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7 Steps to Start Building Wealth Now

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I have the same conversation with my Gen X clients all the time. We start digging into the details of their finances, and we see the debt piling up. And while certain debt is reasonable—particularly for appreciating assets like a home or business—racking up debt for depreciating assets does something most people don’t even realize: it depletes your buying power and actually steals your future earnings, effectively turning your dollars into zeros. And because it’s no myth that “you have to have money to make money,” those zeros impact your wealth over the long term—not just while you’re paying off that $50K Lexus.

In my December blog I talked about the power of invasive online marketing to sway our wisdom when it comes to buying stuff (lots of it!). Marketing’s goal is to turn almost anything into an impulse purchase. But the problem reaches far beyond marketing. I see many people—otherwise rational decision makers—buy themselves into a hole early on, and spend decades trying to dig themselves out at a time when, ideally, they should be building wealth for the future. The problem is a lack of understanding the true budget, versus what we think we should be able to afford to have or do. If that brand new (and well marketed) luxury item costs “only” $350/month, it can feel like a reasonable expense, even if the sticker price is far outside what’s reasonable for your own budget.

Start BUILDING your wealth—today

By being mindful of your debt-to-income ratio and leveraging your expendable income wisely, you really can start building your wealth now, regardless of how much debt you’ve already accumulated, and regardless of how much time you have to save before retirement. Here are a few basic steps to start making your dollars work for you, not against you:

  1. Calculate your actual income.

For many—those receiving a salary from a corporation—this is an easy task. If you’re an independent contractor or business owner, it can get complicated. Be sure your actual income reflects your “take home pay”—after taxes. If you need to use an average, err on the low side.

  1. Identify your fixed expenses
    It’s true: few people actually have (and stick to) a budget. Even those who do often fail to identify every predictable and unchangeable expense. Start by listing the obvious expenses: your mortgage or rent, insurance (property, auto, health, life), utilities, food, estimated medical expenses, and car payments. (Note that luxuries like eating out, vacationing, and paying off existing credit card debt are not included in this bucket. We’ll get to those in a moment.)
  2. Identify upcoming expenses in the next 12-24 months.
    Do you need a new roof? Is your car more than 7 years old? Do you have a child heading off to college? Whatever your needs, it’s time to start saving for tomorrow’s expenses today. Divide the total into monthly “savings buckets.” This approach helps you avoid taking on debt to pay for expenses as they arise and increases your future buying power. Even if your savings doesn’t cover the total cost, it can significantly reduce the amount of that car or college loan—and put more money in your pocket.
  3. Calculate your remaining expendable income
    Once your fixed and upcoming expenses are covered, you can use the remaining bucket of money to build your wealth while simultaneously getting you out of debt. Subtract your total fixed expenses and your monthly “buckets” for upcoming expenses from your actual monthly income. You’ve now identified your true expendable income.
  4. Earmark 40% of your expendable income for paying off existing debt.
    Debt can be an emotional issue, which is one reason people are often just as irrational about paying off debt as they are at accumulating it. It may feel good to take that $5k bonus and pay down a credit card, but unless you’re also building your wealth, your money is still not working for you. Identify all current depreciating debt and start paying it down. Now. You can get that same great feeling of accomplishment by charting out how soon your debt will be erased under your new plan—and without taking on additional debt.
  5. Earmark 30% of your expendable income for building your wealth.
    Where this money is invested depends on how much you already have in an emergency fund, your time horizon until retirement, and other factors. Only your emergency fund should be sitting in an account earning 2% or less. All other assets should be allotted to longer-term, higher-earning appreciating
    investment vehicles. Of course, as your debt decreases, you can steadily increase the amount you’re able to contribute to building your wealth.
  6. Earmark 30% of your expendable income for non-fixed expenses other than debt.
    This is the fun part. Some of this will inevitably go to less-than-exciting (but still non-fixed) expenses, but once those are accounted for, you can start playing a little bit. Set your budget for eating out (yes, this should always be a budgeted item). Saving for next summer’s vacation. A trip to Europe. Your child’s wedding. Whatever your dreams, budget for these “fun” expenses now.

The word “discipline” has gotten a bad rap in our culture. We tend to think of it as anything but fun. But when it comes to getting disciplined about building your wealth, this step-by-step approach can simplify your day-to-day financial decisions, reduce your financial stress and, most importantly, help get you out of debt and into that enviable position of having your money working for you to build a more secure financial future.

Ready to get started today? Contact me to schedule a time to meet. We can dive into your finances together and put a plan in place that works for you.

Why ‘Tapering’?

Lately, the press has been beating their drums about the winding down of QE3 (Quantitative Easing 3) and the fancy name for the process is called ‘tapering’. The pundits insist inflation is soon to follow. After all of this money printing, certainly inflation is on the horizon, right?

How does QE3 affect the economy?

The Federal Reserve uses monetary policy to guide the economy. The Fed has two mandated goals:

1) Provide stability to the financial markets and

2) Control inflation.

It could be argued that when push comes to shove (and it often does) the Fed will temporarily disregard inflation if stability is in question. We are now nearing the end of that precise type of cycle. After the entire system came into question in 2007-2008, stability to the markets took center stage. In order to get markets to flow after this economic shock, the Fed took unprecedented measures. Covertly, they manipulated the players (Lehman, Merrill, Bank of America, FNMA, GSA etc) while overtly they supported financial flows (increased FDIC insurance, flooded the markets with cash (bought debt), eased interest rates, changed the rules at the discount window, and even supported stocks- taking equity in several companies etc.)

The Fed can look back over the past 5-6 years and affirm that they have stabilized the economy (domestically and internationally). Now its time to get back to part two of their agenda; controlling inflation.

Monetary policy is constantly manipulated by the Fed, that is nothing new. What is new, however, is the transparency of “Fed Speak” and the process the Fed used to implement their policy tools. In the past, the Fed wouldn’t announce policy changes, specialists and insiders would de-cypher Fed jargon and Treasury trades to queue rate directives. Today the Fed routinely announces their intentions publicly. In the past, monetary policy was generally concentrated in the short end of the yield curve (short-term interest rates) in hopes that long-term rates would follow in unison. Quantitative Easing ( QE, QE2, QE3) is aimed directly at long-term rates, intentionally relieving rates on mortgages, which is where the root of the previous ‘easy money’ crisis began. Mortgage burdens have eased significantly since, as millions of homeowners used this window of low long term rates to refinance their debt and immediately improve current cash flow.

Does quantitative easing definitively cause inflation?

The prevailing wisdom is that QE3 will lead to a spike in inflation as cheap money will fuel more speculative excesses. We believe their is enough slack in the economy and strong demographics at work that will counter these forces. As the process ‘tapers’, some players may scramble to borrow and force rates even higher temporarily. But interest rates returning to pre stimulus prices won’t have a long lasting push on inflation. As a matter of fact, they should actually slow the economy as borrowing costs rise. The Fed realizes if they just turn off the spigot overnight, they would shock the system. It should be noted that the average amount of cash on hand at corporations has swelled to over 20% of assets! The odds of these companies borrowing needs pushing interest rates significantly higher seems far fetched. Will these companies really need to rush out to borrow!?! UNLIKELY… A normalization of interest rates will probably allow these companies to put their money to work by lending (buying debt)!

Demographics at work…

Enter the baby boomers. Baby boomers are heading into retirement in droves. They have spent the last 6 years chasing yield and trying to stretch their dollars further and further in an abnormally low interest rate environment. These people will use any increase in interest rates to put their cash back to work too! Money Market rates and CD’s have paid so poorly, that many have taken more risk than they should carry. Higher interest rates will allow baby boomers the chance to improve their cash flow going forward, as they purchase fixed income products (Treasury, CD, Money Market and Corporate Bonds) once they retire.

The re-normalization of interest rates is a welcome sign that the economy is continuing in the right direction. The fact that the Fed believes it could now address the possibility of inflation, is encouraging. Quantitative easing has dramatically helped people and institutions refinance their debt obligations and improve cash flow when money was tight. “Tapering” will allow those awash in ‘cash’ to put their money back to work without shocking the system. The combination of demographics and historically large amounts of cash on hand will blunt most inflation pressures caused by a ‘normalizing’ of the interest rate environment.

What is going on with gold!?!

The gold market has seen some of its more volatile trading days recently. What does it mean for us as investors? Is it time to buy now?

Gold is a safe haven that has few equals. It is a store of value, but you must pay a ‘cost of carry’ to own gold and it doesn’t produce yield. Gold’s allure is derived from the belief that no matter what happens in the world it will retain value. Can we say the same for the Lira?
The insatiable demand for gold over the past decade was fed by the uncertainty that followed the global economic downturn. Since the economic collapse in 2007-2008, the price of gold has doubled in dollar terms. What we are seeing in the recent violent market drop is a realization that as bad as things got in 2007-08, they are now in the rear-view mirror. Gold Chart

Sure there are plenty issues to be resolved, but the concern wasn’t Cyprus or Spain or deficit spending in 2008. I believe the real fear among every government and many investors was the possibility of a complete failure of fiat money on a global scale. Fiat money is currency that is backed by the full faith of the government issuing it. The United States is rebounding from the recession and the equity market has joined in tandem. Dow Jones chart The dollar has remained steady.

Many gold bugs cling to the decline of local currencies, deficit spending, ‘superficially’ low interest rates, and the great unknown as support for their holdings. The problem is, there is a cost to carry gold and there is 0% yield!  So when things seem to ‘normalize’ gold becomes expensive to hold. Gold doesn’t pay!

The unwind in gold will take some time as central governments and global investors alike adjust to the new normal.

Tax Planning

Tax Planning

Now that tax day has come and gone, its a good time to reflect on what you would have changed about your 2012 taxes. Here’s a couple thoughts to consider for your 2013 tax planning.

  •  Did you accurately track all un-reimbursed employee expenses?
  •  Did you save records of all charitable expenses? Including mileage?
  •  Did you take full advantage of employee matches?
  •  Did you use your FSA/HSA to your full advantage?
  •  Did you take advantage of your state’s 529 plan? Louisiana’s plan offers state tax breaks and even a match!
  •  Did you adjust your withholdings so that you aren’t lending Uncle Sam money all year for free?
  •  Did you maximize your qualified contributions?
  •  Did you save at least 10% of your family’s gross income?
  •  Did you maximize you capital gains? Short term and long term?
  •  Was your portfolio allocated tax efficiently among the different types of accounts?

What’s the best way to fund college in Louisiana?

Parents need to start saving for education expenses as early as possible. It is estimated that over the next 18 years the costs of attending a public university in Louisiana for an undergraduate degree could cost as much as $174,000! People often ask me, “What’s the best way to fund college expenses for a loved one?” There are a couple options, but a 529 plan trumps the Coverdell and the use of a Roth I

What is a 529 plan?
A 529 plan is qualified plan that was developed to help fund education expenses, using tax benefits as incentives.  Earnings inside of a 529 plan grow tax free, and will be tax exempt if used for Qualified Higher Education Expenses (QHEE). These expenses include tuition, fees, room, board, books, supplies, special needs services, and certain required equipment.
A 529 plan offers flexibility by allowing the account owner to transfer the account to different beneficiaries, even allowing the account holder themselves to be beneficiaries.

A unique advantage to the 529 plan is estate related. Assets inside of a 529 plan are removed from your taxable estate, but the account owner maintains control of the assets. This can be a valuable tool when combined with the opportunity to front load your funding. Front loading allows an individual to stack 5 yrs of gifts ($14k/yr for 5 yrs= $70k all at once). Couples filing jointly can stack $140k at once without generating a taxable gift. When you consider the flexibility of changing beneficiaries, there are few comparable options.

Why is LA START a better 529 plan?
Most states offer 529 plans, but, believe it or not, Louisiana has one of the finest programs in the USA! The Louisiana Student Tuition Assistance and Revenue Trust Program, commonly referred to as the “START Saving Program,” is a great way to save for college and other post secondary schools in a qualified account. Louisiana’s START program is direct sold, which means there is no middleman in between your funds and the plan, you deal directly with the plan administrator which is the Louisiana Office of Student Financial Assistance. The START program has no administrative fees or charges and uses several low cost Vanguard funds, leaving more money for your beneficiaries to use for college. Direct selling reduces expenses dramatically, but it also explains why so few people are familiar with the plan. Brokers don’t get paid to sell them, so they don’t sell them.
Very few states offer a ‘matching program’ but Louisiana has a match with a sliding scale of 2% to 14% depending on account type and adjusted gross income. These matches are called earning enhancements, they are savings incentives added to your account annually. Consider earnings enhancements as ‘free money’ for post secondary education savings.

Another benefit of the Louisiana plan offers a state tax break for account owners based on each year’s contributions. Couples can reduce their taxable base by $4,800/yr and individuals $2,400/yr.
Also, it should be noted that one of the fixed income investments offered is a deposit in the Louisiana Principal Protection Fund is guaranteed by the State of Louisiana and last year this fixed income fund yielded over 2.5%. How will a 529 affect financial aid?
 The assets inside of a 529 plan remain the possession of the account holder which will greatly reduce the impact of a 529 plan on a student. Parental assets are currently assessed at a maximum of 5.64% of total value for the Expected Family Contribution(EFC) calculation used by FAFSA.  Grandparents 529 plans will be assessed a higher EFC, but will only affect the financial aid the year following the distribution. Grandparents should consider saving their 529 plan distributions for senior year if reducing financial aid availability is a concern. Here are the details on Effective Family Contribution EFC.

What if my beneficiary gets a scholarship?
If your beneficiary is fortunate enough to get a scholarship, what can you do with the funds inside of the 529 plan? It is worth noting that most scholarships will only cover a portion of a student’s qualified expenses that could be funded out of your 529. But if it looks like you will still have money left in the account after paying these expenses, there are a couple alternatives. The IRS allows account owners to refund assets equal to the value of the annual scholarship without incurring the 10% penalty (contributions are never taxed, earnings will be taxed as ordinary income). Another way to use excess 529 funds is to simply change beneficiaries.

How do I get started?

To open a 529 plan with the LA START, either the beneficiary or the account owner needs to be a Louisiana resident when the account is opened. Once the account is open, residency is no longer necessary. There are 6 categories of account ownership. Accounts can be opened with as little as $10. Once the account is open, there are no time limits for funding or distributions. START funds can be used for qualified higher education programs in ANY state.