5 Things To Demand From Your Financial Adviser

What do you do when you’re eighty-two and run out of money? It’s a frightening thing to be looking down the barrel of an empty bank account. It’s worse when the decline in your funds was due to the actions of a financial adviser that you trusted.

Gerry had been relying on her adviser for a long time. She and her husband, John, were in their mid-sixties when John passed away unexpectedly almost twenty years ago. Gerry was heart broken. John was her life.

Their’s was a traditional relationship for their time. Gerry raised their four boys, while John managed his business and their money. When John passed, Gerry put her faith in the financial adviser John had used for years. She didn’t know anything about investments, nor did she care. John had provided well for her, so she didn’t worry about money.

Gerry lived her life, enjoying her friends and a bit of travel. Her financial adviser was busy doing his thing. She didn’t know what. When the financial crisis hit, she was concerned that her account value declined so much, but what could she do?

While the investment markets recovered, Gerry’s account did not. She saw what should have been enough money to last her life dwindle to an alarmingly low level. She finally asked me to have a look.

What I saw was shocking. Her account had declined to just enough to cover a few remaining years of expenses. What’s worse, the investments were all wrong for someone living on their savings, with little savings left.

All of her money was invested in less than a dozen stocks, mostly in the energy field. There was no diversification and no pool of conservatively invested money to cover her monthly withdrawals. Amid a strong stock market, her holdings steadily declined in value. Every month the adviser sold some of her holdings to generate the cash for her monthly expenses. Because the value of the stocks he sold was down, the sales were doing more and more damage to the viability of her portfolio.

I was shocked. I naively believed that nearly all advisers had their clients best interests at heart. I never thought I’d see investment management this egregiously bad. This guy was simply trying to generate commissions on Gerry’s account. His behavior was serving no one but himself and was in fact illegal. His activity is known as prohibited conduct. In the financial services industry, investments must be prudent and suitable for the account owner.

Gerry didn’t want to take legal action, though she certainly had a very good case. She did sell her holdings to salvage what little money she had left. She’ll have to sell her beautiful house in the next year or so. She needs the equity to live on. Fortunately the equity will be enough for her to maintain her lifestyle for the rest of her life, but she’s devastated that she’ll have to leave her home that she loves so much.

You can’t just give your money to someone and assume they’ll do what’s right. While most financial advisers are good people, this story illustrates that it’s not true for all. Even an adviser with your best interests in mind, can’t know whether their strategy is still good for you unless you engage with them. Here are the things you should be discussing with your adviser on a regular basis:

  1. Update your financial information beyond the investments your adviser is managing. This should include total savings, total debt, and income.
  2. Reiterate or update your financial goals.
  3. Discuss whether you are saving enough, or if you’re closer to retirement, a plan for withdrawals that will help your money last and minimize your tax burden.
  4. Discuss how the investment strategy aligns with your goals, and how you can expect it to change over time.
  5. Ask to be educated on any concepts you don’t understand.

If your adviser isn’t willing to talk with you about these topics, find another one. Seriously consider someone with a Certified Financial Planner (CFP) designation. These professionals must demonstrate their skills before a governing board and practice for at least three years before they can use the designation. You can find CFP professionals in your area at letsmakeaplan.org or napfa.org.

Advisers gain a great deal of control over your savings. That can relieve you of making decisions you’re neither qualified nor comfortable in making. But you can’t just walk away. Review your monthly statements to make sure your adviser is doing what she said she would. And to make sure she is working toward the same goals as you, demand a detailed discussion with her at least annually.

For a comprehensive, step-by-step guide to building your own financial plan, pick up my book, Save Yourself; Your Guide to Saving for Retirement and Building Financial Security. It is now available on Amazon.

On The First Day of Christmas…

Last year, I posted this financial redo of the classic 12 Days of Christmas. My daughter and I actually sang it in a video, which was fun. This year I’ll spare you that. If you’d like to see it, you can find it in last year’s post. Here’s wishing you love and joy and true financial security!

On the first day of Christmas my true love gave to me a fund for emergencies

On the second day of Christmas my true love gave to me a budget for expenses and a fund for emergencies

On the third day of Christmas my true love gave to me a maxed out retirement, a budget for expenses and a fund for emergencies

On the fourth day of Christmas my true love gave to me a pay-down on my visa, a maxed out retirement, a budget for expenses and a fund for emergencies

On the fifth day of Christmas my true love gave to me a Roth IRA, a pay-down on my visa, a maxed out retirement, a budget for expenses and a fund for emergencies

On the sixth day of Christmas my true love gave to me full estate planning, a Roth IRA, a pay-down on my visa, a maxed out retirement, a budget for expenses and a fund for emergencies

On the seventh day of Christmas my true love gave to me insurance for disabilities, full estate planning, a Roth IRA, a pay-down on my visa, a maxed out retirement, a budget for expenses and a fund for emergencies

On the eighth day of Christmas my true love gave to me a 529 for my kids, insurance for disabilities, full estate planning, a Roth IRA, a pay-down on my visa, a maxed out retirement, a budget for expenses and a fund for emergencies

On the ninth day of Christmas my true love gave to me a pay-down on my student loans, a 529 for my kids, insurance for disabilities, full estate planning, a Roth IRA, a pay-down on my visa, a maxed out retirement, a budget for expenses and a fund for emergencies

On the tenth day of Christmas my true love gave to me a sound investment strategy, a pay-down on my student loans, a 529 for my kids, insurance for disabilities, full estate planning, a Roth IRA, a pay-down on my visa, a maxed out retirement, a budget for expenses and a fund for emergencies.

On the eleventh day of Christmas my true love gave to me a long-term care policy, a sound investment strategy, a pay-down on my student loans, a 529 for my kids, insurance for disabilities, full estate planning, a Roth IRA, a pay-down on my visa, a maxed out retirement, a budget for expenses and a fund for emergencies.

On the twelfth day of Christmas my true love gave to me, a pledge to be mortgage free, a long-term care policy, a sound investment strategy, a pay-down on my student loans, a 529 for my kids, insurance for disabilities, full estate planning, a Roth IRA, a pay-down on my visa, a maxed out retirement, a budget for expenses and a fund for emergencies.

Merry Christmas everyone!

Photo by rawpixel on Unsplash

Eight Financial Things to Check Along With Your Smoke Detector Battery

A common bit of advice for the change of seasons and daylight savings time is to check your smoke detector batteries. It’s a good guidepost on the calendar for ensuring you take this important safety precaution. The end of daylight savings is as good a time as any to check up on your financial preparations as well. Here are the important things to review:

Employer Benefits

  • November is also open enrollment month for many company benefit plans. Your options and premiums may have changed. If you work for one of the many companies who are moving to a high deductible health care plan, check how your deductible has changed. If it has gone up, plan on adding to your savings to cover the difference either in a health savings account, or if that isn’t available, your own emergency savings. If the premiums have gone up, prepare your budget for this increased expense.
  • Review your selections in your retirement savings plan. Make sure you are contributing at least enough to get the employer match. If you’ve got an emergency fund and have paid down your non-mortgage debt, increase your contribution. In 2019, you can contribute up to $19,000 if you’re younger than fifty and $25,000 if you are over fifty.
  • If you are investing on your own, make sure your allocation is appropriate for your age. A common rule of thumb is to have the amount equal to 110 minus your age in stocks. The remainder should be in more conservative bonds. If you are using a managed account, update your information with the manager, so they can make sure your allocation is still correct. If you are using a target-date retirement fund, you don’t have to do anything.
  • Check the beneficiary designation on your retirement account and life insurance. Update them if appropriate. Your beneficiary designation determines who gets your retirement savings and insurance benefits regardless of what other documentation you may have. Do not make your children who are younger than eighteen the beneficiary of either. Minor children cannot receive distributions until they become legal adults.

Other Things to Review

  • If you have IRA accounts outside your company retirement plan, review the beneficiary designations on those too. If you plan to make a contribution in 2019, the new limit is $6,000 for those under fifty and $7,000 for those over fifty.
  • Review your life insurance. You can calculate how much you should have given your circumstances at Lifehappens.org. Update your beneficiaries on these policies too.
  • If you don’t already have disability insurance through work, consider buying your own policy. Lifehappens also has a calculator to help you know what to buy. While most understand the need for life insurance, only about a third of working people have disability insurance. You are much more likely to become disabled than you are to die prematurely.
  • If you have a will, a healthcare directive, and medical and financial powers of attorney, now is a good time to review what you put in those documents and update them if needed. If you don’t have any of these, put getting them on your New Year’s resolution list. See my previous article on preparing these documents to help you get started.

Your financial security needs constant upkeep. It’s easy to forget to maintain what you’ve put in place. Calendaring a time of year for a regular review will ensure your important decisions don’t become out of date. Now that the seasons have changed and the sun is going down earlier, review your own financial preparations.

Photo by Wil Stewart on Unsplash

What You Should Do When the Stock Market Swoons


Now, what would be really great is if we could invest more money in the stock markets when they are going up and get out of the stock markets when they are going down. Our return would be much better if we could avoid those nasty market downturns. Many attempt to do just that, but few are any good at it.

The trouble is if you missed just the months with the top 5 percent of returns in the market since 1950, you would have cut your returns almost in half. Of course, if you were able to avoid the bottom 5 percent of months in the process, you would perform just about as well as the market. But given the uncertainty of when those occur, that doesn’t seem like a good trade-off.

To illustrate, take a look at what happened during and after the financial crisis. The following chart shows the total return for the S&P 500 and cash flows in (bars going up) and out (bars going down) of equity mutual funds during the crisis and through the recovery to 2012.

S&P chart

The peak in value for the S&P 500 prior to the crisis came in September of 2007. From there the stock market began a gradual decline, with some investors selling sporadically. However, in September of 2008, the floodgates opened, and mutual fund investors began pouring out of equity funds. The S&P 500 had already lost more than 36 percent of its value.

The bottom of the market came in February of 2009, just four months and 16 percent later. But money kept leaving the stock markets. Even as the stock market crested its prior peak, equity funds saw growing withdrawals through the end of 2012.

If you had perfect foresight, you would have sold in September of 2007 at the peak. You would have avoided the following drop in value of 51 percent. Then you would have bought back your investment at the low in February of 2009. If you had done that, then ten years later—by September 2017—your investment would have risen by almost four times, or 14.2 percent per year.

But be realistic. You only have perfect hindsight. You know nothing about the future. You can’t tell whether the market is at a peak or just a nice viewpoint along the way. And you certainly can’t tell when the market has hit bottom.

The biggest monthly net sale of equity funds was in October of 2008, and the biggest monthly net buy following that was January of 2013. If you had sold and bought back in those months, as many other market participants did, your return for the ten years ending in September 2017 would have been just 10 percent, or about 1 percent per year.

What if you had done nothing? If you had not touched your stock market investments, in the following ten years your money would have more than doubled for an annualized return of 7.3 percent. Doing nothing is certainly easier than picking both the top and bottom of the stock market. Steadily adding to your investments, as you would in your retirement account, would have been even better.

Timing the market is a fool’s game. Seeing your nest egg shrink is no fun for anyone, but if you don’t have to spend your money right away, it can recover. So, as the market is adjusting, your task is simply to do nothing.

Photo by Chris Liverani on Unsplash

Your Money or Your Life Insurance

When my husband, Jeff, and I retired, we dropped our life insurance policies. Even though our daughter was still in high school, we had already saved all we were going to save. The income generated by our savings would be there regardless of whether we were alive, and we had no work related income to replace.  We didn’t need life insurance any more.

I have had the pleasure of telling a few friends they could cut their expenses by dropping their life insurance policies. Initially the reaction is a small gasp. It seems somehow sacrilegious to give it up if you are trying to live a financially sound lifestyle. But for these individuals, who happened to be single women with adult children, life insurance wasn’t a necessity. The kids were out of the house, and they didn’t need Mom to provide for them anymore.

Not everyone needs life insurance. Now you don’t see that statement very often. More often you see gloomy statistics, like less than 60 percent of Americans have life insurance, from a 2015 BankRate.com survey. Of the 40 plus percent of those who don’t have it, for some at least, there is a good reason.

You don’t need life insurance if you don’t have anyone depending on your income for support. The purpose of life insurance is to replace your income if you pass away. If any of these situations sound like you, you don’t need life insurance:

You are single and have no children to provide for. While many will miss you if you are gone, no one will miss your income.

You are single with adult children. The same goes here. Your children are grown and they can get along without you providing them with a life insurance benefit.

You are nearing the end of your career and you have the savings you need. As you get older, your savings grow and you have more equity in your home. These assets will help provide for those you leave behind. Therefore as you get older, assuming you are saving as you should, you need less and less life insurance, until eventually you need none.

You are a child. Children don’t need life insurance. They don’t have an income to replace. Some insurance companies sell policies pitched as a way to save for college. These policies are whole life policies that have a savings element. They develop a cash value over time which can be borrowed when your child is ready for college. But you would be better off just investing the amount of the premium in your state’s college 529 plan. All of the money will go to savings rather than providing life insurance coverage that you don’t need.

If none of these situations is you, you probably need some life insurance, but the amount you should have could be different depending on your situation.

You have young children. Those who have young children need life insurance the most and need the most life insurance. They are most likely to be under insured. The life insurance provided by your employer will definitely not be enough. You will want your children to be raised with the comfortable lifestyle that you hope to provide for them, and you don’t want to make life financially difficult for your spouse or their guardians, whichever the case may be. The younger your children are, the more financial support they will need. LifeHappens.org has a good calculator that takes into account all of the relevant information to help you determine how much life insurance you will want to put in place.

For this situation, term life insurance is all that you need. Term life insurance provides coverage for a specific period, like ten or twenty years. Your premiums will be the same throughout the term. At the end of the term you can renew or allow your policy to lapse. You can also cancel your policy at any time without penalty. Term policies are the lowest cost form of life insurance. They are perfect for most people, whose need for life insurance declines over time.

Do not make your minor children beneficiaries of your life insurance policy. Insurance companies won’t pay out a benefit to anyone under the age of 18. Name your spouse, your children’s guardian or a family trust as the beneficiary instead.

You are married and your lifestyle is dependent on your income. It is worth having a discussion with your spouse about how he or she would want to live if you were gone. Would he want to stay in the house, or downsize? Are there debts to pay off? What income could he expect from working? If your spouse could not maintain his or her lifestyle without your income, even if you don’t have children, you need life insurance. If your spouse is working or reasonably could work if you were gone, you won’t need as much. If you have debt that will need to be paid off, you may need more. Term life insurance will do in this case as well.

You have outstanding private student loans.  If you have outstanding private student loans, someone may be liable for their payment after you die. If you a parent, grandparent or someone else cosigned for your loan, they may still have to pay the debt after your death. If you live in a community property state and took on the loans after you married, your spouse may still have to pay. You should have enough life insurance to cover the repayment of those outstanding loans. If you are a parent cosigner or you took out a Parent Plus loan, you can take out a life insurance policy for the amount of the loan on your student. Again a term policy will work just fine here.

You are retired, married and have a pension that you and your spouse depend on for living expenses. If you have a traditional pension plan, payment may end when you pass away. While this can be avoided in most plans by choosing a joint life payout (meaning that the pension will be paid over both your life and your spouse’s), some do not make that choice because it lowers the monthly payments. If you have chosen a payout over only your own life, you will need life insurance to replace your pension payment if you die before your spouse.

In this situation, permanent life insurance is a better option. Permanent policies are, as the name suggests, permanent. They provide coverage for your entire life as long as you make the premium payments. These policies are much more expensive than a term policy. But as you get older, term life polices get more expensive, and eventually insurers may be unwilling to issue you a policy. With a permanent policy, such as a whole life policy, your premiums will remain level throughout your life regardless of your health. As mentioned previously, these policies also have a savings element, because over time they accumulate a cash value, but the most important factor is that you can count on continuous coverage.

Whole life insurance will likely cost you more than the difference between a single and joint payout on your pension. So if you haven’t taken your pension yet, simply choose the joint life payout instead of counting on life insurance to make up the difference.

Not everyone needs life insurance. As our kids grow up and our savings build, our need for life insurance gradually declines until it no longer exists. For the time that you do need life insurance, for most people a simple low cost term life insurance policy is all that you need. Don’t spend any more money, or spend it any longer than necessary, on life insurance.

Image courtesy of Vlado at FreeDigitalPhotos.net






Dismantling Obamacare: A Self Inflicted Wound

With Republicans winning control of the White House, the House of Representatives and the Senate you can nearly hear chomping at the bit to dismantle the Affordable Care Act, a.k.a. Obamacare. Objections to the law have been loud and unending since it was passed in 2009. Congress has voted to repeal the law in its entirety six times and voted to defund or delay parts of the law 54 times since then. Only 40 percent of Americans approve of the law and about 50 percent disapprove. Yet anecdotally speaking, few people I have spoken to understand how it works, and too many blame it for problems it did not cause. Before there is too much enthusiasm for repealing or mortally dismembering the law it is worthwhile to consider what we would be giving up.

The ACA has allowed 20 million people to get health insurance coverage according to the Department of Health and Human Services. This includes people who previously could not get coverage due to preexisting conditions and young people who can now be covered under their parent’s work related group healthcare plans. It requires that all healthcare plans, including work related plans, cover wellness exams fully among other minimum coverage requirements. The law also mandates maximum out of pocket costs and eliminates coverage limits.

This last piece of the ACA is likely the source of dissatisfaction among those covered by an individual policy purchased through the healthcare exchanges who are not happy with the law (less than a quarter of those buying insurance through the exchanges). In 2014, minimum coverage requirements went into affect causing insurance companies to drop some policies. These were generally cheap policies with coverage limits that could leave the insured holding the bag on costs related to serious illnesses like cancer. Those who owned these policies had to select a new plan, and their premiums increased substantially.

What is misunderstood about this feature is the benefits the coverage requirements provide. Individuals purchasing insurance can count on a reasonable level of coverage regardless of the plan that they buy. The ACA compliant plans have maximum out of pocket expenses that, while high ($7,150 for individuals and $14,300 for families), make sure that people with serious conditions have a limit to what they will have to pay. People can focus on premiums, deductibles and whether their doctor is in the coverage network when buying healthcare insurance. For plans with coverage above the bottom tier, doctors visits and prescriptions are mostly covered within the deductible. Three quarters or more of those buying individual healthcare coverage through the exchanges rate their coverage as excellent or good.

Another complaint about the law is that it is driving up healthcare costs as well as insurance deductibles even in work related group insurance plans. Insurance premiums have a long history of rising every year. Since the ACA was enacted, increases in insurance premiums have actually slowed on average. That is not to say the healthcare law is responsible for lower premium inflation, but it is certainly not responsible for higher premiums. Rising deductibles in work related plans are corporate reactions to rising premiums. Companies can buy high deductible plans more cheaply than the traditional plans, so they are narrowing their offerings to these lower cost options.

The ACA requires that everyone have health insurance either through work, through a state sponsored healthcare program, such as Medicaid, privately or through the healthcare exchanges. Those who don’t get health insurance are charged a fine. Critics consider this feature of the law to be unconstitutional. In their view, no one should be required to buy something they don’t want.

There are two purposes behind this requirement, though only one of them is widely discussed. The requirement allows insurance companies to have a better mix of risks. Those who are healthy and use their insurance less help subsidize the costs of providing coverage to those who are not healthy and use their insurance more. When said this way, it is easy to understand why the healthy would not appreciate their role in the system.

The second, less talked about reason is if you don’t have coverage and need health care, someone else has to pick up the bill. The cost of uncompensated care for uninsured individuals in 2013 was over $84 billion, or on average $900 per person. Many states require motorcycle riders to wear a helmet. The reason behind this is the high cost of caring for those with injuries that could be prevented by a helmet. It would seem reasonable to require those who are subject to injuries and serious illnesses, i.e., all of us, to have a minimal level of health insurance so healthcare providers don’t have to pay for our misfortune.

Still, even though the healthcare law requires you to have insurance many choose to pay the fine instead. For those who don’t qualify for tax credits because their income is too high, the fine is cheaper than most healthcare plans. These people are putting their financial security on the line. They face serious financial hardship if they are involved in a car accident or are diagnosed with a serious illness.

The number of people who buy healthcare insurance through the exchanges without help from the government is a minority. About 85 percent do receive some level of subsidy in the form of tax credits and reduced out of pocket costs. The average subsidy is $291 per month which is a sizeable portion of the average monthly premium per person of $386 in 2016. Without the subsidies, many more would not be able to afford coverage.

If you think health insurance is expensive now, wait until you see what some of the proposed changes in the healthcare law do to premiums. The most often cited proposals include eliminating the individual mandate, the requirement that everyone buy health insurance, and reducing the subsidies available currently on the healthcare exchanges. The first proposal would increase insurance company risks as more of those who are healthy drop out of the marketplace. That will drive insurers to either raise premiums or leave the market altogether. Reduced subsidies means that fewer people will be eligible for tax credits raising their cost of insurance.

No good can come of dismantling the healthcare law. Yes, there are some things that would make it better, but the currently proposed changes would make it worse. A better use of time and energy would be to focus on reducing the cost of healthcare. Americans pay more than twice as much as other developed countries with worse outcomes. The ACA has helped millions of Americans get access to healthcare and, for most, at affordable prices. Undoing the law amounts to cutting off our noses to spite our face, with no health insurance to cover the cost of treating this self inflicted wound.

Image courtesy of zirconicusso at FreeDigitalPhotos.net

Who Needs Long Term Care Insurance?

Yesterday I was speaking with a friend, and she told me that both her mother and step mother suffered from Alzheimer’s disease. Her step mother lived with it for twenty years. Her mother required five different care givers at one point.

One in nine people in the U.S. over the age of 65 has Alzheimer’s and more have other forms of dementia. Alzheimer’s and dementia are just two of the many conditions that we will face as we get older that could leave us needing long term care of some sort. About 70 percent of people over the age of 65 are expected to need long term care in their life time.

The costs of long term care are nothing short of frightening. The Society of Actuaries estimates the average cost to care for an Alzheimer’s patient, as an example, is $56,300 per year. The National Association of Insurance Commissioners (NAIC) reports nationwide average nursing home costs run $78,000 per year and assisted living runs around $39,000 per year.

How will you pay for these kinds of expenses? Medicare and Medicare Supplement policies do not cover the cost of long term care, and neither does health insurance. Medicaid will cover the costs of nursing home care as well as some in-home and community based services for low income families with little to no savings. It will not cover the costs of assisted living facilities. Medicaid pays for about two thirds of all paid long term services and support costs in the U.S. But most care is provided informally by family members and is paid for with individual savings and out of family members income.

Long term care (LTC) insurance is worth considering for some. However, premiums for LTC are high. The average cost to cover a couple at age 60 is about $3,400 per year, with premiums rising for older ages. The NAIC recommends paying no more than 7 percent of your annual income in premiums. If your annual income is less than $49,000 per year, LTC insurance may be out of reach.

LTC insurance may be a good option for you if you can afford the premiums, and spending down your assets to pay for care would put your spouse in a difficult financial situation. The best time to buy LTC coverage is when you are between the ages of 52 and 64. After that the premiums become even more costly.

In deciding whether you can afford the premiums, build in some room for future premium increases. While regulations require insurance companies to have rate increases approved by the state, LTC premiums have been known to rise by double digits. You wouldn’t want to have to allow your coverage to lapse because you can’t afford it any longer.

Unfortunately, the market for LTC insurance is very thin. The top 25 companies control 96 percent of the market share. The largest carrier, Genworth Financial, is currently having financial difficulties. Before you buy, shop several carriers. Some states (Oregon is one) provide a summary of carriers providing policies in the state and include information on the company’s financial strength and history of rate increases. If that isn’t available in your state, ask your agent for that information.

There are alternatives to a strictly LTC policy. Some life insurance and annuity policies provide benefits if you need long term care. For example, some life insurance policies allow you to tap the death benefit while you are alive if you meet certain criteria for needing care, and some income annuities are designed to increase your monthly payment based on the same criteria. These options are attractive because they offer benefits beyond the long term care insurance. They may also be a good alternative for those who can’t get coverage due to health issues.

Of course, the decision doesn’t have to be all or nothing. You could use LTC insurance, life insurance and/ or an annuity to cover part of the costs and rely on your savings and investments for the balance. The key is having a plan for how you will manage your or your spouse’s care as you age. The earlier you begin to think about it, the more options will be available to you.

Image courtesy of renjith krishnan at FreeDigitalPhotos.net


House Flipping Can Easily Turn Into A Flop

Shortly before the financial crisis and concurrent housing bust, home prices in the Portland Metro area were soaring, much as they are today. My husband, Jeff, thought it would be fun to buy a house and flip it. I did not. We both had day jobs and we have a daughter, so spending weekends and evenings working on a house we’d never live in wasn’t appealing. However, the biggest reason was that it was a very risky proposition.

Oh sure, at the time it seemed like a good bet. The prices of single family homes were rising non-stop. You heard about flippers making a mint for going into a house and putting in new carpet and paint. Where was the risk?

The risk was in taking on debt in order to make the investment. Debt exacerbates the impact of any changes in the market value of an investment on your return. Of course that is a great thing when prices are going up, but it is a terrible thing when prices are going down. Say you pay $100,000 for a house with $10,000 of your own money and a $90,000 loan. It only takes a drop in prices of 10 percent to wipe out your investment. A larger drop and the sale of the property won’t generate enough to pay what you owe your bank.

The National Association of Realtors just reported that the average price for an existing single family home was up 6.3 percent in the first quarter of 2016 from a year ago. Prices are up in nine out of ten housing markets nationwide, and flipping is back in vogue. While it may be tempting to make a quick buck in today’s hot housing market, there are a few things to keep in mind before you jump in.

Historically speaking, houses aren’t a very good investment except as a place to live. In each of the last four decades, home prices have only increased in-line with inflation, with one big exception; 1995 to 2005. In that decade, home prices increased 4.75 percent more than inflation, but of course that was followed in the next ten years by an increase of only 0.41 percent, or 1.43 percent less than inflation. Over the two decades from 1995 to 2015, home prices were only up by 1.60 percent more than inflation on an annualized basis.

House Price Chart
Source: Federal Reserve Economic Data, Case Shiller US Home Price Index, Bureau of Labor Statistics

Given how much work you have to put in and the transaction costs involved in buying and selling homes, not to mention property taxes, the historical picture just isn’t very compelling. Of course if you are lucky and time your flip well, there is profit to be had. The thing is when you insert the word “luck” into the equation, it starts to look more like gambling than investing. Had Jeff and I jumped on the band wagon of house flipping we could have very well lost our investment, or we could have wound up paying interest on the loan for years, waiting for the investment value to recover.

The average person usually only sees an opportunity when the window has been open a long time. That makes the timing of the investment precarious. There are a number of indications that the window of opportunity in the housing market may be narrowing. The first is the very fact that flipping is back in vogue. You have to worry about a market where speculators advertise their winning house flipping formula on the radio and in free seminars. In addition more markets are reporting that homes are selling above asking price. Home values are rising faster than incomes, and the average down payment for first time home buyers according to an article by Market Watch is now just 3.5 percent of the home value. All of this could lead to home prices stagnating or declining if the economy were to fall into a recession. That means the risk of making no money or losing your investment is increasing.

Successful flippers have years of experience in the residential real estate markets. They are better able to gauge the likely return relative to overall costs when they invest. They also have a reliable team of construction contractors that can get in and out of a project in a timely way. If you are considering going into a flip for the first time, you will be at a disadvantage in all of these aspects of the deal.

Real estate has a unique draw as an investment. It’s tangible, and it seems like you have greater control over the outcomes. Many people think they know more about the real estate market than they do, simply because they live in a house and are surrounded by other houses in their neighborhood. The stock market, in contrast, is esoteric. The gyrations of the S&P 500 index or the Dow Jones Industrial index seem to follow no logic, and you certainly cannot see and touch your investment. However, for most, these markets are a better place to invest.

In the stock market, transaction costs are low. You can buy an entire portfolio of stocks for a tiny fraction of a percent when you buy an index mutual fund. There is no work involved in buying an index fund, and while these markets are not for short term investments, over time the historical returns relative to inflation have been better than residential real estate. Before using your hard earned savings to invest in today’s hot housing market, carefully consider all of the costs and how much you really know about residential real estate. It’s better to leave high risk, debt funded investments like these to the pros.


There Definitely is an Afterlife, But You Aren’t In It

We were having dinner with some friends a few weeks ago, and since one of our friends is an estate attorney, the topic of wills and other estate documents came up. Surprisingly, of the four couples around the table, two did not have a will. It turns out this is not uncommon. A survey by Rocket Lawyer, an on-line legal service provider, found that more than half of adults do not have a will or estate plan. More surprising is that over half of Americans age 55 to 64, and nearly two thirds of Americans age 45 to 54 do not have a will.

There doesn’t seem to be any confusion about the need for a will. Most people’s reason for not having done one, from the survey, is that they haven’t gotten around to it. Only 17% said they didn’t think they needed one. Everyone needs a will. Even if you don’t have much in the way of assets, you still want to have some say over what happens to what you do have. What happens if you don’t have a will?

If you haven’t left instructions for what will happen with your assets, the state where you live will make the decisions for you. Each state has a set of default mandates for the distribution of your estate, a legal word for all that you own, big or small. Regardless of what you might want or have even told your family and friends, the state will follow their default rules for distributing your belongings. In some states, the default may be as far away from what you want as you can get. For example, in many states, your surviving spouse might have to split your assets with your parents and siblings if you haven’t left a will indicating that all of your assets should go to your spouse. If you have children, and both you and your spouse have died, the state will appoint a guardian according to the rules of the state, and that might not be who you intended. While in most states, your children will automatically inherit a portion of your assets, if they are under the age of eighteen, the court will administer (for a fee) their share of your assets, making it unnecessarily difficult for your spouse or your children’s guardian to access the money they need to raise your children.

A will can go a long way toward making life easier for those you’ve left behind. To have an attorney prepare a will alone will cost around $1,000, but could be more depending on where you live. There are on-line resources for preparing a will that are cheaper. These can run less than $100, and may be all you need if you don’t have much in the way of assets and you don’t have children. You would be well served by having an attorney review these documents though, because small mistakes can have big consequences. A simple review of documents you create on-line will be cheaper than the full preparation.

There are some things that your will won’t cover. What happens to your 401(k), or other employer sponsored retirement account, your IRA (individual retirement account), life insurance or annuities are all governed by your beneficiary designation. It does not matter what your will says, these accounts will be turned over to your beneficiary. This sounds great. One less thing to worry about. However, if you don’t keep your beneficiaries up to date, it can be a disaster. In my investment advisory firm, we had a client whose husband passed away. Most of their savings were in his IRA. When he remarried he named his new wife, our client, as his sole heir in his will, but he didn’t think to change the beneficiary on his IRA. His entire IRA was distributed to his ex-wife. Our client was left with substantially less money to live on in retirement than she planned.

Children under the age of eighteen cannot receive a retirement account distribution or insurance proceeds directly, so do not name your children as beneficiaries, unless they are over eighteen. The annuity business that I managed dealt with hundreds of spouses as well as court appointed guardians who were trying to raise children who had been named as beneficiaries of life insurance policies. These guardians had to go to court every time they needed money for the kids with documentation for why they needed it. The courts are simply trying to protect the kids, but in doing so, they make raising them far more difficult.

If you have children, you may want to consider establishing a family trust. A family trust is a legal entity that can hold your valuable assets. It allows your family to have access to your assets, according to your will, without going through probate. Probate is the legal process that validates your will (if you have one) and assures all of your debts are settled and your remaining assets are distributed. Probate can take a year or more and cost money- up to 5% of the value of your assets. With a family trust, all of the assets that have been transferred to the trust are accessible by the trustees and beneficiaries without first going through probate. You can designate the trust as the beneficiary of your retirement and insurance accounts, ensuring that the money is immediately available to those who will need it.To establish a family trust, you will definitely want to consult with an attorney. The cost for a family trust ranges depending on the complexity, but one can be prepared for about the same cost as a will.

While you are thinking about wills and trusts, it isn’t a much bigger leap to a full estate plan. A full estate plan will include documents that help your family make decisions and manage your affairs while you are alive if you have become incapacitated. These include a health care directive and a financial power of attorney. A health care directive documents your wishes in regard to the types of care you want to receive, and gives a person you name authority to make health care decisions for you in line with your wishes. A financial power of attorney gives a person you trust authorization to pay your bills, and otherwise manage your affairs while you are incapacitated. In addition to these legal documents, record your on-line accounts with your usernames and passwords, and save them in a safe place, such as a safe deposit box. This is so the person who has your financial power of attorney knows what accounts you have and can easily access them.

No one wants to think about dying, but there is definitely an afterlife. It is the life the people you love will have to live without you. If there is one true gift that you can leave them, it is an easier transition into that life. A little time putting in place a will, and if appropriate, a family trust can help them avoid the stress and frustration of dealing with a rigid legal system, whose intentions are good but where the results may not be in their best interests.

Photo courtesy of Unprofound.com

Do You Have Insurance for Your Income?

I’ve recently mentioned disability insurance in a couple of posts, “Its a Scary Time of Year – Open Enrollment” and “Risk May Be Unavoidable, But It Doesn’t Have To Be Unmanageable“. However, its such an important topic that I thought it warranted digging into a little deeper.

Disability insurance provides income replacement if you are unable to work due to an accident or illness. It comes in two forms; short-term disability and long-term disability. Short-term disability insurance covers absenses of between 60 and 180 days and can pay as much as 80% of your gross salary. Long-term disability insurance picks up where short-term disability leaves off, and can provide benefits for years, depending on the policy and the nature of the disability. Long-term disability will typically replace about 60% of your salary. Many employers offer both forms of disability insurance. Often times employees will be automatically enrolled in short-term disability coverage, frequently at no cost to the employee. However, long-term disability insurance is generally a voluntary benefit, requiring the employee to pay for much of the premium, and many employees skip the coverage to save money. Less than one in three private sector workers is covered by long-term disability insurance.

In a Bankrate.com survey, two thirds of respondents indicated that they would not be able to cover an unexpected expense of more than $500 with their current savings. That means that going without a paycheck for any extended time could be financially devastating to a family. Yet most people underestimate their chances of requiring an extended leave from work due to illness or injury. According to the Council for Disability Awareness, if you are an average 35 year old woman in good health and working in an office job, you have a one in four chance of becoming disabled for more than three months, and if that is you, you’ll have a 38% chance of being disabled for more than five years. For men, the chances of a disability lasting more than three months is one in five. You are more than twice as likely to have a disability than you are to file a claim against your homeowner’s insurance.

How will you pay your bills if this happens? Your rent or mortgage has to be paid on time every month. You need to heat your home and buy groceries. If you are like most Americans you have other outstanding debt like car loans and credit card balances that also need to be paid. If you are sick or injured for an extended time, you will have new medical bills to worry about as well. A Harvard Law School study found that nearly two thirds of bankruptcy cases were linked to medical causes. Forty percent of all individuals filing bankruptcy in the study had lost income due to illness or injury.

You may be thinking that you would be eligible for other support, such as workers compensation insurance or Social Security Disability Insurance. Only 5% of disabling illnesses or accidents are work related, which means that 95% would not be covered by workers compensation insurance. Social Security Disability Insurance, like the retirement benefit, is based on your average earnings. If you are our thirty five year old and making $60,000 per year, you could be eligible for as much as $1,800 per month, which is about one third of what you are currently making (the average benefit is $1,165). Will you be able to live on that much less income?

If long-term disability insurance isn’t available through your employer, you can buy an individual policy. You can expect to pay between 1% and 3% of your annual salary. If your employer offers the coverage it will likely cost less. Even at individual policy prices, the expense is well worth it given what you can expect to lose if you do become disabled. Your greatest asset is your ability to earn a living. Protect your family’s well being and insure your income from the disaster of a long-term disability.

Photo Courtesy of Unprofound.com

%d bloggers like this: