Category Archives: Personal Finance

Free personal and financial freedom reports

Global Freedom Strategies

Dear blog readers,

The other day I came upon a great information resource,
a place where you can obtain a number of free reports –
providing information on a wide range of critically-important
subjects. The website is called Global Freedom Strategies
and, as the name suggests, its focus is on personal and
financial freedom.

Check it out for yourself:

http://www.globalfreedomstrategies.com/go/r/moneyguru

All the best

Alan

The Perils of Tapping a 401(k)

by Nilus Mattive

Nilus Mattive

Fidelity just released a new report and it’s pretty depressing.

The upshot? A record number of Americans are making hardship withdrawals from their 401(k) retirement plans. Worse yet, the number of U.S. workers borrowing from their plans is also at a 10-year high!

I’ll get to why this is so disheartening in a moment. But first …

A Quick Look at the Ways to
Remove Money from a 401(k) Plan

The 401(k) plan is the most ubiquitous retirement account in the United States, and for good reason: Any money employees contribute is not counted for income tax purposes. Instead, it’s taxed — along with investment earnings — upon withdrawal.

So how and when can money come out of a 401(k) plan?

The first way is upon retirement, which is defined by the tax code as the contributor reaching age 59 ½. At that point and beyond, any money that comes out of a 401(k) plan is simply taxed as regular income.

The second way is through separation of employment. In this case, the contributor has four choices, which boil down to:

  1. Leaving the money where it is
  2. Rolling it over into a new employer’s plan
  3. Rolling it into an Individual Retirement Account
  4. Withdrawing it.

When done correctly, the first three options don’t result in any taxes or penalties. However, the fourth option DOES (unless the employee also happens to meet the conditions for retirement discussed above).

In short, money that comes out of a 401(k) plan before the contributor reaches age 59 ½ results in both regular income taxes being due but ALSO a 10 percent early withdrawal penalty.

The third way is through what is known as a “hardship withdrawal.” While they’re not required to do so, most 401(k) plans allow contributors to remove money under certain circumstances — including medical expenses, the purchase of a principal residence, tuition and related educational costs, and funeral expenses.

Individual plans have some leeway in how they specifically define “hardship” and what particular events can trigger withdrawals, but the IRS does provide the following guidelines:

“For a distribution from a 401(k) plan to be on account of hardship, it must be made on account of an immediate and heavy financial need of the employee and the amount must be necessary to satisfy the financial need. The need of the employee includes the need of the employee’s spouse or dependent.

“Under the provisions of the Pension Protection Act of 2006, the need of the employee also may include the need of the employee’s non-spouse, non-dependent beneficiary.

“A distribution is not considered necessary to satisfy an immediate and heavy financial need of an employee if the employee has other resources available to meet the need, including assets of the employee’s spouse and minor children. Whether other resources are available is determined based on facts and circumstances.”

In a few specific cases — such as death, permanent disability, or termination of service after age 55 — the IRS will not impose the 10 percent early penalty on these withdrawals. But in most other cases it will.

Worse, employees will also be required to pay ordinary income taxes on the amount removed.

And they will most likely be barred from contributing any new money to any employer retirement plan for at least the following six months!

The fourth way to remove money — temporarily — from a 401(k) is through a loan. Many plans will also allow participants to take out loans from their 401(k) accounts.

Generally, these loans have five-year terms — unless it’s for a primary residence — and carry fixed interest rates. Repayments must be made in regular installments, and everything goes back into the 401(k).

Now, Here’s Why I Find All the Current
Borrowing and Withdrawing So Troubling …

Obviously, a lot of Americans have hit rough patches lately … and other sources of credit remain in short demand … which is why hardship withdrawals are at an all-time high.

Borrowing from a retirement account now could leave you struggling down the line ...
Borrowing from a retirement account now could leave you struggling down the line …

But with so many people nearing retirement already grossly underfunded, watching even more money flow out of their accounts is going to prove catastrophic down the line.

And since most of those withdrawals are getting hit with not just regular taxes but also the additional 10 percent penalty, we’re talking about a lot of nest egg money getting vaporized before it even goes toward their immediate needs!

Oh, and get this — Fidelity said 45 percent of the people who took a hardship loan last year took ANOTHER ONE this year!

What about all the 401(k) borrowing going on?

Well, on the surface it’s better to take a loan than an outright withdrawal because taxes and penalties aren’t assessed.

Still, there are a couple of things I find problematic:

#1. Unlike hardship withdrawals, there are no hard-and-fast rules on loans. So there’s no guarantee that this money is truly being borrowed for dire circumstances. People could simply be tapping their future retirements in the same way that they tapped their home equity a few years ago.

#2. While it’s true that this money should ultimately be repaid, and at least the interest will go back to into the retirement account, it essentially means that very little new money will be contributed. The end result will be a lower final balance and the loss of the very tax advantages that make 401(k)s attractive in the first place.

Look, if you’re absolutely stuck right now, then you’ve got to do what’s necessary. But in my opinion, you should avoid 401(k) hardship withdrawals at all costs … and think long and hard before you consider borrowing against your future retirement.

After all, the other typical sources of retirement income are looking shakier than they ever have before … and the folks tapping their 401(k)s may find themselves completely out of options in their golden years.

Best wishes,

Nilus

Credit card consolidation: An easy way to pay off debt

The problem with credit card arises when you are buried in unpaid credit card bills. An easy way of paying off debt is credit card consolidation. With credit card debt, it is very difficult to regain financial freedom. So it will be wise on your part to look for some debt relief option. If you have high interest rates on your credit cards and if you are unable to pay more than the minimum amount every month, then you will remain in debt for the next 20 to 30 years. Unfortunately, this is the position that the banks want you to be in because this is their chance to earn. But don’t fall prey to such situations. Read on to know how credit card consolidation programs help you get rid of debt.

5 Benefits of credit card debt consolidation programs

There are multiple benefits of credit card debt consolidation program. Here are some of them.

1.Lowers interest rates: As you are enrolled in a debt consolidation program, your debt consultant will negotiate with your creditors and attempt to lower the interest rates on your loans. With lower interest rates your monthly payments will also decrease. So, with affordable monthly payments you will easily be able to get rid of debt.

2.Single monthly payment: You will reap the benefits of a single monthly payment if you decide to pay off debts through a credit card consolidation program. Instead of writing multiple checks to multiple creditors, you just have to make a single monthly payment to the consolidation company. Save money and accumulate your savings in this debt account. The debt consultant will eventually pay off your creditors as the account grows.

3.Eliminates late fees and penalties: If you have missed out payments in the past, then you must have accrued a huge amount of late fees and penalties. In a debt consolidation program, your debt consultant will eliminate all late fees and penalties in order to make it easier for you to repay the debt amount.

4.Stops harassing creditor calls: If you are late on your credit card payments, then it is very natural that your creditors are calling you day and night to get back their payments. These creditor calls can sometimes become too stressful and annoying. If you sign up with a debt consolidation program, then your debt consultant will negotiate on your behalf. Therefore, the creditors will no longer call you. They will be in direct touch with the consolidation company.

5.Doesn’t hurt your credit score: Many debtors are worried about approaching debt relief companies being apprehensive about the bad impact it has on his credit score. But credit card debt consolidation program doesn’t hurt your credit score as you are making regular and timely payments. Actually, the debt consultant pays off your creditor every month. So do consider making your monthly payments on time.

Credit card consolidation program is the most common way of getting out of debt by professional help. Take into account the above mentioned benefits before approaching a debt consolidation program. Also check the BBB rating of the company to avoid any kind of scams.

First Home Checklist That Won’t Fail

Choosing your first home is one of the most important investments you will ever make and for that reason alone it is something that needs a lot of thought and planning beforehand. This is the place where you are going to be bringing up your family, where you will be seeking refuge at the end of a busy work day, where you will be entertaining friends and family, and last but not least this is your own little corner of the world where you can relax and do whatever you like.

It’s very easy when you start house hunting to make the assumption that you will just “know” when you find the right house, and that might be true. But a more sensible approach would be to have a first home checklist that you can use to make sure the homes you view meet your essential criteria.

Key points for a good checklist

Size: Nothing could be worse than underestimating the amount of space that you need for yourself and family. Even though your budget might not stretch to the palatial mansion that you might like, it is still important to estimate exactly how much space you need. Don’t overlook that wasted space is a bad investment too; if there’s more room than you want or need, maybe this isn’t the right one.

Planning rates and taxes: Are you buying in the latest upmarket suburb or somewhere more family orientated and residential? The area you select can have a big impact on your future budget in terms of rates or taxes. The more expensive the suburb or land, the more you pay. Find out what the current rates on the property are and the predictions for the area generally. Is the area likely to become more expensive over time as it develops? How will this affect you? Are there any developments planned that could impact on your rates or taxes? Have a survey done so you know exactly what is planned for your new neighbourhood.

Travelling to work: How far is the house from your place of work? Given that you will be travelling each day it’s important to take this into account. Two factors to consider here are cost and distance. How long are you prepared to spend travelling back and forward each day? Is it going to be costly for public transport or parking every day, is there any public transport close by?

Location: Your choice of location can make a big difference to the cost of your home. For some, it’s important to be seen to be living in the “right” area whilst others are more concerned that the house is just right and the area doesn’t matter too much to them. If you want to live in a prestigious suburb this means you will pay for the privilege. However, if you choose to sell you will probably make a profit from your investment. For those who are not fussy about the suburb, keep in mind that if it’s run down or abuts a “bad” area, your house value might not improve too much over time.

Local area facilities: You need to know what is in your area in terms of facilities. What type of entertainment is available? Are there any clubs, theatres, cinemas or community centres where you can go to socialise and relax, where are the nearest medical facilities in case you need a doctor, hospital or dentist?

Parks and play areas: When you have children or pets it’s nice to know there is somewhere you can take them for a walk or to play, when the back garden just isn’t quite big enough and you need a change. Parks and public gardens are nice to visit when you want to experience a bit of nature and fresh air.

Shopping: A necessary part of our everyday lives is doing grocery shopping or filling the car with petrol. So make sure the nearest supermarket or service station isn’t too far away.

Meet the neighbours: Now you might be anti-social and not really care who you live next too. But meeting the neighbours is the best way to get a feel for the neighbourhood and learn about the area generally. Having a good neighbour can be very helpful when you move into a new area, till you find your way round. They might even give you ideas for more things to add to your first home checklist.

Whilst there are many things to take into account when choosing your home the first home checklist above covers the basics and will give you some guidance before making your final choice.

Top tips from financial experts

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Hi everyone. Here are some excellent money and personal finance tips care of Yahoo Finance Canada.  They asked some of their favorite personal finance experts for their top tips and these four themes emerged. I hope you apply these tips! Here they are:

BUILD YOUR MARGIN OF SAFETY

Benjamin Graham, the father of value investing, considered it vital for investors to build a margin of safety into their calculations. According to Graham, if you’re buying a stock, you should insist on paying a price so low that even if the market turns sour and the stock turns out to be a dud, you still recover most of your money.

It’s an excellent idea to apply the same thinking to all aspects of your personal finances. The next decade is shaping up as a tumultuous time. You should plan your future with a margin of safety so that unexpected expenses or emergencies can’t derail you.

A good place to start is by stowing a couple of months of living expenses in a savings account or money market fund. A stash of cash ensures that if your job disappears, or you fall ill, you can survive until you find a more permanent solution.

Another way to increase your margin of safety is to eschew debt. “There are only two reasons you might want to consider borrowing — for your first home and for your education,” says Jim Otar, a certified financial planner and founder of retirementoptimizer.com.

If you’re newly married and thinking about buying a home, leave yourself room to breathe. Norm Rothery, chief investment strategist at Dan Hallett & Associates, says newlyweds often buy as much house as they can afford. But if one of you loses your job, or if one of you decides to stay home when Junior comes along, panic can ensue. “It’s a good idea to make sure that you can afford the mortgage on one salary — just in case,” says Rothery.

As you edge into retirement, a margin of safety becomes even more vital. Don’t assume your portfolio will generate double-digit returns. Don’t even assume the market will always go up.

The greatest danger comes if you hit a major market downturn in the first couple of years after you quit work. Say you start out with a $200,000 portfolio that you are counting on to produce 7% annual returns — in other words, $14,000 a year in income.

That doesn’t sound wildly unrealistic. But what if the market falls by a third in the first year of your retirement? What if it plateaus for the next five years while you keep on withdrawing $14,000 a year? By the time the turnaround finally comes, you will have only about $65,000 left. Even a vigorous recovery won’t provide enough profit to maintain the level of withdrawals you would like.

To avoid this dire situation, insist on a margin of safety. Experts say you should count on withdrawing no more than an inflation-adjusted 4% of your initial portfolio every year. If you have a $200,000 retirement portfolio, withdraw only $8,000 in income the first year. Every year bump up that amount by the rate of inflation. History demonstrates that keeping your withdrawals to 4% should allow you to weather even the market’s worst storms.

SEEK GOOD ADVICE

Did your financial planner warn you to get out of the market ahead of last year’s crash? Probably not. If there’s one thing that the recent market turmoil has demonstrated, it’s that experts have no more insight into what is going to happen next than you or I do.

If you want to prosper over the next decade, you should think twice about whether you really need professional advice — and how much you’re willing to pay for it. If you’re a typical Canadian, who invests primarily through mutual funds, you already hand over about $2,000 a year in fees for every $100,000 you have invested. You pay that year after year after year. You don’t notice the bite, because mutual funds deduct fees before reporting results to you, but as a general rule, the fees on a typical fund chew up a quarter to a half of the after-inflation gains your money will generate.

You can slash your fees and keep more of the profits for yourself by investing in low-cost index funds. (For more on this strategy, see the Couch Potato portfolio section of moneysense.ca.) If this plan doesn’t appeal, you should look for ways to drive a better deal with your financial planner.

Start by understanding what a planner can — and can’t — do for you. The right planner can be a huge help if you’re dealing with complicated tax issues or estate planning problems or insurance questions. But financial planners are not investment gurus. They can’t reliably predict which stocks will pop, which mutual funds will do best next year or how the economy will perform in the months ahead. No one can. If you’re looking to a planner primarily for market tips, it’s time to think again.

While you’re thinking, devote a bit of attention to how your planner is getting paid. Most planners work on a commission basis and earn money for selling you products. The more products they sell you, the more they make. “No matter how conscientious they may be, there is an inherent conflict of interest if your financial planner only gets paid when they sell you something like a mutual fund,” says Marc Lamontagne, a fee-only planner with the planning firm of Ryan Lamontagne in Ottawa. “If you’re looking for independent financial advice from an advocate who works for you, and not the mutual fund company, you should choose a financial planner who is compensated in a way that aligns your interest with theirs.”

The best plan is to seek out a planner whom you can pay by the hour. This removes any conflict of interest. You’ll pay more upfront for the advice — $500 to $2,000 would be typical for a detailed consultation, complete with budget and portfolio plan — but most of that is a one-time expense. (You may want to pay smaller amounts for an annual update with the same planner, but that’s entirely up to you.) Once your plan is in place, you’ll save money over the long run because you won’t be paying hidden fees for unnecessary products. For a list of fee-only planners, visit moneysense.ca.

PAY DEBTS. OR SAVE. BUT NOT BOTH

It happens time and time again. A young couple pinches pennies, lives on Kraft Dinner and forgoes vacations so they can pay their mortgage, cover their daycare bills — and contribute to an RRSP. They complain about feeling trapped and penniless.

No wonder. By trying to simultaneously save and pay down debt, they guarantee slow progress on both fronts.

A better strategy is to focus first on erasing debt. This guarantees you a good return on your money. Simply paying down credit card bills gives you an after-tax return of 18% a year with absolutely no risk. Even paying down your mortgage provides you with a guaranteed after-tax return of 5% or so. Those returns are better than you can expect in an RRSP. And since you can carry forward your RRSP contribution room to future years, you’re not losing the ability to save for your retirement. Once your mortgage and other debts are paid off, you can redirect the income that you were previously using to pay down debt and pour it into your RRSP.

If nothing else, this debt-first strategy will improve your mood because it will allow you to focus on a single goal. “Many Canadians are stretched to the limit in their 30s and early 40s,” says Malcolm Hamilton, a consulting actuary with the benefits consultant Mercer. “They have debts to repay and children to raise. Not much is left for retirement savings. The important thing is to live frugally and pay down your debts as fast as you can without cheating yourself of what should be an enjoyable part of your life. For young families with children, frugality is a virtue… savings, not so much.”

DON’T PREDICT. PREPARE

It’s tempting to try and predict how the future is going to unfold, then bet everything on that scenario. Most of the time, though, that strategy doesn’t work. Economists who spend every day following the market rarely get the future right. It’s optimistic to assume that you can do better than the pros in a few hours of your spare time.

A better strategy is to prepare yourself in a way that will pay off no matter which way the future bends.

Exactly how you do this depends upon your individual situation. Is your problem that you’re not saving any money? Then buy a pocket notepad. “Keep it with you wherever you go,” says Debbie Gillis of K3C/Kingston Credit Counselling in Kingston, Ont. “Track what you spend every day for a few months. Write down every cent you spend. This is a very powerful tool. It shows very clearly just where you are spending your money.” Once you know where you’re spending, it’s often obvious where you can trim back spending.

For many of us, problems are more subtle. Consider your investing portfolio. Is it risky enough to generate the returns you need? Or too risky? David Martin, an associate with Second Opinion Investor Services in Halifax, says he sees many clients who are either too cautious or too aggressive with their investments.

He recommends you look ahead to see how much money you will need down the road, then work backwards from there. Using realistic assumptions, figure out how much you will have to save to amass the amount you desire. One common mistake is for people on the verge of retirement to still have a high-risk portfolio, full of stocks, when their goals could easily be met with a more conservative mix. “You have to have a plan with goals and objectives and you have to invest according to it,” says Martin. “Don’t take on more risk than you have to.”

Bear markets are going to occur every four to six years and you have to be prepared to weather them. Richard Deaves, author of What Kind of an Investor Are You?, says your best bet is to pick a mix of stocks and bonds that fits your needs and temperament and stick to it no matter what the market is doing. “There is abundant evidence that even sophisticated market practitioners have little success in timing the market,” says Deaves. If in doubt about how to build your portfolio, consider a 60-40 blend of stocks and bonds. This mix provides both growth (in the form of stocks) as well as a solid base of income (from bonds). Once a year, rebalance things, taking a bit of money out of the investments that have done the best over the past year and investing it back in the areas that have lagged. This simple technique ensures you always buy low and sell high.