Category Archives: June

Fixing Social Security: America Faces Tough Choices America faces tough choices among potential solutions proposed to address Social Security’s fiscal deficit.

In May 2015, researchers from Harvard and Dartmouth published a report suggesting that actuaries for the Social Security Administration have been underestimating the demographic challenges facing the program since 2000.1 The fact that Social Security is in trouble was not a surprise, but the possibility that the day of reckoning might come sooner than previously projected generated considerable media attention and may spur renewed political debate.

Social Security is the centerpiece of America’s retirement safety net. Nine out of 10 retirees and eight out of 10 workers are counting on the program as an important source of retirement income.2

Regardless of your age and working status, this might be a good time to look at the challenges facing the program and the potential solutions for addressing its fiscal problems.

Battling Demographics

There is no mystery to the fundamental problem. Because of Americans’ longer life spans and lower birth rates, there are not enough workers to support the growing number of beneficiaries. In 1955, there were 8.6 workers for each beneficiary. The number of workers per beneficiary fell to 4.0 by 1965 and 3.2 by 1975. Currently, there are only 2.8 workers contributing to Social Security for each beneficiary. By 2035, this is expected to drop to 2.1, at which point it will level off.3

Since 2010, the Social Security system has been supplementing its revenues from trust funds built up during the period when revenues exceeded expenses. Based on current actuarial projections, these funds will run out in 2033, at which point the program might be able to pay only 77% of scheduled benefits; the percentage falls to 72% by 2088.4

Although the Harvard-Dartmouth researchers did not offer a specific date when the funds might run out, they found that the program’s expenses have been consistently underestimated since 2000, primarily because they were not fully adjusted for increasing life spans.5

Possible Solutions

A 2014 study by the National Academy of Social Insurance (NASI) looked at potential solutions addressing Social Security’s funding shortfall in terms of their impact (based on current actuarial data) and public opinion.

The most popular revenue-enhancing changes — “strongly” or “somewhat” favored by more than four out of five survey respondents — were to gradually raise the FICA payroll tax rate (paid by both workers and employers) from 6.2% to 7.2% over 20 years, and to gradually eliminate the taxable earnings cap over 10 years so that all earnings would be taxed.6

In 2015, workers’ earnings up to a maximum of $118,500 are subject to the payroll tax; the earnings cap is indexed annually for inflation. Raising the taxable earnings cap to $230,000 (which would cover 90% of all earnings by U.S. workers, a target set by Social Security legislation) would reduce the funding gap by 29%. Eliminating the earnings cap altogether would reduce the gap by 74%. Gradually raising the payroll tax would address about 52% of the shortfall.7

A majority of survey respondents oppose benefit reductions, such as reducing or eliminating benefits for high-income beneficiaries, raising the retirement age, and reducing the cost-of-living adjustment (COLA). In fact, 70% to 80% of respondents favored potential benefit increases, including raising the COLA, raising benefits for those who are 85 and older, reinstating survivor benefits for college students, and raising the minimum benefit. Of course, any benefit enhancements would only increase the deficit and would have to be offset by revenue increases.8

These reforms could work with the current Social Security system, but some legislators have suggested a more fundamental shift toward privatization ­— allowing younger workers to divert some or all of their payroll taxes from Social Security to private accounts. However, this approach would increase the current Social Security deficit, and it raises questions about the long-term security of a private savings program.

Finding Consensus

Using a trade-off analysis technique, the National Academy of Social Insurance found that 71% of survey respondents favored a reform package that included (1) gradually eliminating the taxable earnings cap, (2) gradually increasing the payroll tax rate, (3) raising the COLA to reflect inflation experienced by seniors, and (4) increasing the minimum benefit. This proposal would eliminate an estimated 113% of the shortfall currently projected by the Social Security actuaries.9 However, if the Harvard-Dartmouth researchers are correct, additional changes would be required, perhaps excluding the benefit increases.

The NASI study suggests that Americans may be ready to support steps to rescue Social Security. The larger question is whether policymakers are willing to make the difficult choices required.

With heightened public attention, the future of Social Security may become an issue in the 2016 political elections. If so, renewed focus on an old problem may help ensure the future of America’s retirement safety net.

1, 5) Journal of Economic Perspectives, Spring 2015
2) Employee Benefit Research Institute, 2015
3–4) Social Security Administration, 2014
6–9) National Academy of Social Insurance, 2014

The information in this article is not intended as tax or legal advice, and it may not be relied on for the purpose of avoiding any federal tax penalties. You are encouraged to seek tax or legal advice from an independent professional advisor. The content is derived from sources believed to be accurate. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. This material was written and prepared by Emerald. Copyright 2015 Emerald Connect, LLC.

Aiming at Target-Date Funds How target-date funds work and why it’s important to understand a fund’s specific strategy.

Target-date funds are increasingly popular in workplace retirement plans, where they are often the default option for new employees. A 2014 study found that 15% of all 401(k) assets — including 32% of assets for recently hired plan participants — were invested in target-date funds.1

These funds are not limited to new hires. Overall, more than two out of five 401(k) participants have at least some assets in a target-date fund.2 Investors also hold target-date funds in IRAs and other types of accounts.

One-Stop Asset Allocation

The appeal of target-date funds is their apparent simplicity. They provide a professionally managed mix of assets — typically funds comprising stocks, bonds, and cash alternatives — selected for a specific time horizon.

The concept is to provide a balanced portfolio in a single mutual fund. Asset allocation is a widely accepted method to help manage investment risk; however, it does not guarantee a profit or protect against investment loss.

Although target-date funds offer investment simplicity, they are quite complex in the way they work. So whether you already own a target-date fund or may purchase one in the future, it’s important to understand the basic principles.

Anatomy of a Fund

The target date, which is typically included in the fund’s name, is the approximate date when an investor would withdraw money for retirement or another purpose, such as paying for college. An investor expecting to retire in 2040, for example, might choose a 2040 fund. As the target date approaches, the fund typically shifts toward a more conservative asset allocation to help conserve the value it may have accumulated.

This transition is driven by a formula called the glide path, which determines how the asset mix will change over time. The glide path may end once the target date is reached or continue to shift assets after the target date. Funds with the same target date may vary not only in the glide path but also in the underlying asset allocation, investment holdings, turnover rate, fees, and fund performance. Variation tends to be greater as funds near their target date. In 2014, funds with a 2015 target date had stock allocations ranging from 25% to 78%, whereas stock allocations in 2045 funds ranged from 80% to 100%.3

A target-date fund could be a sound retirement savings method, but keep in mind that choosing a target-date fund does not guarantee that you will have sufficient funds for retirement on that date. The principal value of a target-date fund is never guaranteed (before, on, or after the target date).

The return and principal value of all mutual funds fluctuate with changes in market conditions. Shares, when sold, may be worth more or less than their original cost.

Mutual funds are sold by prospectus. Please consider the investment objectives, risks, charges, and expenses carefully before investing. The prospectus, which contains this and other information about the investment company, can be obtained from your financial professional. Be sure to read the prospectus carefully before deciding whether to invest.

1–2) Employee Benefit Research Institute, 2014
3) Morningstar, 2014

The information in this article is not intended as tax or legal advice, and it may not be relied on for the purpose of avoiding any federal tax penalties. You are encouraged to seek tax or legal advice from an independent professional advisor. The content is derived from sources believed to be accurate. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. This material was written and prepared by Emerald. Copyright 2015 Emerald Connect, LLC.

Financial Strategies for Changing Families Family life has changed over the past 4 decades. Here are some financial suggestions for nontraditional families.

It should come as no surprise that American family life has changed over the past four decades, but U.S. census data reveals just how widespread this change has been. In 1970, about 40% of households were married couples with children under 18 living at home. By 2012, only 20% of households fit this structure (see chart).

Although basic principles of budgeting, saving, and investing apply to all households, nontraditional families are less likely to feel financially secure than traditional families.1 Here are a few specific ideas that might be helpful for nontraditional situations.

Blended and Divorced Families

Set clear expectations for financial responsibilities. Well-defined guidelines might help avoid unnecessary conflicts.

College financial aid applications typically base their formulas on the parent who has primary custody. However, if you share custody with your ex, you might receive more aid if the parent with a lower household income fills out the forms.

Update your will and beneficiary designations to reflect your family situation. Be sure to take appropriate steps to provide for children from a previous marriage.

Single Parents

You may have to make hard choices to balance paying for your children’s college education and saving for your own retirement. Remember that children from single-parent households may qualify for a higher level of college financial aid than they might in two-parent households.

Have a current will that designates a guardian for your children and outlines other contingency plans. Life insurance companies generally will not pay a death benefit to minor-age children, so it’s important to identify a financial administrator for your estate. This person may be the child’s physical guardian or someone else.

Unmarried Couples

Make sure you understand the laws of your state and local government, and the policies of your employer. Register your domestic partnership, if possible.

Define legal arrangements through appropriate documents. For example, your partner may need financial and health-care powers of attorney to make decisions on your behalf. If you own a house together, specify what happens in the event of a separation.

Single Households

Maintain a healthy emergency fund and increase your retirement savings percentage. Without dependents, you should be able to save more; but without a partner’s financial contribution, you might need more savings for emergencies and a comfortable retirement than you would if you were married.

Be sure to have a will and other estate documents in place. If you die without a will, the state may decide who receives your assets.

Regardless of your household structure, you might benefit from professional guidance tailored to your situation. There is no assurance that working with a financial professional will improve investment results. But by focusing on your overall objectives, a professional can provide education, identify strategies, and help you consider options that could have a substantial effect on your long-term financial situation.

1) Money, December 2014

The information in this article is not intended as tax or legal advice, and it may not be relied on for the purpose of avoiding any federal tax penalties. You are encouraged to seek tax or legal advice from an independent professional advisor. The content is derived from sources believed to be accurate. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. This material was written and prepared by Emerald. Copyright 2015 Emerald Connect, LLC.

Coming to Terms with Long-Term-Care Needs Some people mistakenly assume Medicare or private health insurance will pay for long-term care if it becomes necessary.

It’s estimated that 70% of people aged 65 and older will need long-term-care services at some point, either in a facility or at home.1 Alzheimer’s disease, dementia, strokes, and advanced osteoporosis are just a few of the age-related health problems that can require a lengthy stay in a high-cost facility.

The costs for long-term care are rising, and rates vary greatly by state and the type and level of care provided. The nationwide median annual cost for a private room in a nursing home was nearly $88,000 in 2014.2

Some people mistakenly assume that Medicare or private health insurance will pay for long-term care if it ever becomes necessary, but the reality is that they do not cover the extended period of custodial care that many people will need. Families with substantial assets are unlikely to qualify for Medicaid, yet paying out of pocket for these services could quickly exhaust a lifetime of savings. A long-term-care insurance policy could help fill this financial gap.

How Policies Work

Long-term-care insurance will provide a contractual daily or monthly benefit for covered services (up to the policy limits). Benefit periods often last from two to six years but can cover a lifetime.

Benefits typically are triggered when the insured is unable to perform two or more activities of daily living (ADLs) for a certain period of time, or the insured requires supervision due to a severe cognitive impairment. Specific eligibility triggers and ADL definitions can be found in the long-term-care policy. An elimination period may apply (typically 0 to 180 days); therefore, policyholders may have to wait for a period of time before the insurance company pays benefits.

Because premiums can vary considerably depending on the type and amount of coverage chosen, it’s important to understand all the available options. Some people make the decision to purchase a long-term-care policy when they are in their fifties, because the fixed premium payments are generally less expensive and there is a reduced chance that an application will be rejected for health reasons. Married couples may be able to purchase a single policy with a rider that allows them to share benefits, which may be more cost-effective than buying separate policies.

Some long-term-care policies receive the same tax advantages as other qualified medical expenses. Up to certain age-based limits, premiums for long-term-care insurance may be deductible from federal income tax, and the benefits paid from a policy are not considered taxable income.

Are you confident that you could afford several years of care (for yourself or a spouse) and maintain a comfortable standard of living? A long-term-care policy could help prevent your retirement savings from being wiped out by the escalating cost of care and may ease the burden on your family.

Having private coverage in force may also broaden your options for care if you should need it, and possibly even keep you out of a nursing home by providing home care. Owning a policy that pays long-term-care expenses may also enable you to preserve and pass more of your wealth to your heirs.

1) The Wall Street Journal, April 13, 2014
2) Bankrate.com, July 1, 2014

The information in this article is not intended as tax or legal advice, and it may not be relied on for the purpose of avoiding any federal tax penalties. You are encouraged to seek tax or legal advice from an independent professional advisor. The content is derived from sources believed to be accurate. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. This material was written and prepared by Emerald. Copyright 2015 Emerald Connect, LLC.

Solving the Salary Puzzle The size of the small business owner’s paycheck may initially depend on how much is left over after expenses and taxes.

To keep more money in the business, some small-business owners avoid paying themselves. According to one study, only a little more than half of small-business owners pay themselves a regular salary.1

Of course, the size of the owner’s paycheck largely depends on the type of business and how well it’s doing. If the company is new or doesn’t have any employees, the owner’s salary might simply be what is left over after expenses and taxes. After a business becomes established, hires employees, or has significant profits to work with, the question of compensation becomes more complicated.

Here are some of the key considera­tions when deciding how much your business should pay you.

Does business structure matter? For sole proprietors and partnerships, profits from the business and personal income are treated the same by the IRS. A corporation is allowed to deduct salaries paid to employees (including owners) as a business expense, but compensation must be “reasonable” considering their roles and duties.

How much are you worth? Potential investors or creditors may be critical of the company’s prospects if the owner’s salary is too high or too low. It may take some research to determine and justify the market value of your time and contribution to the company.

Are there reasons to reinvest? Even if you are satisfied with the size and performance of your company, you might need to modernize equipment or facilities, or take other steps to remain competitive.

Is it time for a raise? Consider giving yourself annual pay increases (or bonuses) that are linked to the growth of the business. For example, if sales have surged 25%, multiply last year’s salary by 125%.

What about benefits? You may be able to lighten your tax burden by deferring some salary and contributing to a qualified retirement plan. It may also be worthwhile to fund other types of workplace benefits such as life, health, and disability insurance for both you and your employees.

Whatever approach you take, it’s important to strike a balance between the business’s needs and goals and your own.

1) FoxBusiness, October 21, 2013
The information in this article is not intended as tax or legal advice, and it may not be relied on for the purpose of avoiding any federal tax penalties. You are encouraged to seek tax or legal advice from an independent professional advisor. The content is derived from sources believed to be accurate. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. This material was written and prepared by Emerald. Copyright 2015 Emerald Connect, LLC.

Clue for Homeowners: Filing a Claim Could Cost You According to a recent report, homeowners who filed just one insurance claim saw their premiums rise by an average of 9%.

According to a recent report, homeowners who filed just one insurance claim saw their premiums increase by an average of 9% — and a second claim caused premiums to climb as much as 20%. Interestingly, the size of the claim didn’t matter much. Filing a small claim for a stolen bicycle could affect your rates about the same as filing a large claim for tornado damage.

Increases varied widely by state, however, and all types of claims were not treated the same way. The most costly were liability claims, which are made when someone gets hurt, and claims for theft and vandalism.

Unfortunately, it may not be possible to escape a rate hike by switching insurers. A database called the Comprehensive Loss Underwriting Exchange (CLUE) tracks all auto and property insurance claims — as well as inquiries about potential claims — for seven years.

To hold down your homeowners insurance costs, you could avoid filing small claims and rely on your insurance only for major, or catastrophic, events. You might also consider choosing a higher deductible (the amount you must pay out of pocket before the insurance company pays the covered amount on a claim, up to the policy limits). In fact, raising your homeowners insurance deductible from $500 to $1,000 could save as much as 25% on the annual cost.

Sources: CNNMoney, October 27, 2014; Insurance Information Institute, 2014

The information in this article is not intended as tax or legal advice, and it may not be relied on for the purpose of avoiding any federal tax penalties. You are encouraged to seek tax or legal advice from an independent professional advisor. The content is derived from sources believed to be accurate. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. This material was written and prepared by Emerald. Copyright 2015 Emerald Connect, LLC.