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December 14, 2005

Make Your New Year's Resolutions Work

How often have you drawn up an ambitious list of New Year’s resolutions, only to find you’ve given up on them after a few weeks? Don’t let that happen to you in 2006. If you want to make significant strides toward achieving your financial goals, determine why your resolutions have failed in the past and find ways to overcome those obstacles.

We make resolutions because we really want to change some aspect of our lives. However, the reason we have to make resolutions is because it is difficult to get these things accomplished. If it were easy, those things would already be done. Thus, if you want to achieve your resolutions, follow these tips:

  • Put your resolutions in writing. Doing so will go a long way in helping you achieve those resolutions — it is estimated that people who make resolutions are 10 times more likely to alter their lives than those who don’t make resolutions (Source: Money, January 2005).

  • Make your resolutions specific and achievable. Rather than making vague or very broad resolutions, set smaller goals you know you can reach. Once you achieve these smaller goals, you may find it easier to pursue more substantial goals.

  • Don’t expect perfection. Changing any behavior is tough, and you should expect that you might slip along the way. Don’t use that as an excuse to abandon your goals. Shake it off and keep pursuing your goals.


If you’re looking to shape up your finances, consider these resolutions:



  • Spend less than you earn. The amount of money left over for saving is a direct result of your lifestyle. Since you will typically want to continue the same lifestyle after retirement, your lifestyle decisions will impact you now and in the future. To get a grip on your spending, take time to analyze your expenses and to set a budget. Try reducing nonessential expenditures or find ways to spend less money on the same things.



  • Save the money before you see it. If you have to find money every month to save, you’ll probably find there isn’t much left after paying all the bills. Typically, a better strategy is to set up an automatic savings program where money is automatically deducted from your bank account every month and deposited directly in an investment account. Another good alternative is to sign up for your company’s 401(k) plan, having funds withdrawn every paycheck. (Remember that an automatic investing program, such as dollar cost averaging, does not assure a profit or protect against a loss in declining markets. Since such a strategy involves periodic investment, consider your financial ability and willingness to continue purchases through periods of low price levels).



  • Don’t let debt sabotage your goals. If a significant portion of your income is going to pay interest on loans, you’ll have less available for saving. Strive to eliminate all debt except your mortgage. Pay cash for all purchases so you don’t incur additional debt. Pay down your existing debts by using additional funds to pay off the debt with the highest interest rate. Once that debt is paid in full, start paying down the debt with the next highest interest rate, continuing until all your debt is paid in full.



  • Invest, don’t just save. The ultimate value of your investment portfolio is a function of two factors — how much you save and how much you earn on those savings. Become comfortable with various investment alternatives, so you’ll feel more comfortable investing in more aggressive alternatives that offer potentially higher rates of return. Even small differences in your long-term rate of return can significantly impact the ultimate size of your savings.

Tax Strategies and Caring for Elderly Parents

As life expectancies continue to increase, it becomes increasingly likely that you may need to financially help an aging parent. If you find yourself in that situation, review the tax laws to determine whether you can obtain some tax relief.

The key is to determine whether you can deduct your parent as a dependent, which entitles you to an additional personal exemption on your tax return, reducing your taxable income by $3,200 in 2005. To do so, your parent’s gross income can’t exceed the exemption amount, and you must provide over half of your parent’s support. For purposes of the gross income test, Social Security benefits typically aren’t considered.

In some cases, you may share your parent’s support with your siblings or other relatives. If the combined total equals more than half of your parent’s support and each person contributes at least 10% toward this care, you can file a multiple support declaration. Even though more than one person contributed to the support, the parent can only be claimed as a dependent by one person. The multiple support declaration form informs the Internal Revenue Service of who is declaring the dependent for that tax year. You can change the declaration on a year-to-year basis so each person providing support receives some tax relief.

If you can claim your parent as a dependent, any medical expenses paid for your parent can be claimed as a medical deduction on your tax return. Your total medical expenses, including your parent’s expenses, must still exceed 7.5% of your adjusted gross income before you can take the deduction. If you aren’t able to claim your parent as a dependent due solely to the gross income test, you can still include your parent’s medical expenses on your tax return. When calculating these expenses, be sure to include premiums for supplemental Medicare coverage and long-term-care insurance. If your parent lives with you and you must obtain outside care to go to work, you may be able to claim the dependent care credit. Also look into whether your employer offers a flexible spending account for elder care. This may allow you to set aside prepaid dollars to pay up to $5,000 of elder-care expenses for a dependent parent.

Consider Splitting Your Individual Retirement Account (IRA)

The distribution rules for inherited Individual Retirement Accounts (IRAs) generally make it advantageous to separate accounts for each beneficiary, which can be done during your life or by December 31 of the year following your death. If you plan to leave an IRA balance to several beneficiaries, consider splitting each beneficiary’s share into a separate account during your life. Why is it important to have separate accounts?

Your spouse will have more alternatives available if he/she is the sole beneficiary. A surviving spouse can roll over the IRA to an IRA in his/her name or treat your IRA as his/her IRA. With the roll-over IRA, the surviving spouse can name his/her own beneficiaries, thus extending the IRA’s life, and can defer payouts until age 70 1/2. However, to roll over the IRA, the surviving spouse must be the sole beneficiary.

When there is more than one non-spousal beneficiary for an inherited IRA, distributions must be taken over the oldest beneficiary’s life expectancy. By splitting the IRA into separate accounts, each beneficiary can take distributions based on his/her life expectancy.

Separating accounts is especially important when one of the beneficiaries is not an individual or qualifying trust, such as a charitable organization. If you die before required distributions begin at age 70 1/2, then the entire balance must be paid out in five years. If you die after required distributions begin, the balance must be paid out over your remaining life expectancy. When the account is split, each individual beneficiary can take distributions over his/her life expectancy.

An important estate planning strategy for inherited IRAs is the ability to disclaim all or a portion of the IRA. If a beneficiary disclaims an IRA within nine months of the decedent’s death, the disclaimed IRA is not considered a gift and then goes to the contingent beneficiary. By splitting the IRA into separate accounts, you can better control what would happen if each beneficiary disclaims his/her share. For instance, your beneficiaries might be your two children, with your grandchildren named as contingent beneficiaries. With separate accounts, each child could decide whether to disclaim the IRA, knowing the proceeds would then go only to his/her children.

From an administrative standpoint, it is often easier to have only one IRA rather than several. But with separate accounts, you can ensure that your IRA will work to the best advantage of your beneficiaries.

Tips for This Real Estate Housing Market

Who isn’t worried about the value of their home in this market? Numerous articles have been written about whether we’re in the midst of a housing bubble and when the housing boom will end. The tone is reminiscent of discussions that occurred right before technology stocks tumbled in 2000. How concerned should you be about your home’s value?

While housing prices have increased significantly in recent years, fueled by low mortgage rates and increasing family incomes, few believe there will be a housing crash similar to the recent stock market crash, for several reasons. First, the real estate market is not as homogeneous as the stock market. Housing prices in one part of the country, even if vastly overpriced, have little to do with housing prices in other parts of the country. Second, most people don’t try to time the housing market. Even if housing prices seem high in your area, you’re not likely to move across the country for a cheaper home. You need to live close to where you earn a living. Third, while it is possible for housing prices to decline, it is generally considered more likely that housing prices will simply level off for a while.

However, with mortgage interest rates starting to increase and many housing markets starting to soften, you should exercise caution. Whether you’re getting ready to purchase a home, sell a house, or are just concerned about your current home, consider these tips:

  • Don’t stretch to purchase the most expensive home you can afford. The reason homes have contributed so significantly to many people’s net worth is that price appreciation is retained on the entire home, even though you only put down 10-20% of the purchase price. That fact has caused many people to strain their budgets and purchase the most expensive home they can afford, hoping increases in the home’s price will more than offset the sacrifices made. However, if home prices start to fall, you could end up owing more than you can sell the home for.

  • Try to make a significant down payment on your home. While it is possible to purchase a home with a small or no down payment, that could be a risky strategy if home prices stagnate or decline. Since you have so little equity in your home, even a modest decline in prices could mean you’ll owe more on the home than you will net from selling it. If possible, aim for a down payment of 20%, so you don’t have to obtain private mortgage insurance, which typically runs from .25% to 1.25% of your total mortgage amount.

  • Choose a home you’ll be comfortable living in for several years. When home prices are rising rapidly, you can purchase a home, live in it for a couple of years, and then sell it at a profit. With the prospect of modestly increasing or declining prices, purchase a home you’ll want to live in for at least five or 10 years.

  • Don’t take equity out of your home. While lower interest rates have allowed many homeowners to reduce their monthly mortgage payments, many have also opted to take equity out of their homes and to stretch mortgage payments over longer periods. One of the main advantages of home ownership is that it’s a forced savings plan, with part of each mortgage payment going toward equity. Resist the urge to take that equity and spend it on something else.

  • Look at locking in your mortgage rate. While mortgage interest rates have been low for an extended period of time, they may start to rise as the Federal Reserve increases short-term interest rates. If you have an adjustable rate mortgage, you might want to look at converting to a fixed-rate mortgage to lock in a relatively low interest rate and to fix the amount of your mortgage payment.

  • Consider selling your current home and purchasing a smaller one. If you own a larger home than you need with significant equity, you might want to sell that home to lock in the gains and then purchase a smaller one. When selling your principal residence, the basic tax rule is that you can exclude gains of up to $250,000 if you are a single taxpayer and $500,000 if you are a married taxpayer filing jointly, provided the home was your primary residence in at least two of the preceding five years. This exclusion can be used once every two years. However, first review current housing costs as well as transaction costs.

  • Make sure you have adequate homeowners insurance. Your homeowners’ insurance policy should be sufficient to completely rebuild and refurnish your home in the event of a disaster. With rapidly increasing housing costs, check your policy limits every year and increase those limits as needed.

 

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