Reviewing Your Finances Mid-Year
You made it through tax season and now you're looking forward to your summer vacation. But before you go, take some time to review your finances. Mid-year is an ideal time to do so, because the demands on your time may be fewer, and the planning opportunities greater, than if you wait until the end of the year.
Think about your priorities
What are your priorities? Here are some questions that may help you identify the financial issues you want to address within the next few months.
- Are any life-changing events coming up soon, such as marriage, the birth of a child, retirement, or a career change?
- Will your income or expenses substantially increase or decrease this year?
- Have you managed to save as much as you expected this year?
- Are you comfortable with the amount of debt that you have?
- Are you concerned about the performance of your investment portfolio?
- Do you have any other specific needs or concerns that you would like to address?
Take another look at your taxes
Completing a mid-year estimate of your tax liability may reveal tax planning opportunities. You can use last year's tax return as a basis, then make any anticipated adjustments to your income and deductions for this year.
You'll want to check your withholding, especially if you owed taxes when you filed your most recent income tax return or you received a large refund. Doing that now, rather than waiting until the end of the year, may help you avoid a big tax bill or having too much of your money tied up with Uncle Sam. If necessary, adjust the amount of federal or state income tax withheld from your paycheck by filing a new Form W-4 with your employer.
To help avoid missed tax-saving opportunities for the year, one basic thing you can do right now is to set up a system for saving receipts and other tax-related documents. This can be as simple as dedicating a folder in your file cabinet to this year's tax return so that you can keep track of important paperwork.
Reconsider your retirement plan
If you're working and you received a pay increase this year, don't overlook the opportunity to increase your retirement plan contributions by asking your employer to set aside a higher percentage of your salary. In 2015, you may be able to contribute up to $18,000 to your workplace retirement plan ($24,000 if you're age 50 or older).
If you're already retired, take another look at your retirement income needs and whether your current investments and distribution strategy will continue to provide enough income.
Review your investments
Have you recently reviewed your portfolio to make sure that your asset allocation is still in line with your financial goals, time horizon, and tolerance for risk? Though it's common to rebalance a portfolio at the end of the year, you may need to rebalance more frequently if the market is volatile.
Note: Asset allocation is a method used to help manage investment risk; it does not guarantee a profit or protect against investment loss.
Identify your insurance needs
Do you know exactly how much life and disability insurance coverage you have? Are you familiar with the terms of your homeowners, renters, and auto insurance policies? If not, it's time to add your insurance policies to your summer reading list. Insurance needs frequently change, and it's possible that your coverage hasn't kept pace with your income or family circumstances.
Age-Based Tips for Making the Most of Your Retirement Savings Plan
No matter what your age, your work-based retirement savings plan can be a key component of your overall financial strategy. Following are some age-based points to consider when determining how to put your plan to work for you.
Just starting out
Just starting your first job? Chances are you face a number of financial challenges. College loans, rent, and car payments all compete for your hard-earned paycheck. Can you even consider contributing to your retirement plan now? Before you answer, think about this: The time ahead of you could be your greatest advantage. Through the power of compounding--or the ability of investment returns to earn returns themselves--time can work for you.
Example: Say at age 20, you begin investing $3,000 each year for retirement. At age 65, you would have invested $135,000. If you assume a 6% average annual rate of return, you would have accumulated $638,231 by that age. However, if you wait until age 45 to invest that $3,000 each year, and earn the same 6% annual average, by age 65 you would have invested $60,000 and accumulated $110,357. By starting earlier, you would have invested $75,000 more but would have accumulated more than half a million dollars more. That's compounding at work. Even if you can't afford $3,000 a year right now, remember that even smaller amounts add up through compounding.1
Finally, time offers an additional benefit to young adults: the ability to potentially withstand greater short-term losses in pursuit of long-term gains. You may be able to invest more aggressively than your older colleagues, placing a larger portion of your retirement portfolio in stocks to strive for higher long-term returns.2
Getting married and starting a family
At this life stage, even more obligations compete for your money--mortgages, college savings, higher grocery bills, home repairs, and child care, to name a few. Although it can be tempting to cut your retirement plan contributions to help make ends meet, try to avoid the temptation. Retirement needs to be a high priority throughout your life.
If you plan to take time out of the workforce to raise children, consider temporarily increasing your plan contributions before leaving and after you return to help make up for the lost time and savings.
Also, while you're still decades away from retirement, you may have time to ride out market swings, so you may still be able to invest relatively aggressively in your plan. Be sure to fully reassess your risk tolerance before making any decisions.2
Reaching your peak earning years
This stage of your career brings both challenges and opportunities. College bills may be invading your mailbox. You may have to take time off unexpectedly to care for yourself or a family member. And those pesky home repairs never seem to go away.
On the other hand, with 20+ years of experience behind you, you could be earning the highest salary of your career. Now may be an ideal time to step up your retirement savings. If you're age 50 or older, you can contribute up to $24,000 to your plan in 2015, versus a maximum of $18,000 if you're under age 50. (Some plans impose lower limits.)
Preparing to retire
It's time to begin thinking about when and how to tap your plan assets. You might also want to adjust your allocation, striving to protect more of what you've accumulated while still aiming for a bit of growth.3
A financial professional can become a very important ally at this life stage. Your discussions may address health care and insurance, taxes, living expenses, income-producing investment vehicles, other sources of income, and estate planning.4
You'll also want to familiarize yourself with required minimum distributions (RMDs). The IRS requires you to begin taking RMDs from your plan by April 1 of the year following the year you reach age 70½, unless you continue working for your employer.5
Throughout your career, you may face other decisions involving your plan. Would Roth or traditional pretax contributions be better for you? Should you consider a loan or hardship withdrawal from your plan, if permitted, in an emergency? When should you alter your asset allocation? Along the way, a financial professional can provide an important third-party view, helping to temper the emotions that may cloud your decisions.
1This hypothetical example is for illustrative purposes only. Investment returns will fluctuate and cannot be guaranteed.
2All investing involves risk, including the possible loss of principal, and there can be no assurance that any investment strategy will be successful. Investments offering a higher potential rate of return also involve a higher level of risk.
3Asset allocation is a method used to help manage investment risk; it does not guarantee a profit or protect against a loss.
4There is no assurance that working with a financial professional will improve your investment results.
5Withdrawals from your retirement plan prior to age 59½ (age 55 in the event you separate from service) may be subject to regular income taxes as well as a 10% penalty tax.
Three College Savings Strategies with Tax Advantages
To limit borrowing at college time, it's smart to start saving as soon as possible. But where should you put your money? In the college savings game, you should generally opt for tax-advantaged strategies whenever possible because any money you save on taxes is more money available for your savings fund.
A 529 plan is a savings vehicle designed specifically for college that offers federal and state tax benefits if certain conditions are met. Anyone can contribute to a 529 plan, and lifetime contribution limits, which vary by state, are high--typically $300,000 and up.
Contributions to a 529 plan accumulate tax deferred at the federal level, and earnings are tax free if they're used to pay the beneficiary's qualified education expenses. (In his State of the Union speech in January, President Obama proposed eliminating this tax-free benefit but subsequently dropped the proposal after a public backlash.) Many states also offer their own 529 plan tax benefits, such as an income tax deduction for contributions and tax-free earnings. However, if a withdrawal is used for a non-educational expense, the earnings portion is subject to federal income tax and a 10% federal penalty (and possibly state tax).
529 plans offer a unique savings feature: accelerated gifting. Specifically, a lump-sum gift of up to five times the annual gift tax exclusion ($14,000 in 2015) is allowed in a single year per beneficiary, which means that individuals can make a lump-sum gift of up to $70,000 and married couples can gift up to $140,000. No gift tax will be owed if the gift is treated as having been made in equal installments over a five-year period and no other gifts are made to that beneficiary during the five years. This can be a favorable way for grandparents to contribute to their grandchildren's education.
Also, starting in 2015, account owners can change the investment option on their existing 529 account funds twice per year (prior to 2015, the rule was once per year).
Note: Investors should consider the investment objectives, risks, fees, and expenses associated with 529 plans before investing. More information about specific 529 plans is available in each issuer's official statement, which should be read carefully before investing. Also, before investing, consider whether your state offers a 529 plan that provides residents with favorable state tax benefits. Finally, there is the risk that investments may lose money or not perform well enough to cover college costs as anticipated.
Coverdell education savings accounts
A Coverdell education savings account (ESA) lets you contribute up to $2,000 per year for a child's college expenses if the child (beneficiary) is under age 18 and your modified adjusted gross income in 2015 is less than $220,000 if married filing jointly and less than $110,000 if a single filer.
The federal tax treatment of a Coverdell account is exactly the same as a 529 plan; contributions accumulate tax deferred and earnings are tax free when used to pay the beneficiary's qualified education expenses. And if a withdrawal is used for a non-educational expense, the earnings portion of the withdrawal is subject to income tax and a 10% penalty.
The $2,000 annual limit makes Coverdell ESAs less suitable as a way to accumulate significant sums for college, though a Coverdell account might be useful as a supplement to another college savings strategy.
Though traditionally used for retirement savings, Roth IRAs are an increasingly favored way for parents to save for college. Contributions can be withdrawn at any time and are always tax free (because contributions to a Roth IRA are made with after-tax dollars). For parents age 59½ and older, a withdrawal of earnings is also tax free if the account has been open for at least five years. For parents younger than 59½, a withdrawal of earnings--typically subject to income tax and a 10% premature distribution penalty tax--is spared the 10% penalty if the withdrawal is used to pay a child's college expenses.
Roth IRAs offer some flexibility over 529 plans and Coverdell ESAs. First, Roth savers won't be penalized for using the money for something other than college. Second, federal and college financial aid formulas do not consider the value of Roth IRAs, or any retirement accounts, when determining financial need. On the flip side, using Roth funds for college means you'll have less available for retirement. To be eligible to contribute up to the annual limit to a Roth IRA, your modified adjusted gross income in 2015 must be less than $183,000 if married filing jointly and less than $116,000 if a single filer (a reduced contribution amount is allowed at incomes slightly above these levels).
And here's another way to use a Roth IRA: If a student is working and has earned income, he or she can open a Roth IRA. Contributions will be available for college costs if needed, yet the funds won't be counted against the student for financial aid purposes.
529 plan fast facts
Total assets in 529 plans reached a record $247.9 billion at the end of 2014 (up from $227.1 billion in 2013). The total number of accounts was 12.1 million (up from 11.6 million in 2013), and the average account balance was $20,474 (up from $19,584 in 2013). Source: College Savings Plans Network, 529 Report: An Exclusive Year-End Review of 529 Plan Activity, March 2015
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What should I do to get my legal life in order before deployment?
Although each situation is different, getting your legal life in order before you're deployed overseas can be especially helpful for you and your family. Here are a few suggestions:
Develop a family care plan. Each servicemember is responsible for preparing a family care plan. The plan generally outlines who is responsible for providing care to family members during your absence. The plan should include identification of a guardian for children; location of necessary identification cards; arrangements for housing, food, transportation, education; and other important financial information.
Prepare (or review and update, if necessary) your last will and testament. A will is a legal document that describes to whom and how you want your property distributed, names the person or entity that will administer your estate, and specifies who (i.e., a guardian) will care for your minor or disabled child.
Create a durable (financial) power of attorney. This is a document in which you name someone to act on your behalf for a specific purpose (e.g., to sell your home) or to manage your financial affairs should you become unable to do so yourself.
Be sure your health-care directives are in place. A health-care proxy and living will allow you to express your wishes about the administration of medical treatment and life-prolonging measures during times when you cannot otherwise express those intentions.
Review your beneficiary designations. This important, often-overlooked function allows you to name beneficiaries of financial products you own such as life insurance, annuities, and qualified savings accounts such as your Thrift Savings Plan and IRAs.
Consider your funeral and burial arrangements. Your wishes for your funeral, the disposition of your remains (e.g., cremation, burial), and organ donations may be explained in your will or separately in writing.
Be sure someone knows the location of important documents and the procedures for accessing military and civilian facilities and services on behalf of your dependents.