor Retained Annuity Trust (GRAT) is an estate planning technique that allows M any business owners can tell you the approximate value of their personal homes. Yet, they owners of closely held businesses to make may have very little idea what their privately held companies are worth. irrevocable lifetime gifts of stock with little or no gift tax consequences. The transfer Even if the business represents years of hard work and has become the owner’s most important is based on the stock’s current value, as asset, an estimate of its value may be based mainly on guesswork. determined by a professional appraisal. Fortunately, an established professional of business appraisers exists to eliminate the guesswork. The owner receives an annuity income payout Using consistent standards, appraisers determine and document a “fair market value” for a privately over a period of years. Any increase in the held business of virtually any size. According to an IRS ruling, this represents the estimated price stock’s value, after the GRAT is set up, that a willing buyer and a willing seller would agree upon if both were under no pressure to buy or normally is not included in the owner’s estate. sell and both had reasonable knowledge of relevant facts. This technique may be very attractive when IRS-required interest rates (used to value the Advantages of a Professional Business Appraisal annuity) are low. Consult an estate planning or personal tax advisor for details. Having a professional appraisal of business value can help in a variety of strategies, including: • Planning for business succession, including agreements to transfer shares of ownership through “buy-sell” agreements. The appraiser can determine a price for share transfers that Inflation the IRS will accept. (Continued from page 1.) • Creating a fair division of assets between an owner and a spouse in a divorce settlement, or between two or more owners who are parting company. Now is the time to identify the people your • Determining an acceptable value for lifetime giving strategies to transfer stock of a closely business can’t afford to be without – and help them maintain their personal progress held corporation. Today’s low-interest rates create unique opportunities for gifting techniques and purchasing power during any period of such as Grantor Retained Annuity Trusts. (See above right column for more on this idea.) inflation or stagflation. • Disposing of the business through a sale, while the owner is alive. Invest in your business and Leading business appraisers meet the standards of professional organizations such as the 4 protect its value – If higher inflation American Society of Appraisers and the Institute of Business Appraisers. They charge fees that occurs, solid small businesses will become vary with the complexity and size of the business and the time required to conduct the appraisal, even more valuable. One of the best decisions including data collection and analysis. Each appraisal may involve one or more calculation an owner can make is to reinvest profits into methods, and it is common for two appraisers to arrive at somewhat different results. The appraisal talented people and tangible investments that methods include: build business value. If you have obtained a professional assessment of your business’s • Comparable recent sales of companies with similar characteristics and size. value, make sure to have it updated • Evaluation of the stock prices of similar publicly traded companies. periodically, to adjust for inflation. (See • Analysis of the discounted present value of the company’s projected income or cash flow. the related article in this issue.) Business • Analysis of the company’s balance sheet, including assets, liabilities and “book value.” succession planning and agreements should be updated to reflect current value. Several factors can cause the fair market value of a business to change over time. They include growth and expansion, market and competitive conditions, changes in the value of assets -such Inflationary eras are unpredictable, and the as plant and equipment, and strengths of the owner and executive staff. Some successful small economists aren’t always right in predicting businesses offer executive benefits for key executives, with incentives tied to the achievement of them. But whether or not inflation moves increases in business value. higher, business owners can take steps now to plan wisely, maintain growth, and protect Financial professionals such as CPAs and insurance advisors can make referrals to qualified the value they are building. business appraisers. If you don’t have a clear idea what your business is worth, there may be no better time to find out than now. 3
  4. 4. Term Conversions Create Access to Permanent Insurance Protection Many households make their first life insurance purchases by choosing an affordable amount of term coverage. For example, a young family that needs $500,000 of protection and has a limited budget for paying premiums may find term insurance useful for a period of time. In “level-term” products, the coverage is guaranteed to continue at a constant premium for a period of 5, 10, 15 or even 30 years. But what happens when the level-premium period expires? Because the probability of death rises with age and term insurance provides pure death protection, premiums can increase significantly over time. Eventually, the term coverage that seemed affordable at younger ages becomes prohibitively expensive at older ages. To help policyholders avoid this dilemma, many life insurance companies offer a “term conversion option” that works as a kind of bridge from term to permanent protection. When the policy holder takes advantage of this option, the coverage changes from a term life insurance program to a permanent program designed for life. Although premiums are higher initially after conversion, the permanent insurance coverage also offers more benefits. For example, permanent insurance includes a cash value that can accumulate on a tax-deferred basis over time. Later in life, the cash value can provide liquidity for short-term needs or help to fund major goals such as college and retirement. Permanent insurance also can include a lifetime coverage guarantee and predictable premiums, regardless of age. When permanent insurance is obtained from a mutual insurance company, the policyholder can participate in any dividends that the company may declare. (Dividends are not guaranteed.) Common Conversion Features Everyone who owns term life insurance should be aware of any conversion features in their contracts. Here are a few common features: • Conversion period – This defines the period in which the policyholder may choose to convert from term to permanent coverage. For example, some 10-year level-term policies allow conversion at any time through the end of the tenth year, while in others the option to convert expires in fewer years, or at a given age. • No medical exam required – The term conversion may continue the existing level of coverage in a new permanent policy without requiring proof of insurability or a medical exam. The health class assigned to the term policy carries over into the permanent. This feature can be very attractive to individuals who have experienced medical problems or declining health. • Conversion credits – The insurance company may credit part of the term premium already paid toward the cost of the permanent program. In some cases, the term coverage must have been in place for a minimum period to qualify. • Rider continuation – Rider benefits chosen for the term coverage, such as a disability waiver of premium, can be continued in the permanent coverage. • Partial conversion – Some insurance companies allow part of the term coverage to be retained while the balance is converted to permanent. This option can help families tailor life insurance coverage to personal needs and budgets. It’s usually a good idea to begin evaluating conversion options with professional help well before they expire. Normally, the permanent insurance premium is based on the insured’s age at the time of conversion. Therefore, converting earlier, rather than later, can mean lower continuing premiums for the rest of your life. In summary, term insurance is designed to provide pure insurance protection for a defined period of time. But when it includes a conversion option, term also can make permanent protection more accessible and affordable. The information and views contained in these materials are for informational purposes only and do not contend to address the financial objectives, situation or specific needs of any individual investor. The information presented does not constitute, and should not be construed as, investment advice. Neither Park Avenue Securities nor its representatives provide tax or legal advice, please consult your advisors regarding 4 your specific situation. Gear 2009-10803