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Another pool of money that many people have, are investments in stocks, bonds and mutual funds. While we are at it, let’s include your bank savings also. These investments are different from your qualified plans (IRAs, 401Ks, etc) when it comes to the rules and taxes. In many cases, your investments, such as stocks and mutual funds have something in common with your qualified plan:
You are the only one at risk.
By investing outside of a qualified plan, you shed some of the rules that qualified plans have. Currently, and I mean currently, the tax issues are different in qualified plans, from taxes and capital gains taxes that are paid on most investment gains that you might experience. Qualified plans are taxed at an income tax rate while capital gains tax rates could be a lot lower (check with your tax advisers).
Traditional thinking is of the belief, almost religiously, that investments always go up in value over a period of time. Well, that is true, but not for the reason they want to believe. You see, the stock market must go up because it too reflects inflationary trends. As an example, two thousand years ago, a one ounce gold coin would buy the average Roman a nice toga, a very nice pair of leather sandals, and a nice leather sash.
Today, for the value of one ounce of gold (approximately $1,325.39 today), you can purchase a very nice suit, a nice pair of leather shoes, and a nice leather belt. The value of gold really has not changed over two thousand years, but the value of man made currency has. The inflationary aspects of our currency appear to drive the value of what we have skyward.
In your everyday existence, you are confronted with transfers of your wealth. You continuously, unknowingly and unnecessarily, give or transfer money away. Not only do you give this money away but you also lose the ability to earn money on that money once it is transferred. This compounds your loss. To eliminate or reduce these transfers, you must first learn to recognize them and then understand how directly or indirectly they cost you money. You may have to confront conventional financial wisdom. Remember, the ones giving you these financial programs tend to profit from them. Always ask, who would profit from these transfers? Here is a list of the transfers of your wealth we will be discussing:
● Tax Refunds
● Qualified Retirement Plans
● Owning A Home
● Financial Planning
● Life Insurance
● Purchasing Cars
● Credit Cards
These ten transfers can create financial losses for you. You should study each one and determine how they will affect you. On the surface, the transfers seem pretty basic. It is not until you think a layer deeper that you find that these transfers may cause unintended consequences in the future. The future demographics of the country will affect everyone’s financial future.
Thinking A Layer Deeper
I, for one, don’t believe qualified retirement plans are all that they profess to be. They are surrounded by ever-changing, complicated rules that can turn out to be very costly. I do believe serve a purpose. At best, I believe they force people to save, which is something that people could do on their own with a little discipline. I don’t believe all the rhetoric about tax savings. Someone is going to be taxed on this money. If not you, then your heirs. The question is, at what rate will it be taxed?
Tax Savings: Real Or Apparent?
I want to share with you an example of a 45 year-old person who was told they should have an IRA so they could generate tax savings. I gave this example to a group of accountants. I told them I would give $100.00 to each accountant who came up with the right answer. The question was this: If a 45 year-old person, in a 28% tax bracket that qualified for an IRA put $2,000 into an IRA, what would the tax savings be for that person? [I know the amount that can be deposited into IRAs has changed, just bear with me for the sake of the example]. I told them to write the answer on the back of their business cards and pass them forward. Every one of them passed their card forward positive that they would be $100.00 richer. I reviewed all the cards. They all said the same thing, $560.00. Which they figured by taking 28% of $2,000.00. I hesitated and then asked, “Is this tax savings real or apparent?” I went to the chalk board, and wrote these numbers:
Age IRA plan growing at 10%
45 $ 2,000
52 $ 4,000
59 $ 8,000
By simply using the Rule of 72, at 10% rate of return the money would double about every seven years. All the CPAs agreed with this calculation. I then told them every card they sent forward on it had the answer as $560.00. None of them seemed surprised. I then asked them, if this person could invest the $560.00 tax savings, what would that look like assuming I could get a 10% rate of return on that money?
Age Tax savings growth at 10%
45 $ 560
Saving $16,000.00 in an IRA, investing the tax savings and having those savings grow to $4,480.00 looked great. I then combined the two charts:
Age IRA savings at 10% Tax savings at 10%
45 $ 2,000 $ 560
52 $ 4,000 $1,120
59 $ 8,000 $2,240
66 $16,000 $4,480
Now this person turns 66 years old and wishes to withdraw $16,000.00, along with other savings. Miraculously, they are still in a 28% tax bracket at the time of withdrawal. His accountant reminds him that he has to pay taxes on it at withdrawal. Interestingly, the tax due on that $16,000.00 withdrawn is $4,480.00. Exactly what was saved in the tax savings account? Over the 21 years of saving in my example, $784.00 had to be paid in capital gains taxes. This lowers the tax savings account to $3,696.00. Now this person had a tax due of $4,480.00 and had $3, 696.00 to help pay the tax.
We’re Not Done Yet
If you understand the demographics of the country, you will come to the conclusion that you will very likely retire to a higher tax bracket.
Age IRA savings at 10% Tax savings at 10%
45 $ 2,000 $ 560
52 $ 4,000 $1,120
59 $ 8,000 $2,240
66 $16,000 $4,480
Capital Gains Tax -$ 784
Savings after tax $3,696
Tax due at withdrawal:
28% tax bracket= $4,480
35% tax bracket= $5,600
40% tax bracket= $6,400
No one argued my calculation. No one argued the results or even the demographics. Most agreed it will be a problem in the future. After my example, I spoke to some of the accountants and I asked if they would still recommend IRAs to some of their clients. Some said yes. It is possible that the decisions of these accountants could cause larger transfers of their clients’ wealth in the future, unknowingly and unnecessarily.
Tax A Derby
If I can tell you the exact day that your qualified retirement account will suffer its greatest loss, would you want to know that day? And in knowing that day, if we could do something now to prevent these losses, would you do it? Taxes are the largest transfers of your wealth. The day you activate your qualified retirement account is the day that it will suffer its greatest loss, due to taxation, not because of losses in the stock market. 100% of your qualified retirement income becomes taxable. Congratulations, you’ve become the perfect taxpayer.
What We Have Here Is A Failure To Communicate
You may consider other complications that surround. Many people suffer from a lack of liquidity, use, and control of their money. limit the amount of access you have to your money. If this is the only source of your savings you may consider diversifying into more non-qualified accounts also. Limiting your access to your money may also limit your options and opportunities in the future. If you ask what would happen if you were to take money out of your IRA before
the age of 59½, what would the typical response be? You will be taxed on the amount you took out and penalized 10% of that amount for early withdrawal. Tax professionals consider this a major no-no. They will tell you if you wanted to withdraw $1,000.00 and you were in a 28% tax bracket that you would lose $280.00 in taxes and be penalized $100.00 to boot. Let’s get one thing straight. You were going to get taxed on this money either now or later. The thought that you will lose money for early withdrawal by being taxed
for it is misleading, since it will be taxed no matter what. Perhaps if you study the demographics of the country, once again you may come to the conclusion that there is a possibility you will be taxed on that money at a higher rate. The 10% penalty on the early withdrawal is a reality, unless . . .
Have You Heard This One
Accessing IRA funds before the age of 59½ without incurring the 10% penalty is permissible under the IRS notice 89-25-IRB 1989-12.68 section 72t by using one of the three following distribution methods: 1)Life expectancy; 2)Amortization; and 3)Annuitization. The life expectancy method simply calculates the amount which can be withdrawn annually, by dividing your account balance by your life expectancy based on tables furnished by the IRS. The second method is amortization, which allows you to amortize your account balance based on a projection of what your account might earn over your lifetime. The IRS requires that the interest rate assumed in this calculation be “reasonable.” For the annuitization method, the IRS also allows withdrawal based on a life insurance mortality table (UP-1984) and a “reasonable” interest rate assumption.
This method normally generates the largest withdrawal. If something you thought to be true wasn’t true, when would you want to know about it? It is possible to avoid the 10% penalty for early withdrawals from an IRA. In the event you have a 401(k) and lose your job or retire early, transferring your
401(k) to an IRA will allow 72t distributions. 72t does not apply to 401(k)s directly. Remember, in using qualified programs the real concern along with market results, is the future taxation of these plans. If you are depositing money while in the current tax bracket, but may have to pay a higher tax in the future, is this a good strategy?
On Trial: Financial Beliefs
What is on trial here is a belief system: The fast paced, get-rich-while-you-can mentality, where the solution is based upon products, not knowledge. There is nothing wrong with most investment products, but products are not the only answer to securing your financial future. We have become so mesmerized by rates of return, we fail to use common sense, which costs us a lot of money. Have we become so busy that we just look the other way when giving away our money? I believe we have been systematically trained to do just that. From our education system, to banks, brokers, investment companies, the government to tax preparers, we are told very little about how to manage our personal finances. But we are blindly guided down this narrow path and eventually left hanging out to dry, for one reason and one reason only: So that others can profit.
Relying On Stupidity
I can’t blame these institutions and companies for wanting profits. If the public is willing to freely give away their money, then more power to them. No one is being forced to do anything. The concept of making money out of nothing is ingenious. Motivated by the emotions of fear and greed, love and hate, people will freely throw money away. If anyone dare throw common sense into this mix, they would probably be labeled as cold and calculating. As long as people are willing to give their money away, someone will take it. One thing I am positive of: this will never change. PT Barnum said it best, “There’s a sucker born every minute.” People have been duped so long, they are afraid of change in the fear of being duped again. The only thing that will stop this madness is knowledge. Until that happens, billions of dollars will be made from us, the public, by simply relying on our stupidity.
Because of this lack of knowledge, you will, willingly or unwillingly, stay financially tied to these institutions for the rest of your life. The money you will transfer away is enormous. Reducing these transfers will help create personal wealth for you. Achieving some financial freedom in your life should be a personal goal. If financial institutions had their way, you would remain captive to them forever. For that reason, they don’t want to educate you too much. Rather, they want to create a dependency on them.
IT TAKES NO TIME
IT TAKES NO EFFORT
RESULTS* ARE GUARANTEED
* Results may vary depending on luck
All too often I see people doing the very basics, financially. Their heads buried in the sand, they take the ostrich approach to planning. The “wait-and-see” retirement strategy suits them well. Then, with this limited or non-existent knowledge, they attempt to survive in a world created for them by the government. They have been told that their pension and retirement savings will be enough to live on in their golden years. Let us not forget social security. But the ever-increasing cost of living, increased taxation and increased cost of insurance, drains the basics of their planning away. They all too often end up looking for part-time jobs after retirement. Pride, fear, and laziness fuel the ignorance of poverty planning. They received financial advice from their friends and neighbors, but remain skeptical of anyone with professional knowledge. They work and work and never get ahead. Unfortunately, these are the same financial lessons they pass on to their children.
Tax Cuts And The Rich
Another common misconception is that tax cuts are for the rich. This is nothing more than political “get-me-re-elected” talk. It is obvious that the rich make up such a small portion of the tax paying population, the politicians view this as a small group of voters. There are more poor, middle class, and upper middle class voters then there are rich voters. So don’t be surprised when a politician favors the area where there are more voters. The tactic is as old as dirt. Divide and conquer, blame someone else for your problems, so you will vote for them. These are not poor or middle class people running for office. Remember, these people will spend millions to get elected to get a position that pays a couple of hundred thousand dollars a year. Makes sense, right? I would like to compare our system of paying taxes to ten people going out to dinner. The common belief is the rich get more back than us ordinary tax payers and that is not fair. The reality is, the rich pay more so they should get more back.
If ten people went out to dinner, and when the bill came we used the rules of the tax code to pay this bill, it would look something like this: The bill for dinner for ten came to $100.00; Persons #1 through #4 would pay nothing; Person#5 would pay $1.00; Person #6 would pay $3.00; Person #7 would pay $7.00; Person #8 would pay $12.00; Person #9 would pay $18.00, and; Person #10 (the richest person) would pay $59.00. If the restaurant owner decided to give the group a 20% discount, the dinner for 10 is only $80.00. How should they divide up the $20.00 savings? Remember, the first 4 paid nothing to begin with, so the savings should be divided between the remaining six.
Twenty dollars divided by six equals $3.33 each. If you subtracted that amount from those six people’s share, then persons #5 and #6 would be paid to eat their meals. This doesn’t seem fair, so the equitable answer is to reduce each person’s bill by the same percentage. The results look like this: Persons #1 through #5 would pay nothing; Person #6 would pay $2.00; Person #7 would pay $5.00; Person #8 would pay $9.00; Person #9 would pay $12.00; Person #10 (the richest person) would pay $52.00 instead of $59.00.
Now everyone starts comparing and complaining. Person #6 complains because he only got $1.00 back and Person #10 got $7.00 back. “Why should he get $7.00 back when I only got $2.00?” shouted person #7. “Why should the wealthy get all the breaks?” Person #1 through #4 yelled “We didn’t get anything back. This system exploits the poor!” Then the nine people surrounded Person #10 and beat him up. That seemed to satisfy them. The next time they went out to dinner, Person #10 did not show up, so they sat down and ate without him. When they were finished the bill came and they discovered they were $52.00 short.
The people who pay the highest taxes get the most benefit from a tax deduction. It’s common sense math. If you tax them too much and attack them for being wealthy, they may decide not to show up at the table anymore. For everyone involved that would create an unintended consequence. Everyone would have to pay more.
For more information call Benefit Consultant Inc. in Chino, CA at 909-548-7444 or email Contact@BenefitCI.com
Your economic situation is a matter of choice, not a matter of chance. Misguided and self-inflicted, it is centered on the lack of knowledge. Driven by fear, cautious of change and paralyzed by perceptions, financial decisions are made by default, without knowledge, unaware of unintended consequences. Today, the vast majority of people are troubled and confused about the economy. They have been bombarded by the media, bullied by sales people, and bewildered by the millions of things they feel they need to know. Over the past eight years, they have seen all the financial lessons they learned in the 1980s, 1990s and even recently, fail them. They know they can’t live on four and five percent rates of return, yet they are scared and hesitant to make crucial decisions necessary to survive in today’s economy. To make matters worse, right now, 90 million Americans are faced with the most critical investment challenges of their lives.
We are going to shed some light on this darkness. We will break this problem down and analyze it carefully. Then, you will have a clear view of choices open to you. You will feel more confident and prepared to make financial decisions. If something you thought to be true wasn’t true, when would you want to know about it? That defining moment in your financial world comes with the understanding of the efficiency of money. It is a simple yet effective method of uncovering and reducing transfers of your wealth that occur everyday, unknowingly and unnecessarily. The financial savings are staggering.
Setting The Stage
Traditionally, we have been taught that there is only one way to make money grow: To get a higher rate of return on the money. But who is the one at risk in this quest? You, or the one making the recommendation? There is another way to make your money grow, but it is often overlooked. It is called the Efficiency of Money. To get a better understanding of this, you must look deeper to get a clearer view of what is happening in your financial world. First, you must understand that there are only three types of money in your life . . . lifestyle, accumulated, and transferred money. Your lifestyle money is the money you spend to maintain your standard of living. Accumulated money is the money you try to save, and transferred money is the money that you spend and give away, sometimes unknowingly and unnecessarily. It is in transferred money where you lose most of your wealth. This is where your perceptions become greater than your knowledge.
There are many forms of transfers, but the largest by far is taxes. The average household hands out about 50% of its earned wealth for direct and indirect taxes. For whose benefit do we labor, ours, the banks’, or the government’s? Financial advice given by the government and the banks has created record profits for banks and record tax revenues collected by the government. It is no longer enough to simply invest money without understanding the unintended consequences that will confront you financially in the future. Understanding the changes that are going to occur in the near future could dramatically affect any financial planning that you may have considered. If several years ago someone would have given us warning signs that the market would be depressed, that we would be involved in a war, that the Twin Towers in New York would be attacked and destroyed, that thousands of people would die, that we would have terror alerts every day, that entire industries would be near financial collapse, that scandals would rock Enron, Kmart, Arthur Andersen, WorldCom and the airline industry, would we have made some changes? Having that information in advance could have eliminated huge personal financial losses.
Today we have uncovered some of the problems that we will have to confront in the near future. They could affect your personal finances tremendously. Given this information now could help you eliminate or reduce future financial trauma. This is not about the financial products you own, rather what you know about controlling your money. Without this knowledge, you may simply become the perfect taxpayer.
One of the problems we have is that we confuse assumed rates of return with facts. A fact is something we know is going to happen. In preparing your financial future you need more facts than estimated guesses. Wouldn’t you agree that having the facts would be a good place to start planning your financial future?
In 3000 days, about two-thirds of the now-working population will be 60 years old or older. This is a certainty! Unfortunately, this leaves one-third of the now-working population to pay for all the government social programs for a majority of retired citizens. To compound the problem, the costs of social programs such as Medicaid, Medicare, and Social Security increase every year. This leaves little doubt that increased taxation will be needed to maintain these programs. Increased life expectancy of retirees also adds to the cost of these programs. According to the 2000 U.S. Census, there was a 12% increase in people 65 years of age or older during that decade from 1990 to 2000. It is estimated that by 2040, the elderly population will represent 20.7% of the total population. The largest segment of the population that grew the fastest was people between the ages of 90 and 94, which increased 44.6% since 1990.2 Overall, the number of people between the ages of 80 and 94 increased 25.7% since 1990. A 65-year-old woman in the U.S. as of the year 2000 could expect to live another 19.2 years and a 65-year-old man could expect to live another 16.3 years. In 1900, the average life expectancy was 47.3 years.
This shift in the demographics creates other problems we must face. As elderly people retire, they have a tendency to shift their investments from stocks to more secure positions. Alan Greenspan addressed this issue in February 2002. Greenspan stated that because of the demographics of the country, it will be a real challenge to maintain the value of these retirement assets. He states, “This ever larger retired population will have to be fed, clothed, housed, and serviced by a workforce growing far less rapidly.
1. The retirees may have accumulated a large stock of retirement savings, but the goods and services needed to redeem those savings must be produced by an active workforce assisted by a stock of plant and equipment sufficiently productive to meet the needs both of retirees and a workforce expecting an ever increasing standard of living.”
2. He goes on to say that “. . . the focus of the economy as a whole, of necessity, must be on producing the real resources needed to redeem the financial assets.”
3. In that same speech, Greenspan goes on to state that “[i]f the Social Security Trust Fund is depleted, the law requires that benefits are paid only to the extent that they can be financed out of current payroll tax receipts.”4 Do you really think a politician will allow this to happen? No, but it will take increased taxation and less benefits to keep them in existence. If retirees move to more secure investments, it leaves only one-third of the now-working population to buy the stocks being sold off. The problem is, when there are more stocks to sell than buyers to buy them, prices fall. Future retirement accounts could plummet again. Compounding this problem is the fact that companies rely on stock revenues for future research and development. This loss of revenue could stifle future economic growth and profits. Relying only on stocks for retirement could result in unintended consequences, caused by taxation, unstable market conditions, and the inability to maintain the value in stocks as we now know them.
Along with shifting age demographics, the government itself plays a role in diminishing our future wealth. Over the last 30 years, the only thing the government has done consistently is overspend the amount of money it has taken in. The government’s central focus has become collecting revenues, a/k/a taxes. The government is very good at it, but the financial burdens are passed on to us. We are expected to follow the 47,000 pages of tax law under the threat of penalty or imprisonment. Another problem is that, in 3,000 days, there will be fewer workers to pay for the government’s increases in spending, along with the cost of social programs. This will leave an enormous cost burden for the workers to pay, along with the challenge of trying to improve their own standard of living. Diminishing benefits and increasing costs will leave no one satisfied.
To survive, the government will have to raise taxes. Let’s take a look at what the government has said they have done to help us. Recently they raised the amount of money you can put into the government qualified retirement plans. Why? Why? Why?
To secure your financial future, or theirs? It sounds like you will save on taxes but you most likely won’t. We have left it to them to decide at what rate they will tax this money in the future when we retire. Will it be lower, likely not! Just look at the dilemma they have created for themselves.
This is imperative: DO NOT BECOME THE PERFECT TAXPAYER.
If We Know Something For Certain Once again, why did the government recently increase the levels that an individual can contribute to 401(k) plans and IRAs? Was this change initiated because they were concerned about your financial future OR THEIRS? A 401(k) or IRA simply defers taxation to a later date. It would be a different story if the government would guarantee that you would be taxed at the same tax level you were at when you put the money into these plans. Will they ever do that? No! They need and want as much of that money as they can get.
I can still hear the words echoing in the halls of financial wisdom “You will probably retire to two-thirds of your income, and thus be in a lower tax bracket.” Don’t count on it! Many professional planners believe that you can retire to two-thirds of your current income. Be cautious of this thinking. They are telling you to retire with less money so you pay fewer taxes. Not a great solution. When you add the changing demographics, do you really think that, at any level, taxation is going to be lower in the future?
Now let’s look at government spending. To get current levels of the public debt, go to: http://www.treasurydirect.gov/NP/debt/current. There, the current public debt of the government is listed daily. Look for the years in which large government surpluses were proclaimed and look for payments against this debt. Can you find any?
Now do you think that with this increasing debt to be paid, and the changing demographics of the country, that future taxation will be lower?
People should be hesitant to put money into government-sponsored retirement plans (401(k)s and IRAs) at a 28% tax bracket, knowing that upon retirement the tax levels could be, at that time, 35% or higher. Is that a 7% increase in taxes? No, that’s almost a 30% increase in tax levels. One thing you do need to know for certain, taxes will be waiting for you in the future. There will be fewer workers and more retirees and possible increases in government social programs and spending.
Doctor, It Hurts When I Do This
If it hurts you, don’t do it. The government’s doctor says don’t worry about the pain (paying unnecessary taxes) keep doing it until you die. Even then, taxes will be due but at least you won’t feel the pain. Today, you need more knowledge so you are capable of making better financial decisions. The more you know the less pain you will suffer financially. The solutions to a rewarding financial future are not found just in the stock market. But that’s what most people believe. Why? Because that’s all they know. IT IS DIFFICULT TO GET THE RIGHT SOLUTION WHEN YOU START OUT WITH THE WRONG PREMISE.
Remember Who You Are
Not only must you invest wisely but you must learn about the Efficiency of Money and wealth transfers. Your investments must be intertwined with these lessons to maximize your wealth no matter what level of wealth you are at. REMEMBER: The government sees you as a taxpayer. The bank sees you as a borrower. Investment companies see you as a fee payer. If you don’t utilize the lessons of efficiency, these organizations, the government, the banks, and investment companies, will be first and foremost in your entire financial life. There will be no financial freedom until you can loosen the burdens in dealing with them.
The Last Picture Show
Imagine taking your spouse and kids to see a movie. You go into the theater, buy some popcorn and snacks. You find seats with no tall people in front of you and you start to relax. Looking around you notice an IRS agent that you’re acquainted with. His family is with him. You continue looking around the theater and you notice your banker and his family are also there. A few rows behind them are your investment broker and her family. What a small world! The lights dim and the movie begins. About five minutes into the movie an usher comes down the main aisle and the lights come up.
“Ladies and gentlemen we have a problem. There is a small fire in the lobby and we want everyone to leave calmly using the emergency exits.” You’re stunned. You look at your spouse and kids and say, “Don’t worry, everything will be okay. Wait right here for one minute.” You run over to the IRS agent and his family and help them out of the theater. Running back to your family you say “just one more minute,” and you run back to help your banker and his family to the exits. This time on your way back you don’t even stop at your family but simply give them that gesture with your index finger meaning you’ll be right back. You continue running to assist your investment broker and her kids out of harms way. Finally, you get back to your family to secure their safety. They have that dumbfounded look on their faces and you realize you may have lost a few votes for the Parent of the Year Award.
First, Not Last
This story may be irrational from a humane, loving standpoint. But from a financial standpoint, it is very true more times than not. The government, the banks, and investment companies have remedies to make sure that, in the event of something happening to you, they will still get paid…FIRST. Your family’s outcome is of little consequence to them. Sustaining their financial future is more important to them than yours is. You must learn financial concepts and ideas that will put you and your family and your financial goals first. You must develop liquidity, use, and control of your money. You must also learn about lost opportunity cost. These concepts will increase your wisdom in making financial decisions. Knowing this, the next time your family is faced with a crisis or even new opportunities they will be first, not last.
Nevertheless, we continue to load up 401(k)s and IRAs without any clue what future tax rates on these programs will be. The government is like a casino owner, they know they are going to win. You must learn the difference between government debt and government deficit. You must also learn and know how to plan for retirement besides using government-sponsored programs.
Handwriting On The Wall
The government knows it is between a rock and a hard place on the issue of Social Security. Greenspan’s comments are an “I told you so” type of statement. “In addressing the impending retirement of those born just after WWII, we will need to consider whether Social Security should better align itself with the funding provisions of our private pension and annuity system. Policy makers need to consider these issues now if we are to ensure a comfortable retirement for the post-war generation, while at the same time according due consideration to the needs of the later generations that now make up our work force.”
The problem is the politicians spend our Social Security revenues faster than they are collected. If they would create a Social Security system with a public investment option, the government would lose control of that money. Remember, they consider it their money, not yours.
They Do It Well
In recent years, the government has become obsessed with imposing and collecting taxes. The collection of taxes has become job one and they do their job well. We are now being taxed at the highest levels in our history. Yet, even after collecting historical amounts of revenue in the form of taxes, the government continues to outspend these revenues and posts record amounts of debt. Even with all the proclaimed surpluses of the 90’s, did taxes or government debt go down?
One could argue that we have experienced tremendous growth in our standard of living. However, those increased standards have been fueled by a record amount of personal debt. Personal bankruptcies are at all time highs along with credit card debt. For the last several years, the average household has saved at a negative rate. Any sustained economic downturns or lethargic stock market results, or both, will do serious damage to future savings.
Without understanding the demographics of our society, any attempt to financially plan our future will be doomed and filled with unintended consequences. My spelling of demographX with an “X” represents a missing factor. The “X” represents all the necessary changes that will have to be made by the government in order for it to survive. This will dramatically affect our personal retirement wealth. Demographics have been basically ignored in most financial planning. This will create major flaws in any future financial projections, and could leave us exposed to many financial hazards.
Not only will it be difficult to achieve the goal of preserving our own financial future, we must also provide for the government’s ever increasing financial future. Even with very clear warning signs, the government continues in its record levels of spending. The debt of the nation continues to spiral upward, out of control, for future generations to figure out. Let’s face it, the only power our Federal Representatives have is their ability to spend our money and we have given them a blank check to do it. If I could tell you the exact day that your retirement account will suffer its greatest losses, would you want to know that day? Then, in having that information, if you could do something now to prevent those losses, would you do it? You see, the day you retire and start receiving income from these accounts is the day your retirement accounts will suffer their greatest losses due to taxes. Another victim of the changing demographics could be the housing industry. The idea that the value of homes will always increase is wrong. People today often miscalculate the increased values of their homes. They don’t take into consideration the cost of maintenance, improvements, insurance, and taxes that are paid while they live there. The average homeowner may experience only a 2% or 3% growth rate of return, even though the value of their home may have increased by 40% in a ten year period. The numbers can be deceiving. As an example let’s take a couple who purchased a small starter home ten years ago. The purchase price of this home was $110,000. Today, ten years later, the home is valued at $150,000. Overall the couple believes that the value of their home increased over 30%. They would also agree that while they lived there they also spent another $5,000 on the home for improvements and maintenance. In reality the annual rate of retire in the growth of the value of their home for those ten years was 2.69%. Remember this doesn’t include the cost of the property taxes and insurance. The inflation rate alone generally averages between 2.5 – 3.0%. Yet this couple had been led to believe, by everyone, that buying their home would be one of their greatest investments.
After all, a 6,000 square foot home requires a lot of maintenance and upkeep, not to mention the increasing cost and upward-spiraling property taxes. If the aging population sells their larger homes and builders continue to build larger homes at a record pace . . . who will buy them? The younger generation? In 3,000 days, with two-thirds of the now working population being 60 years old or older, we will be dealing with a smaller number of new buyers. This young group of buyers will also want to build new homes for themselves. This will create an overabundance of larger homes in the marketplace. The rules of supply and demand may take over. Too much product and not enough buyers equal lower prices. The government and the banks will have to get more creative when it comes to buying a home. After all, this is a source of revenue for both of them. Having this information, it may not be in your best interest to pay your house off as fast as you can. This could cause major unintended consequences in the future. The key is to maintain liquidity, use and control of your money. Owning a home is the most misunderstood American dream. You should look at home ownership very carefully, and understand your options. If the experts giving you advice could be proven wrong, would you want to know about it?
Your dream home could be a financial nightmare.
These are a few of the many demographic changes that could affect your finances in the near future. Following a natural and logical course of events, these things we discussed will most likely happen. Their effect on your current financial planning could leave you exposed to financial loss. Your exposure to these losses is a matter of choice, not a matter of chance.
Living the Best Life You Can Live
Of all the opportunities that you have discovered in your life, which were the most important? Of these opportunities, which ones changed your life forever? Now ask yourself one question: how would the opportunities that you’re not even aware of, change your life? If you were given one wish, one gift that would fulfill your life, what would it be? Happiness, wealth, health, love, there are many ways you could answer that question. In a very simple way, I would wish to live the best life I could live. Think about that for a second. If given the opportunity, I would like to maximize the gifts I have been given so I could enjoy my life and share with others.
Your answer to what you want in life may be different from mine but understand one thing, the gift and opportunities you have in life are already inside you but you just can’t see them. Discovering these gifts and opportunities is simple. Look for them and when you find them learn about them. Your life will change. It’s time to live the best life you can live. There is enough stress, worry and concern in your everyday life that you may think that changing your life will take a lot of time and energy on your. But to change only takes thought and some knowledge. The real truth is that your everyday struggles take up all you time and you have been enslaved by them. In your financial world the answer to many of your problems is understanding how money works. It isn’t fair that throughout your life you have not been given the opportunity and the knowledge to improve your financial life.
Your financial health is centered on much more than simply trying to pick a winning stock or mutual fund. There is no one product that you can purchase that will solve all your financial problems. The solution comes when you understand that everything you own has financial value. When you discover that everything has value, then you can start to understand how you can use your assets as financial tools. These steps will help you create more options and opportunities in your life. Many people are mistaken that the only future dollars they have are their retirement plans and government programs. This is a very narrow approach to the problems you will be facing.
By discovering the Defining Moments you will develop a thought process that will not only aid you in your everyday financial life but also that will become the foundation of the major decisions you will need to make in planning your financial future. Traditional thinking has put limits on what your thought process can be, and in turn, the outcome will also be limited. The solution to these challenges, the Defining Moments, comes when you understand that everything in your life has value. Future value. When you discover the value of everything you have, then you can start living the best life you can live, right now, today.
In living the best life you can live, you need to view everything in your life as a series of banks, pools of money, that you own and control. With each bank or pool of money, you have the ability to drive the value of your banks higher. Since you own and control all of these banks, you need to make sure all your banks are healthy and well maintained. You need to know how each of your banks work, and also how each bank can work for you. Understanding this will create balance in your financial future. You will then know how to leverage the least amount of money to create the most amount of wealth.
Everything in your life has value and future value. Each one of your banks or pools of money might have different rules than the money in your house. Each one of your banks could have different tax consequences attached to them. All of your banks will have different value and different growth potential. Each one of your banks, or pools of money will have different exit strategies if you wish to use the money. And you need to know how to use each one of your banks as financial tools. Most importantly, you need to know how to drive the value of the banks or money you own, even higher.
If you consider all the value in your life you may start to rethink your traditional approach. Let’s take a look at some values, banks or pools of money that may already be in your life. The most obvious pools of money that you may already have are the ones you hear about all the time. You may be involved in a qualified plan for your retirement. This type of bank or pool of money could be called a 401K, an IRA, a SEP or some type of company retirement plan. These types of plans have rules attached to them. Even though they all are retirement programs, some of the rules inside these programs may be different. The rule for these programs that everyone seems to know, is that when you retire, the money you receive will be taxed upon withdrawal. The obvious question is this: Will taxes be lower or higher in the future? Another rule of qualified plans is that if you take the money out before retirement or before age 59½, you could face a 10% penalty on the money you take out, on top of having to pay taxes on it.
As for the idea of using this pool of money for anything else other than for retirement income has always been viewed as some kind of financial sin. But you must remember, if one of the deterrents of using this money before you retire is that it will be taxed, the truth is that it will be taxed anyway – now or later. The ten percent penalty is real and is a consideration that should be explored before using retirement money prior to retirement or age 59½. The 10% penalty can be avoided in an IRA if this money is taken out over a lifetime period in equal disbursements according to 72T of the Internal Revenue Code.
The value of your qualified plan will be determined by the results of your investments. Remember, you are the only one at risk in your investment choices. I am not condoning simply cashing in your qualified plans, but you need to understand that this is still your money and if needed, you can get to it. Breaking the traditional thinking that this pool of money should never be used before retirement, is a step to opening doors and opportunities you didn’t know existed before. As a financial tool, qualified plans can play a big role. As a bank or pool of money you must understand the rules of these programs, understand how and when your money will be taxes and understand that these programs can be used before and after retirement.
Another financial tool in the average person’s life is the value that is inside their home. Traditional thinking has always held that the value of one’s home is sacred ground. The changing housing market and potential collapse of real estate values should instill caution in the way anyone purchases and pays for a home. Most of the problems that occur financially in owning a home are created with the purchase of a home, when the buyers fail to realize that taxes and insurance and maintenance costs on this property will continue to increase over the years. But in most cases, over a period of time, equity will build up in one’s home. This can occur in a couple of ways: Either the value of the property increases, and/or; the payments on the house reduces the debt owed, creating equity. Much of the equity in one’s home is tax-free money. Learning the rules of this equity is very important. It has value and it is tax-free within the guidelines of the IRS. Equity in your home could act as a bank for you. If the equity is borrowed, it is paid back with interest, but in many cases the interest that is paid back is tax deductible. Now, I am not suggesting to take all the money out of your home and invest it. You can see how this pool of money is different than your 401K money and other qualified plans you might have. An interesting question would be: would you rather have $250,000 in your qualified plan, or $250,000 of equity in your home? Having $250,000 in your qualified plan means you have to pay taxes in order to get it. Having $250,000 of equity in your home means you would have to refinance your house and pay interest in order to get $250,000 of tax-free money. Just imagine if you could tradeyour taxable qualified plan money for the tax-free money that is inside your home. I have had many discussions with people about families buying the homes of their parents and the parents using the money to increase the value of the legacy that they can leave behind for their children and grandchildren. With proper planning and the use of life insurance, this legacy would transfer tax-free to the next generation of the family.
The Family Fortune
Many opportunities in life pass you by simply because you weren’t aware of them. These opportunities are so critical to your financial future. I feel I have an obligation to share this with you, even if it is to just give you an opportunity to say no to the idea. The family, your family, may be one of the most powerful financial tools that you have. Traditional thinking neglects to share with you the opportunity that could be created if you were to view your family as an untouched wealth opportunity. You may be surprised to learn that the value of a legacy can be driven higher, wealth can be created, and taxes can be avoided when using your family as a financial tool. I have shared this concept with many readers in my book, The Family Legacy. I have traveled the country sharing the power of the Family Legacy with thousands of people. Earlier, we discussed how rich people think like rich people, and poor people think like poor people, in Defining Moment #8. The opportunity of using the family as a tool to create wealth could change your life forever. Just as your qualified plan money and the money in your home has value so does the value of your family. Don’t allow this conversation about the family to be cast off as uneasy or uncomfortable. Find a qualified professional who is trained in the family legacy to help guide you through the opportunity. You see, how can you say yes or no to ideas you don’t even know exist? Just as it is possible to increase the value in your qualified plans and your home, you can also increase the value of your family. The difference is that most of the money from the family can be tax-free. In your qualified plan and the money in your home you spend and invest a dollar and hope it goes up in value. It is possible that when investing in the family you can use the least amount of money to create the most amount of wealth. That is what we call leverage.
The New and Old Invest-a-Testament
Another pool of money that many people have, are investments in stocks, bonds and mutual funds. While we are at it, let’s include your bank savings also. These investments are different from your qualified plans (IRAs, 401Ks, etc) when it comes to the rules and taxes. In many cases, your investments, such as stocks and mutual funds have something in common with your qualified plan: You are the only one at risk. By investing outside of a qualified plan, you shed some of the rules that qualified plans have. Currently, and I mean currently, the tax issues are different in qualified plans, from taxes and capital gains taxes that are paid on most investment gains that you might experience. Qualified plans are taxed at an income tax rate while capital gains tax rates could be a lot lower (check with your tax advisers). Traditional thinking is of the belief, almost religiously, that investments always go up in value over a period of time. Well, that is true, but not for the reason they want to believe. You see, the stock market must go up because it too reflects inflationary trends. As an example, two thousand years ago, a one ounce gold coin would buy the average Roman a nice toga, a very nice pair of leather sandals, and a nice leather sash. Today, for the value of one ounce of gold, you can purchase a very nice suit, a nice pair of leather shoes, and a nice leather belt. The value of gold really has not changed over two thousand years, but the value of manmade currency has. The inflationary aspects of our currency appear to drive the value of what we have skyward.
So far, everything that we have talked about in this chapter can be viewed as pools of money that can contribute to future income in your life. As you can see, everything has value and can be used by you to create your best life now.
Bet On Your Life
Another source of money in your life could be your life insurance policy. Professionals of all sorts have opinions, and in most cases they are only opinions, about life insurance and the type of policies people should have. It always cracks me up when I hear someone ranting and raving about the types of policies people should have without knowing anything about the person they are talking to. Just like everything else in life, cheapest may not necessarily be the best. Although the “cheapest” sounds frugal and wise, you wouldn’t want to apply that theory to, let’s say, your kid’s education or to your heart surgeon. There is a time and place where value is important. There are different types of policies that you can purchase and they all have different rules, values and results. The most important lesson about life insurance that you should know is this: That life insurance policy you own allows you to spend more of your money now, while you are alive. What I mean by that statement is this: Instead of paying all your debts off as fast as you can so you can be debt-free, why not buy a policy that will pay off all your debts when you die? If you do this you can pay off a lifetime of debt for pennies on the dollar and enjoy the life you deserve while you’re alive. Think about it, if you could magically create a document that would pay off all your debt at the end of your life, what kind of life would you live now? Many people look at life insurance as a conversation of avoidance but really when put in the proper light it becomes a conversation of opportunity. The different types of policies out there today have different types of rules, benefits, values and costs.
Term insurance sounds cheap, and if you die your beneficiary receives income tax-free proceeds from that policy. Rule number one here is: You have to die for there to be a benefit for anyone. If you’re on a tight budget and can’t afford anything else, buy term insurance. The other really important thing you should know, is that by definition, term insurance lasts for only a specific term of time, such as 10, 20 or 30 years, then it expires. If the term policy expires before you do, then there is no benefit and the policy no longer exists. Buying term insurance at older ages can get very pricey and cost prohibitive.
There is a different set of rules, values and benefits for cash value life insurance. The first thing you will notice is that it is more expensive and this is what term insurance sales people emphasize most. But there is more to cash value life insurance than simply the cost. In these policies, cash value accumulates and grows over a period of time. These values grow tax-deferred. When it comes to the values in these policies, the premiums that you have paid becomes what is called the basis for the values inside them. Let’s say you paid over a number of years, $20,000 in premium and now the cash value in the policy is $20,000. All of that money is basis and are tax-free values. These policies, if designed right, would have death benefits that increase over the years. Also, if ever needed, these policies can provide tax-free loans to its owner. Cash value policies can also be used as collateral for personal and business loans. The money or values these types of policies can also be used as a tool for generating additional income in a lump sum or withdrawn on a yearly basis. Remember, these values have some tax friendly advantages.
It will be up to you when deciding what type of policies you should own. It might be in your best interest to find a highly recommended professional who represents not only term, but also cash value types of policies. Your policy can become a very valuable tool for you in the future. Rich people know how to use these tools. As I mentioned in an earlier chapter of this book, rich people think like rich people and the “cheapest” is not always the best.
There’s No Business, Like Your Business
If you own your own business, you need to understand that your business is a unique opportunity. Not only does your business provide an income for you, but also the opportunity is there to grow and drive forward the value of your business. The secret of owning a business is developing an exit strategy for your business when you decide to retire. Many small businesses simply close their doors when the owner is ready to retire, and with it goes thirty years of experience, good will that was built up in that business, and a possible client base. All of these aspects of a business have value. Many business owners fail to see these values and simply shut their business down. Develop a continuation plan for your business after you leave. Your business could be a great investment for someone else, and create more future dollars for you. Like everything else in life, more time and energy should be spent on exploring the exit strategies for our lives.
The Money Matrix
To understand how money works you need to apply a litmus test to measure the effectiveness and usefulness of your money. It is important to remember that way too much emphasis is put on the “rate of return” mentality and too little on how money can work for you. The litmus test for money contains a series of questions that will define the most effective types of money that you currently have, and guide you towards other types of money that you might want to have.
There are a number of categories that the money you have right now may fall into. You can have IRAs, 401ks, Roth IRAs, defined benefit programs, SEPs, bank savings programs, CDs, stocks, your home, real estate, your business, possible inheritances and life insurance. You may be able to think of more but these are the most general categories of money that you might have. If you take each one of these categories and list them in a column, and ask the following questions of each one of your money categories, you will discover the efficiency, effectiveness and safety of the money you have.
RISK: DOES THIS CATEGORY OR TYPE OF MONEY INVOLVE RISK? Can you lose your money? As an example, can your 401K lose money? Can your home lose value? Are stocks or brokerage accounts subject to losses? Can your bank saving program lose money? There are different degrees of risk. Some things may be more risky than others, so when it comes to each of your categories, mark each one “H” for high risk, “M” for medium risk, or “L” for low risk. If this category or type of money has no risk, write “NONE.” Ask the risk question of all the types of money you have.
Next Question. . .
GUARANTEES: DOES THIS CATEGORY OR TYPE OF MONEY OFFER GUARANTEES? Is this category or type of money assuring you of a controlled positive result in the future? Some guarantees may have a stipulation attached to them like keeping your money in an account for a certain number of years. Does an IRA have guarantees? Does the money or equity in your home have guarantees? For every type of money that you have, simply answer: yes or no.
Next Question. . .
PENALTIES: DOES THIS CATEGORY OR TYPE OF MONEY HAVE PENALTIES ASSOCIATED
WITH IT? This question is an important one that you must understand. Many types of your money might have penalties attached to them. An example may be: Are there penalties for early withdrawal of an IRA? Are there penalties for not taking enough money out of your IRA during retirement? Are there early withdrawal penalties for a bank CD? How about a penalty for paying your house off too soon? Are there any penalties in annuities? For each category or type of money simply write yes or no if penalties exist.
Next Question. . .
LIQUIDITY, USE AND CONTROL: DOES THIS CATEGORY OR TYPE OF MONEY GIVE YOU THE OPPORTUNITY TO GET TO YOUR MONEY IF YOU NEED IT? Do you have access to your money? Can you get it when you need it? Answering simply yes or no will give you a clearer view of whether you control this type or category of money. Do you have an equity line of credit on your business or your home? Can you sell off your stocks? If money is quickly needed, what type or category of money would you turn to? So you have liquidity, use and control of this type of money, yes or no?
Next Question. . .
PROTECTED: IS THIS CATEGORY OR TYPE OF MONEY PROTECTED FROM CREDITORS? If you were to get sued, what types of money would be protected against law suits? Money you have in the bank? The equity in your home? Your investments? Your 401K? This is important to know. Many people are at great risk and don’t even know it. Simply answer yes or no to all of the types of your money that may be exposed to law suits.
Next Question. . .
LEVERAGE: DOES THIS CATEGORY OR TYPE OF MONEY USE LEVERAGE? Does this type of money create the most amount of money for the least amount you invest? We discussed leverage earlier in this book. When someone invests a dollar, the hope is that dollar will grow over a period of time. It doesn’t create increased value or increased net worth the next day. Simply compounding the value of a dollar may also increase or compound the taxes due on it. The thought of leverage is not typically centered on rates of return but more on controlling and creating wealth or value. As an example, if you had $200,000 in the bank today that would be good. The next day you bought a $500,000 home and put the $200,000 down as a down payment. So in a day, you went from doing well with $200,000 in the bank, to being $300,000 in debt. Did this person leverage the least amount of money to purchase this home, or leverage the most amount of money? What’s the rate of return on the $200,000 of equity in this new home? Why, its zero. You might be thinking your monthly payment will be lower and it would be, but you also lost the time value of the $200,000, as well as what it could grow to in value. Once again, Donald Trump would not put the most amount of money down on a piece of property, he would leverage the least amount of money to gain control of the property. Another example of leverage would be someone whose net worth is one million dollars today and the next day they bought a million dollar life insurance policy for one hundred dollars a month. Their life value doubled in one day for $100 per month. Leverage. . . it can create wealth. Are you using the least amount of money to create the most amount of wealth?
Next Question. . .
TAX DEFERRED: DOES THIS TYPE OR CATEGORY OF MONEY GROW TAX-DEFERRED? Very few things in our lives escape taxation. Many types of money are taxed on their growth on an annual basis. A typical CD at a bank is taxed on its growth on an annual basis. Is this true of an IRA or 401K? No, these are tax-deferred. These are taxed when you take distributions from them. So the tax on them is deferred to a later date and possibly a higher tax table. Ask yourself, does your money or a particular type of money grow taxdeferred?
Yes or no.
Next Question. . .
TAX-FREE: DOES THIS TYPE OF MONEY GET DISTRIBUTED TO YOU TAX-FREE? Better yet does the type of money you have get distributed to you or your heirs, your family, in the event of something happening to you, tax-free? Is an IRA tax-free? How about a bank savings program? On your chart or list of types of money you can have, how many of them are tax-free at distribution? Yes or no.
Next Question. . .
COLLATERAL: CAN THIS TYPE OR CATEGORY OF MONEY BE USED AS COLLATERAL FOR LOANS? Sometimes lending institutions will grant loans if there is some type of collateral or hard asset involved. A home could be used as collateral for a loan but how about an IRA or a 401K? Can stocks or brokerage accounts be used as collateral? Collateral typically has value that is relatively safe and assures a lending institution of controlling value while lending your money. If money was needed by you or your family, what assets do you control that could be used for collateral? What assets or types of money could be used to get a loan which could increase the value of let’s say, your business? Do the types of money you have, have value to anyone else? Think about it. . . yes or no.
Next Question. . .
TAX DEDUCTIBLE PAYMENTS: ARE THE PAYMENTS FOR THIS TYPE OF MONEY TAX DEDUCTIBLE ON YOUR INCOME TAXES? Some types of money are tax deductible from your income. Within the guidelines of the IRS payment to 401K and IRAs are tax deductible. How about an annuity or a bank CD? Interest payments on some types of money are also tax deductible. A principle payment on your home is not tax deductible but the interest portion of that payment is. Try to think if any other types of your money that have tax deductible payments. Yes or no?
Next Question. . .
DISABILITY BENEFIT: IN THE EVENT OF AN ILLNESS OR ACCIDENT IN YOUR LIFE WILL THIS TYPE OR CATEGORY OF MONEY CONTINUE TO MAKE DEPOSIT OR PAYMENTS FOR YOU WHILE YOU’RE DISABLED? Will your company continue to make your 401K deposits for you even if you’re not working? Will your investment broker continue to make monthly payments or deposits into your account for you while you were injured or sick? Would the bank make your mortgage payment? What types of money do you own that would make the payment for you if you were disabled? Will the company you’re dealing with deposit or make the payment for this type of money? Yes or no.
Next Question. . .
WEALTH TRANSFERS: WILL THIS TYPE OR CATEGORY OF MONEY TRANSFER TO YOUR HEIRS TAX-FREE? In the event of your death how will the type of money you have be taxed or transferred to the next generation or family members or heirs? Will someone else have to pay the tax on your IRA if you die? How about your bank CDs? Does the government forgive the taxes on the investment you left behind? Does this type of money you have create real tax-free wealth for your family kids or heirs? Apply this question to all the types of your money. Simply answer yes or no.
Your answers to these questions could be very eye opening when it comes to how your money works. If you had the ability to create the perfect investment for yourself, how would these questions be answered? Would there be a lot of risk involved? Would there be some guarantees? Would you create an investment where there would be penalties? Would you like liquidity, use and control of your money? Would you protect it from creditors? Would your perfect investment create leverage? Would it grow tax deferred? Would you make it tax-free when you decided to use the money? Would you design it so that it can be used as collateral to secure loans? Would the money you put into it be tax deductible? Would there be a disability benefit on the payments? Finally, would the money you have transfer tax-free to your heirs? You will discover when creating the most perfect investment, that the answers you gave are far different than the money and investments you have right now. The types of money that you have are far from perfect. Remember there are only three types of categories that your money falls into, lifestyle, accumulated and transferred money. One final question you should ask yourself is: if given a choice, would you want your money to be fully taxed, partially taxed, or tax-free? While this question really answers itself, why is it that we ignore what is logical and expose most of our saving and investing efforts to full or partial taxation?
By listing the types of money that you have and asking the important questions that we just discussed you will get a clearer view of the money that is in your life and how it works. The money matrix measures each type of money that you may have by:
Everything you do in life and the results of your actions will depend upon how you prepare. If you wanted to become a doctor, you wouldn’t prepare for this career by studying all the art courses you could in college, unless of course you were interested in having the fanciest waiting room in the world. To be a doctor you would study all the appropriate courses and then enter into medical school. Your money is no different. You need to apply a thought process to where you want to be in your financial future. Heading into that future without a clue of how your money will support you, will expose you to too many unintended consequences. Now is the time to understand how your money works and all the opportunities that might be right in front of you. The defining moment in your life will occur when you are no longer “out of control” in your financial life.
The information in this book will help you analyze your financial situation and help give you a clearer view of the choices open to you and will help you make better life decisions in the future.
For more information call Benefit Consultant Inc. in Chino, CA at 909-548-7444 or email: Contact@BenefitCI.com
When you are in desperate need of cash, your 401k account can look like an attractive option. After all, if your account has been receiving automatic contributions from you each month along with a percentage match from your employer, you could be growing quite a nest egg. There are certain situations where you may be able to withdraw money from a 401k without a penalty, including if you become unemployed or are purchasing your first home. Otherwise, you could face a 10% penalty on the money withdrawn as well as income tax. This could easily add up to a 40% haircut right off the bat.
Do not give away almost half of your savings to the government unless you are in dire straits and have absolutely no other option. Not only will you lose a good deal of your money if you withdraw it from our 401k, you will also do a lot of damage to your retirement savings plan. One of the most important concepts related to retirement savings is “compound interest”. When you save money, it gathers interest. That interest is added to the principle, which then gathers more interest. Over a long stretch of time, compounding interest can help your contributions grow at the rate needed to sustain you in retirement. The beauty of compound interest needs time to work. If you withdraw a huge chunk of your 401k, you are not only losing that principle amount, you are also losing all of the interest it could generate over the decades, which could be a significant loss.
If you are experiencing a cash crunch, there are usually other options available besides withdrawing from your 401k. You should also consider creating a rainy day fund to help cover unexpected costs.