This particular article includes comments from former brokers who have either retired or switched over to independent financial advisory firms.  One comment in particular gave me the shudders:

The difficulty I had in the brokerage industry is that you don’t get paid for the delivery of financial advice absent the sale of a financial product.  That is not to say the advice I rendered was not of professional quality, but in the end, I always had the sales pitch in the back of my mind.

This is not to construe that brokers cannot provide good advice – but rather, that even the brokers admit that the compensation system to which they adhere causes a bias that can be counter to the best interest of the client, the consumer of financial services.

In addition to the explicit issue of compensation systems, since the broker/salesman is not required to act as a fiduciary, certain under-the-table compensation systems can be in place with “preferred” mutual fund choices which offer revenue sharing with the brokerage above and beyond commissions.  Disclosure of such arrangements is brand-new, only within the last year or so, and have come about in response to class action lawsuits against the likes of Edward Jones and Morgan Stanley Smith Barney.

At one stage it looked hopeful that upcoming legislation might have an impact on this situation – the first version of Senator Dodd’s financial overhaul bill required fiduciary duty by all brokers and advisors – but this bill has been scrapped and who knows what (or when) will be the final outcome.  Stay tuned…

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IRS CIRCULAR 230 NOTICE: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (or in any attachment) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed in this communication (or in any attachment).

ERISA

The Employee Retirement Income Security Act (ERISA), passed back in 1974, set several rules in place with regard to retirement plans – known as qualified retirement plans or QRPs – which include the 401(k), the 403(b), and any other CODA (Cash Or Deferred Arrangement) sort of account provided by your employer.  One of those provisions is primarily to protect your spouse… When filling out your paperwork to open the account, you might have noticed on the beneficiary designation page that, in order to designate someone other than your spouse, you are required to get your spouse’s signoff.  In this way, your spouse cannot be disinherited from your QRP without specific consent.

I don’t know for sure of any circumstances where this has caused a major problem, but it is a restrictive provision nonetheless.  I guess the primary time that this could be a problem is if the spouses are estranged but still legally married, or when a spouse has gone AWOL and cannot be found.

IRA

The IRA account is not covered by ERISA (we’ll cover more of this in another post) – and as such does not carry the spousal consent provision.  You are free to designate anyone you choose, including a trust or charitable entity, without the knowledge of your spouse.  Although this could cause a surprise for your spouse if the first time he or she learns of your beneficiary designation is after your passing – this can provide the IRA owner with a great deal of flexibility in making personal beneficiary decisions.

Don’t get me wrong, I do not advocate keeping secrets with regard to your beneficiary designations… On the contrary, I recommend that you and your spouse talk things over and agree on all things financial – IRAs included.  But this provision, or rather lack of a rule, might provide you with some additional leeway that you’re looking for in your unique circumstances.

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IRS CIRCULAR 230 NOTICE: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (or in any attachment) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed in this communication (or in any attachment).

Now is the time to look back and review our actions during this difficult period – review is useful for us to understand what helped us weather the storm and wind up with positive outcomes.  According to some of the things I’ve been seeing and reading, it appears that many folks came through the financial crisis pretty much unscathed.

What We Did Right

We Didn’t Panic – As in most “crisis” situations, it’s a good thing to maintain calm.  In this specific crisis, we held true and didn’t make sudden moves to react to the situation.  Since we had a  well-thought-out plan in place, we stuck to it and, even though we saw our accounts decrease in value – we were able to take advantage of the increases that the stock market provided later.

Good diversification across all asset classes also kept us from feeling the pain that concentrated positions could have caused.  We found that investing globally helps to balance out any one country’s problems so that we are able to retain and grow our funds through thick and thin.

We Didn’t Listen to the Pundits – You know that in this information-deluged age we live in, you can get opinions on the financial world at any moment from dozens of talking heads on the TV and internet.  At any one time you can find someone telling you to buy the market and another telling you you’re crazy if you don’t sell the market.  You did the right thing by recognizing that these folks are entertainers first and foremost.  If it’s fantastic and draws attention, they’ll say it – whether it has merit or not.

We Slowed Borrowing and Living On Credit – Recent reports tell us that consumer non-mortgage credit has dropped off during the past year and a half, when compared to mortgage debt.  Both figures are still high (more than 10% of income is servicing mortgages, and nearly 6% is spent servicing other credit), but these figures have come down from the all-time highs we saw a few years ago.  If what I believe about you, my readers, is true, you are on the much more conservative side of those figures, and you have strived to improve your situation through this crisis when possible.

We Continued Saving – From what I read, it appears that most everyone who is in the position to add to savings and retirement accounts, continued to do so during the financial crisis.  According to Vanguard, a high percentage of retirement plan participants (especially younger participants) have higher balances in their accounts now than they had two years previous – at some of the market highs.

As we all know, one of the most important factors of success in a saving and investing plan is to continue with systematic savings in good times and bad.  Continuing to save and invest even when all the noise going on around you said that you should stay away from investing has worked and worked well forever.  By doing so, you benefited from the dollar-cost-averaging aspect of systematic investing, buying low during the market downturn, and then riding the massive increases we have seen in the market over the past year.

Bottom Line

All in all, we did a good job of recognizing that the markets can’t be controlled, but that we can exercise a degree of control by having a diversified investment plan and by determining that we’ll continue to put aside funds for that eventual sunny day we’re all hoping to see. As I mentioned in a previous article, it’s always good to save 10% to 20% (or more), live within our means, and invest, diversified, for the long term.  These few tenets have served us well – in good times, and as we’ve now seen, in bad.  Keep up the good work!

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IRS CIRCULAR 230 NOTICE: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (or in any attachment) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed in this communication (or in any attachment).

Earnings Tests

If you’re at or older than FRA when you begin receiving retirement or survivors benefits, you may earn as much as you like and your benefit will not be reduced.  If, however, you are younger than FRA, your benefit will be reduced $1 for every $2 you earn over $14,160 before the year of FRA.  The benefit will be reduced by $1 for every $3 you earn over $37,860 in the year of FRA, up until the month you reach FRA. (2010 figures)

For example, let’s say your benefit is $700 per month ($8,400 for the year) and you are age 63.  You work and earn $20,000 during the year, which is $5,840 more than the earnings test for your age.  The Social Security Administration would withhold a total of $2,920 from your benefit ($1 for every $2 over the limit).  This is done by withholding the benefit for five months, January through May – for a total of $3,500 being withheld.  Beginning in June you’ll receive your full $700 benefit, and in January of the following year you’ll receive $580 extra for the additional amount that was withheld above the $2,920.

Now, if this year is the year you’ll reach FRA – for example in June, and your earnings through May were $40,000 ($2,140 more than the limit), your $8,400 benefit would be reduced by $713, which is accomplished by withholding your first two checks of the year, and the additional $687 will be paid to you in January of the next year.

Hope this clears up the very confusing way that earnings tests work with Social Security benefits.  As always, leave a question (or call me) if you are still uncertain.

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IRS CIRCULAR 230 NOTICE: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (or in any attachment) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed in this communication (or in any attachment).

Go Online (where else?)

First of all, you can go to the IRS’ website at www.IRS.gov and access the interactive tool called Where’s My Refund (also available in Spanish as ¿Dónde Está Mi Reembolso?), which will give you quick, accurate information about your refund.

After you’ve eFiled (or had the return eFiled for you) you can get information about the refund 72 hours after the IRS acknowledges receipt of your return.  If you file a paper return (because you’re taking advantage of the New Homebuyer’s Credit, no doubt), the refund information will not be available online for three to four weeks after you’ve mailed the return.

In order to check on the status of your refund, you’ll need to have a few items with you (so don’t try this on the train):

• Your Social Security number or ITIN
• Your filing status (Single, Married Filing Jointly, Married Filing Separately, Head of Household, or Qualifying Widow(er))
• The EXACT whole dollar refund amount shown on your return

Once you’ve plugged all that into the system, you might get several responses.  For example, the system may simply tell you that your return has been received and is being processed.  Or, you could receive the mailing date or direct deposit date of your refund.  Or, if you’re really unlucky (or if you have enemies in the Post Office), you may find that the IRS could not deliver your refund due to an incorrect address.  In that case, you may be able to correct or change your address online.

If there happens to be an issue with your particular situation, the online system might give you some options to work with to resolve those situations.  An example would be if you have not received your refund within 28 days from the original mailing date (per IRS records), you can initiate a refund trace using the system.

If you don’t happen to have internet access, or those dadgum tv-typewriter things scare you, you can always call the IRS refund hotline at 800-829-1954.   You’ll have to have the same information listed above (Social Security number, filing status, and exact whole dollar refund amount) to use the phone system as well.

A little insiders’ tip:  refund checks are normally mailed on Fridays.  If you check the status of your refund and don’t find a mailing date, it won’t do any good to check again until after the following Friday.

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IRS CIRCULAR 230 NOTICE: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (or in any attachment) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed in this communication (or in any attachment).

No Personal Use

This is a thorny question, because there are lots of restrictions around this sort of purchase with an IRA account.  First of all, you need to understand that you cannot use the real estate personally, if it is owned by your IRA.  Specifically, you, your spouse, heirs, and any other linear relatives can not use such a piece of real estate while your IRA owns it.  That factor in itself should answer the question for a lot of folks.

So, for example you could not – purchase a home in a sunny clime and use it for your own purposes two months out of the year (allowing your family members to stay there, in addition to your own two weeks during the winter, for example) and then rent it out the rest of the year.  The IRS disallows such use, and will consider your real estate investment to have been distributed, and therefore fully taxable as ordinary income.

On the other hand, if you owned such a home and rented it out for a profit, this could still be owned by your IRA.

Additional Issues

If you’re still reading, you must be determined to try this anyhow, so here are some additional issues that you need to deal with… If you use a mortgage (actually a special type of mortgage called a non-recourse loan) to purchase the property, regardless of how it is used, the income from the property will be considered Unrelated Business Taxable Income (UBTI) and therefore taxable in the current year.  This particular wrinkle has caused many IRA real estate investors to lose the qualification on their money and owe tax on the entire account.

In addition to the UBTI issue, there are more restrictions:  you cannot provide services to your IRA, such as sweat equity in fixing up the old fixer-upper or managing the property yourself (you would have to use a third-party manager); you also cannot sell a piece of property that you own to your IRA (or purchase it from a relative); any income from the property must be deposited in the IRA account, and all expenses associated with the property must be paid by the IRA account.  If your IRA account doesn’t have enough cash on hand to pay insurance and property taxes, for example, you might have to either sell the property or distribute it to yourself in order to make sure those payments are made – otherwise if you paid the expense yourself the IRA could become immediately taxable to you.

Distribution

Lastly, as you decide that you’re going to now occupy the home, you have to distribute the property from the IRA – making the entire then-current value of the home subject to ordinary income tax.  So if you purchased a home in a depressed area (think Florida coast, for example) at $100,000, and then five years later when you want to move into the home when it is valued at $200,000 – you have to pay ordinary income tax on the entire $200,000 in one year.  If you had very little other income for the year, the ordinary income tax (federal only) would amount to $56,000 (using 2010 tax rates).

Bottom Line

If there is a piece of property that you could not otherwise purchase, using IRA funds might not be a bad way to go.  I would suggest a couple of things though: 1) you should purchase the property outright if you can, to avoid the whole UBTI issue; 2) you should plan your income in the year of distribution, so that you limit the ordinary income tax hit; 3) hire an experienced “Self-Directed IRA” trustee to help you through the process.  Because this process can be so very complicated and fraught with error, it will pay off for you to get someone on your side that has handled these transactions successfully in the past.

However, in my opinion, using the IRA to own property that you eventually will occupy is an enormous headache that you could probably do without.  If you really want to own real estate in your IRA as an investment, look at rental property or commercial property – perhaps in a REIT.  Owning real estate outside an IRA is a big enough headache, and when you add all of the additional restrictions to the process, I can’t imagine that it would be worthwhile.

Here’s a better idea:  wait until you’re ready to retire, then find that property that you want, and use distributions from your IRA to fund a mortgage on the property (or if you really want to, distribute the funds and buy it outright without a loan).  You’ll have far less headaches, and the outcome will be very similar.  Good luck!

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IRS CIRCULAR 230 NOTICE: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (or in any attachment) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed in this communication (or in any attachment).

How File and Suspend Works and Why It’s Important

Any worker can establish a benefit amount by applying at any time after age 62 – but he or she doesn’t have to continue receiving that benefit.  The worker can immediately suspend the receipt of benefits, so that seemingly the application is moot.  However, what this has done is establish a “base” for the worker’s spouse to begin receiving benefits based upon that amount.

Here’s an example:

A worker is at Full Retirement Age (FRA), and his or her spouse is the same age.  Since the spouse of the worker has a much lower benefit available based on his or her own record, and as such is looking forward to utilizing the primary wage earner’s earnings record to receive the Spousal Benefit.

At the same time, the couple prefers to delay receiving the primary wage earner’s benefit as long as possible, to age 70, in order to receive the maximum increases (see here for more details).  In order to achieve both goals, the primary wage earner applies for benefits at FRA, and then immediately suspends receiving the benefit.  This establishes the amount that the lower-wage earning spouse can begin receiving in Spousal Benefits, while at the same time allows the primary wage earning spouse’s record to continue increasing in value until he or she reaches age 70, the maximum age to delay.

How To Do It

The mechanics of this option did not become available until 2000, and as such (believe it or not) sometimes the Social Security Administration (SSA) personnel are not aware of this option.  It is still not available to be applied for online (as are most other benefit options) so you need to visit your local SSA office to complete the process.

In order to ensure that the SSA personnel are clear about what you’re doing, you should download the Social Security Legislative Bulletin 106-20 (available at this link) which explains the provision fully.  The provision is part of the Senior Citizens’ Freedom to Work Act of 2000 – and the third bullet point of the Bulletin is what you want to point out as proof that you can pull this number.

Soon enough, SSA personnel are going to get this one straight as more and more folks do this maneuver, so be patient with them, and download the bulletin and take it with you to make sure you get what you’re asking for.

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IRS CIRCULAR 230 NOTICE: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (or in any attachment) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed in this communication (or in any attachment).

Like all tax provisions, this is one that you have to pay particular attention to the details, otherwise you could miss out on the credit.  Following are seven facts that the IRS wants you to know about claiming the credit (IRS Tax Tip 2010-27).

Seven Important Facts About Claiming the First-Time Homebuyer Credit

1. You must buy – or enter into a binding contract to buy – a principal residence located in the United States on or before April 30, 2010.  If you have entered into a binding contract before April 30, 2010, you must close on the home purchase before June 30, 2010.
2. To be considered a first-time homebuyer, you and your spouse – if you are married – must not have jointly or separately owned another principal residence during the three years prior to the date of purchase.
3. To be considered a long-time resident homebuyer you and your spouse – if you are married – must have lived in the same principal residence for any consecutive five-year period during the eight-year period that ended on the date the new home is purchased.  Additionally, your settlement date must be after November 6, 2009.
4. The maximum credit for a first-time homebuyer is $8,000.  The maximum credit for a long-time resident homebuyer is $6,500.
5. You must file a paper return and attach Form 5405, “First-Time Homebuyer Credit and Repayment of the Credit” with additional documents (detailed below) to verify the purchase.  Therefore, if you claim the credit you will not be able to file electronically.
6. New homebuyers must attach a copy of a properly executed settlement statement used to complete such a purchase.   Buyers of a newly constructed home, where a settlement statement is not commonly available, must attach a copy of the dated certificate of occupancy.  Mobile home purchasers who are unable to get a settlement statement must attach a copy of the retail sales contract.
7. If you are a long-time resident claiming the credit, the IRS recommends that you also attach any documentation covering the five-consecutive-year period, including Form 1098, “Mortgage Interest Statement” or a substitute mortgage interest statement, property tax records or homeowner’s insurance records.

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IRS CIRCULAR 230 NOTICE: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (or in any attachment) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed in this communication (or in any attachment).

For most assets that you own, when you pass away, your last will and testament determines who will receive the assets.  You may want to make sure that your daughter gets the heirloom china set, and you son receives the antique car, among other things – so you direct these wishes through your will.

If you don’t have a will, the state, through the probate process, will determine how your assets are to be distributed.  Generally this is to your living heirs in order from your surviving spouse to your children and then grandchildren; but it’s different in each state, so it really makes a lot of sense to set up even a simple will to make sure everything goes to the people you want it to.

But your IRA doesn’t go through the direction of your will or the probate process, as long as you’ve properly assigned a beneficiary or a group of beneficiaries.  The great thing about this is that, since the assignment is generally cut-and-dried (i.e., beneficiaries are named specifically, so there are no questions), your heirs can immediately access the funds in the IRA account if the need should arise.  See the article here to find out more about proper choices for beneficiaries of an IRA.

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IRS CIRCULAR 230 NOTICE: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (or in any attachment) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed in this communication (or in any attachment).

The Social Security Survivor Benefit

When a primary wage earner dies, the Social Security system has a way to help care for the surviving spouse.  The Survivor Benefit is generally equal to the primary wage earner’s retirement benefit – this benefit replaces other spousal retirement benefits (the one that is equal to 50% of the primary wage earner’s benefit, available while the primary wage earner is living – see here for more detail).

The mechanics of the Social Security Survivor Benefit can apply to widows or widowers at various ages, depending upon the circumstances, as well as to the children and/or parents of the primary worker.  We’ll cover each sort of individual in turn…

Widows and Widowers

When the primary wage earner dies, the surviving spouse is entitled to receive a retirement benefit based on the primary wage earner’s retirement benefit.  Of course, if the surviving spouse’s retirement benefit based upon his or her own record is equal to or more than the deceased spouse’s benefit, the surviving spouse will continue to receive his or her own retirement benefit.

If the surviving spouse elects to begin receiving survivor benefits before Full Retirement Age (FRA), the benefit is subject to actuarial reduction.  Since a surviving spouse is eligible to begin receiving early benefits at age 60 (instead of age 62 for regular or spousal benefits), the “usual” age table is changed by 2 years.  Whereas FRA for regular or spousal benefits for those born between 1943 and 1954 is age 66, for a survivor benefit, FRA for those born between 1945 and 1956 is age 66.  (See this article for the FRA ages and this article actuarial adjustments.  Adjust the ages and years by 2 for Survivor Benefit.)  If the surviving spouse is disabled, early benefits may be received any time after age 50, with the actuarial reduction assuming benefits begin at age 60 (no further reduction, in other words).

In addition to the benefit mentioned above, there is a Survivor Benefit available to a younger spouse if there are children under age 16 that the surviving spouse is caring for, or a child of any age who has become disabled before age 22.  This Survivor Benefit is equal to 75% of the FRA benefit of the deceased spouse – and only lasts until the child reaches age 16.  At the same time, each child under age 18 will receive a Survivor Benefit (more on this later) until age 18.

It should be noted that there is no increase in benefits by delaying receipt of benefits after FRA, so a widow or widower should begin receiving Survivor Benefits at FRA and no later.

It should also be noted that divorced spouses who survive a deceased worker are also eligible for the Survivor Benefit.

Children

Any child under age 18 (19 if attending school) who survives a deceased worker that has earned the maximum credits is eligible to receive a Survivor Benefit equal to the actuarially reduced amount of the FRA of the deceased parent.  This amount is 75% of the FRA benefit of the surviving child’s parent, and this benefit will be payable until the child reaches age 18 (or 19).

In addition to the children of the deceased worker, this benefit can be available to step-children, grandchildren, step-grandchildren, or adopted children of the deceased worker, if the deceased worker provided 1/2 or more support to the child.

Surviving Parents Over Age 62

In the event that the deceased worker had provided more than 1/2 of the support of one or more older parents (over age 62), the surviving parents are eligible to receive a Survivor Benefit as well.  This Survivor Benefit is based on the age of the surviving parent, and actuarial reductions apply to these benefits if received before FRA of the survivor.

Family Maximum

For the whole family of the deceased wage earner, that is, surviving children under 18, spouse and parents, there is a maximum benefit amount that applies – equal to between 150% and 180% of the deceased worker’s basic benefit (the calculation is complicated, using the bend point formulas).  The Social Security website has a calculator to help you understand this amount.

Bear in mind that any Survivor Benefit received by a surviving divorced spouse to not count toward this family maximum.

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IRS CIRCULAR 230 NOTICE: To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. tax advice contained in this communication (or in any attachment) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed in this communication (or in any attachment).