Jonathan Clements's Blog, page 392

Pay as You Go

WORKERS TODAY have income taxes and Social Security taxes withheld from their paychecks. But it didn���t always work that way: The withholding system experienced a difficult birth���in the middle of the Second World War.

The wide-ranging 1943 tax act included a provision that authorized withholding. But President Franklin Roosevelt thought the legislation too complicated, so he vetoed it, saying, “The American taxpayer had been promised of late that tax laws and returns will be drastically simplified. This bill does not make good that promise…. These taxpayers, now engaged in an effort to win the greatest war this nation has ever faced, are not in a mood to study higher mathematics.” The President���s veto was overridden by large margins in both houses of Congress, and withholding went on the books.

Broadway songwriter Irving Berlin supported the war effort with a song that tried to get Americans upbeat about tax withholding. Another of his morale-building numbers, ���White Christmas,��� remains a standard. Not so his withholding ditty, with its turgid lyrics:

You see those bombers in the sky?

Rockefeller helped to build them

So did I

I paid my income tax today.

Was withholding the right way to help pay for a war? Among those who have weighed in are journalist David Brinkley (no) and historian Doris Kearns Goodwin (yes).

In an article on America in the 1940s for the Jan. 3, 1994, issue of Newsweek, Brinkley recalled withholding’s introduction: “Under pressure of war, the withholding tax was born. It is doubtful that without war Congress would ever have voted for a tax so intrusive and troublesome. Because of the withholding tax, the term ���take-home pay��� entered the language. Had people been forced to count out their taxes in hard cash for some government collector, taxes in such stratospheric amounts almost certainly could not have been collected.���

Brinkley continued: ���The cost of the war was so high that the top rate eventually went to about 92%. It was explained to Roosevelt that his rich enemies would be soaked, even fleeced, beyond their deepest fears. They paid the 92%, hated it, but could not escape. It made Roosevelt so happy, Press Secretary Steve Early told me, that once or twice he saw the president spend hours poring over records sent to him from the IRS showing who paid how much.���

Congress was also delighted with the flood of money, writes Brinkley: ���Even when the war was long over, there was never any thought of ending the withholding tax. (They held the top rate at about 70% for another 16 years.) Did the enormous tax rates pay the cost of the war? No. Did the government run the war on credit and leave billions in debt? Yes.”

Convinced by Brinkley���s skepticism? I prefer Goodwin���s more positive take on withholding���s birth and the financing of the war. Here���s what she says in No Ordinary Time, a chronicle of the home front during the war years: ���The Treasury was able to finance about 44% of the total war expenditures of $304 billion through taxation. The rest was secured through war bonds and borrowing. The debt rose from 43% of the GNP in 1940 to 127% in 1946.���

She goes on: ���A transformation had been effected in the method of collecting taxes. Before the war, individuals were always a year behind in their tax payments, since they were called upon to pay taxes in quarterly installments on the income they had earned the previous year. The system had functioned well enough when rates were low and few people paid taxes, but when millions of people, unfamiliar with preparing tax forms, became taxpayers for the first time, change was inevitable. It took the form of ���Pay as You Go,��� a system that withheld taxes from paychecks before the employee even saw the money, allowing everyone to start the new year free from debt���. Since people were paying taxes with money they had never seen, their resistance to the idea of taxation lessened.���

Julian Block writes and practices law in Larchmont, New York, and was formerly with the IRS as a special agent (criminal investigator). His previous blogs include It’s All Relative,��Now or Later��and��Good Old Days. Information about his books is available at JulianBlockTaxExpert.com. Follow�� Julian on Twitter��@BlockJulian.

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Strings Attached

IT MIGHT SEEM risky to write about the gifts my kids will receive later today. Won’t that ruin the surprise? Probably not. My children and stepchildren aren’t, I suspect, regular HumbleDollar readers.

My wife and I tag-teamed on gifts this year. Her job was to find one or two items for each kid that we could wrap and throw under the tree. This works well, because she likes shopping���and I loathe it. How strong is my distaste? If I have to purchase something, I almost always order it online: groceries, toilet paper, pizza, you name it. If I never had to shop again, let alone go to an actual store, I’d be a happy man. In fact, when asked what I want for Christmas, I draw a total blank. While I’m a huge fan of travel and restaurant meals, I can’t think of a single material possession I’m hankering after.

(Actually, that isn’t entirely true. I would love to have Edouard Manet’s stunning portrait of Berthe Morisot hanging above the fireplace. But I realize that’s probably not in the cards.)

If Lucinda’s job was to find gifts we could wrap, what was my role? That would be writing checks. For years, I’ve given my children money at Christmas and on their birthdays, and now I do the same for my stepchildren and even my new son-in-law. The amount depends on how flush I’m feeling. Sometimes, it’s just $250. Last Christmas, it was $1,000 each. This year, it’s down to $500. Hey, don’t blame me: If you’d bought more copies of my latest book, ��I could have been more generous.

To be clear, I never simply give money. As my kids have learned over the years, ��it’s always money with a purpose. What purpose? It depends.

My daughter wants to get a master’s degree so, in my Christmas card, I’m suggesting she add my check to her graduate school savings. My son-in-law has a mountain of student loans from law school, and I know it weighs on him. I’ve asked that he add the $500 to his next loan payment, so he gets the debt paid off a tad quicker.

My younger stepdaughter’s $500 is going into her “house” fund. I set up the account for her last year. To be sure, the idea of owning a home is a bit remote for a 14-year-old, but I can usually elicit a smile when I show her the current account balance. My goal is to build up the fund to $20,000. That’s what I did for my son and daughter.

I also have a house account for my older stepdaughter. But her $500 is coming to her as Australian dollars. In February, she’s headed to Brisbane for her junior semester abroad. It should be a fabulous experience, and I don’t want it marred by money worries. The fact is, $500 to her is worth so much more than $500 to me, and I suspect it will bring her greater happiness.

Finally, my son’s $500 is for his retirement. He’s getting a PhD, but he had some earned income in 2018, so he qualifies for a Roth IRA. He hopes ultimately to be an academic���and I’m confident he’ll succeed���but he’ll be over 30 by the time he gets a paid position. That means he will be late to the retirement savings game. I don’t want him to be too far behind.

In other words, in handing out money, I’m trying to tell the next generation what I value financially. Is all this a little manipulative? You’d better believe it. But my intentions are good���and, let’s face it, they are getting $500.

Follow Jonathan on Twitter�� @ClementsMoney ��and on Facebook .��His most recent articles include Seven Ideas,��Just in Case,��No Kidding��and��Taking Us for Fools. Jonathan’s latest book:��From Here to��Financial��Happiness.

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Paper Tigers

I RECENTLY received some odd communications from mutual fund giant Vanguard Group.

First, it sent a white paper, ���Here today, gone tomorrow: The impact of economic surprises on asset returns.��� As the title suggests, this paper examines the relationship between the economy and the stock market. In particular, the authors asked whether accurate economic forecasts could help an active trader profit in the stock market. Their conclusion: To beat a simple buy-and-hold strategy, an investor’s predictions would need to be accurate 75% of the time. They then address the question that naturally follows: ���How achievable is a 75% success rate?��� The paper’s answer: ���Not very.���

That was the first paper���and its conclusion seemed entirely logical: Don’t bother with your crystal ball, because it’s highly unlikely to help you beat the market.

Then the second paper��arrived: ���Vanguard market and economic outlook for 2019.��� In this one, the authors provide their outlook on a variety of topics: economic growth, inflation, unemployment and much more. The paper runs more than 40 pages, with probabilities assigned to a variety of events. For example, they foresee an 18% chance that the U.S.-China trade war escalates and a 29% chance that the two countries reach an agreement.

In other words, the second paper was full of the sort of economic predictions that, in the view of the first paper, are largely ���irrelevant.���

What’s going on here? Vanguard’s first paper made perfect sense. Why did they invest so much time assembling that second one���a report that, in their own colleagues’ estimation, is unlikely to help investors?

I don’t mean to single out Vanguard. At this time of year, all the big financial firms are busy issuing forecasts. Morgan Stanley sees corporate profits slowing next year and the potential for a technical recession. Credit Suisse sees the S&P 500 rising to 3,350 in 2019. And Wells Fargo projects S&P 500 profits at precisely $173.37 per share.

In short, everyone has an opinion. Is it possible that Vanguard’s first paper���the one skeptical of predictions���was the one that was wrong? If all of these major institutions spend so much time formulating and publishing forecasts, surely they must be worthwhile.

Economist Prakash Loungani has spent the better part of two decades researching the issue. In a 2001 study, Loungani evaluated experts’ ability to forecast recessions. His conclusion was blunt: ���The record of failure to predict recessions is virtually unblemished.��� In a follow-up study, looking at the 2008 financial crisis, Loungani’s findings were nearly identical. Economists uniformly failed to predict that global recession.

Perhaps Loungani’s study wasn’t comprehensive enough. What about all-star forecasters? Here the evidence is inevitably more anecdotal, but no more encouraging. Consider Abby Joseph Cohen, the recently-retired Goldman Sachs strategist. Her forecasts during the 1990s earned her the nickname ���the Prophet of Wall Street.��� But she later missed the two biggest meltdowns of her career: In 2000, when the dot-com bubble burst, Cohen predicted the market would rise. And she, along with virtually everybody else, missed the 2008 collapse.

A more recent example: Ray Dalio, the billionaire founder of hedge fund Bridgewater Associates, proclaimed in January of this year: ���If you’re holding cash, you’re going to feel pretty stupid.��� The year’s not over yet. But so far, cash has done materially better than the stock market, which is in negative territory.

The reality is that forecasting has always been difficult���and not just in the world of economics. Decca Records told the Beatles they have ���no future in show business.��� Walt Disney was once fired for ���lacking imagination.��� The list of incorrect predictions is long.

If forecasts are so error-prone, why do sensible organizations like Vanguard continue issuing them? In part, I believe it’s in response to investor demand: People want to know what’s going to happen and they believe experts can tell them. It’s just human nature. But now that you’ve seen the data, here���s my recommendation: Tune out anyone who approaches you with a crystal ball. Instead, situate yourself so the market’s short-term ups and downs don’t impact your ability to meet your financial goals���or to sleep at night.

Adam M. Grossman���s previous blogs��include What Matters Most,��Happy Compromises��and��Pushing Prices . Adam is the founder of�� Mayport Wealth Management , a fixed-fee financial planning firm in Boston. He���s an advocate of evidence-based investing and is on a mission to lower the cost of investment advice for consumers. Follow Adam on Twitter�� @AdamMGrossman .

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Newsletter No. 39

SUPPOSE YOU were talking about money to your children or your favorite niece or nephew. What financial ideas would you emphasize? I took a stab at this question in HumbleDollar’s latest newsletter, where I listed what I consider the seven most important financial ideas.

The newsletter also includes our usual recap of the latest blogs published on HumbleDollar. Need to catch up on your reading? Spend some time perusing the list.

Follow Jonathan on Twitter�� @ClementsMoney ��and on Facebook . His most recent articles include Just in Case,��No Kidding��and��Taking Us for Fools . Jonathan’s latest book:��From Here to��Financial��Happiness.

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Seven Ideas

WHAT DO YOU consider the important financial ideas? No doubt we���d all come up with a different list���sometimes radically different���and what we deem important likely says a lot about how we handle our money.

For my own list, I think less about practical financial concepts���things like indexing and asset location���and more about the big ideas that should guide our financial decision-making. Here are seven of those ideas, all of which heavily influence how I manage my own money:

1. Compounding.��I love the notion of compounding and not because Albert Einstein described it as man���s greatest invention, which he almost certainly didn���t. Instead, I love it because it highlights that time can be as valuable as money���an inspiring notion for cash-strapped young adults who struggle to find $50 or $100 to invest. Time is the lever that can turn those modest sums into significant wealth.

Compounding works best when it isn���t hampered by high investment costs or set back by large losses. That���s why I���m a fan of building a globally diversified portfolio using low-cost index funds.

Compounding, of course, can also work against us. Imagine you racked up $5,000 in credit card debt during your college years. As I noted in a blog earlier this year, if you never paid down the balance and, indeed, the credit card company let you add the 20% annual interest to the account balance, you���d receive a credit card statement after 40 years showing more than $7.3 million owed.

2. Opportunity cost. Whenever we devote our dollars to one use, we���re giving up something else. Yet, in countless impulsive shopping moments, we don���t pause long enough to consider the tradeoff that���s involved and the opportunities that are forgone.

It isn���t simply that the shiny new iPhone can cost as much as a fun five-day road trip. If the choice is between consuming and saving, the $1,000 we spend today might mean giving up $4,000 or more in retirement spending.

3. Future self. Our lives are a constant tug-of-war between the demands of our often-whiny current self and the needs of our future self. All too often, our current self prevails, which is why we end up saving too little for retirement, the kids��� college and other long-term goals.

How can we bolster our future self, so he or she has a fighting chance? We might try a host of tricks: Sign up for automatic investment plans, so money is snatched from our paycheck and our bank account before we get a chance to spend it. Tell family and friends about the commitments we���ve made to improve our financial life, so fear of their disapproval strengthens our resolve. Visualize our future self by, say, writing down in detail what we plan to do with our retirement years, so future spending seems as enticing as today���s pleasures.

4. Human capital. Our income-earning ability is, I believe, the core notion around which we should organize our entire financial life. Those four decades of���we hope���fairly steady paychecks have four key financial implications.

First, they allow us to take on debt early in our adult life to buy homes, cars and college educations, knowing we have many years of income ahead of us to service those debts and get them paid off by retirement. Second, our paychecks provide us with the savings we need to sock away for retirement and other goals. Third, that steady income allows us to take the risk of investing heavily in stocks when we���re younger.

Finally, our human capital drives our insurance needs. If we don���t have significant savings to fall back on, we should protect our income-earning ability with disability insurance. If we have a family that depends on us financially, we likely also need life insurance.

5. Risk pooling. There are some financial risks that we simply can���t afford to shoulder ourselves, including the risk that our house will burn down, we���re sued, or we die prematurely and leave our family in the financial lurch. In these cases and others, the smart approach is to buy just enough insurance to ensure our family will be okay financially.

When we send off our premiums, they go into a pool of money that���s overseen by an insurance company and which is used to pay claimants. We should then cross our fingers and hope to get nothing back, because that���s a sign that life is good.

That said, there���s one form of insurance where we should pray to get paid: longevity insurance. When we contribute to Social Security or purchase income annuities that pay lifetime income, we effectively buy financial protection against the risk that we���ll live a surprisingly long time and outlast our assets. With these forms of insurance���unlike the other insurance policies we own���we should hope to collect vast sums in return for the ���premiums��� we paid.

6. Ownership.��We live in a world where folks increasingly own nothing: Homes, cars, music, furniture, textbooks, movies and clothes can all be rented. And in many instances, this make ample sense.

Still, nobody ever got rich by renting. Instead, the road to wealth involves owning. If we can see staying put for at least five to seven years, we ought to buy a house, not rent. If we plan to keep a car for more than three or four years, we���ll likely find it���s cheaper to buy rather than lease. And if our investment goals are 10 years away, we should become a part owner of corporations by purchasing stocks, rather than renting out our money to sellers of bonds and cash investments.

7. Enough.��We all get just one shot at making the journey from here to retirement���and we can���t afford to fail.

What could cause us to come up short? One major risk: Not knowing what counts as enough. If our goal is simply to accumulate more and more, there���s a danger we���ll take reckless risks as we strive for the biggest financial pile possible. A smarter approach: Temper our risk taking���by having a firm idea of what constitutes enough.

Latest Blogs

“You don’t need to be like Warren Buffett,” writes Dennis Friedman. “You just need to be like Neil Young, and keep it simple and easy.”
Where did Kristine Hayes get her house down payment? “I withdrew funds from my Roth. But I was careful to take out only the money I’d put in as contributions, so I wouldn’t have to pay penalties or taxes.”
Buy stocks or sell? Change careers or stay put? Traditional or Roth retirement accounts?��Try to avoid rash, all-or-nothing decisions, opines��Adam Grossman.
“Time has specific properties,” notes Dennis Quillen. “It is fixed in amount, but the ‘expiration date’ is unknown. It is highly��perishable. Once used, it cannot be reused.”
Got your own business? If you hire your kids, you could realize significant tax savings���and give them an early start on a lifetime of investment compounding, says Ross Menke.
“Women retire with two-thirds of the money men have, and receive less from Social Security and pensions,” writes Jiab Wasserman. “Women are 80% more likely to be��impoverished��in retirement.”
Worried you’ll lose your job if the economy weakens? Prep your finances by paying off 401(k) loans, funding Roth rather than traditional IRAs, setting up a home-equity line of credit���and keeping the old car for a few more years.
“Given employers��� unwillingness to provide significant retirement benefits and employees��� unwillingness to save, increasing Social Security benefits is arguably the least bad option,” argues Richard Quinn.
If you sell a losing investment to your daughter, you can’t claim the tax loss. But if your son-in-law purchases it, you keep the investment in the family���and you get your tax deduction, explains Julian Block.
Are you in the workforce and saving enough for retirement? Are you retired and spending prudently? “You don’t need to worry too much about everything else,” says Adam Grossman.
“My manager invited everyone on the team to a poker night at his house���except me, the only female,” recalls Jiab Wasserman. “He said the absence of women would make the guys feel freer to relax.”

Follow Jonathan on Twitter�� @ClementsMoney ��and on Facebook . His most recent articles include Just in Case,��No Kidding��and��Taking Us for Fools . Jonathan’s latest book:��From Here to��Financial��Happiness.

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Three Questions

THE BLUE CHIP stocks in the S&P 500 ended today down almost 18% from their September all-time high. Smaller U.S. shares and foreign markets have had an even rougher time in 2018. To get their higher reward, stock market investors have to shoulder higher risk. Guess what? This is risk.

It’s also looking increasingly like a decent buying opportunity.��If this turns out to be a full-fledged bear market, history suggests the peak-to-trough decline will be around 35%, so we could have a long way to go. Still, for the first time durning the current selloff, I did some serious buying both today and yesterday, moving 2% of my portfolio from bonds to stocks. If the stock market keeps falling, I’ll be doing even more buying in the weeks and months ahead.

But wouldn’t it be wiser to sit in cash investments until the markets settle down? What about the risk that interest rates will head higher, which “everybody knows” will happen? Wouldn’t it be smarter to hold off buying until stocks finish falling? I tackle these three questions in my latest article for Creative Planning, where I sit on the investment committee and advisory board.

Follow Jonathan on Twitter�� @ClementsMoney ��and on Facebook . His most recent articles include Just in Case,��No Kidding��and��Taking Us for Fools . Jonathan’s latest book:��From Here to��Financial��Happiness.

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Not So Fast

THE GENDER PAY gap is quantifiable. But there are also other, subtler forms of workplace discrimination that are harder to quantify, but which women face every day.

When I was part of a five-person analyst team, my manager invited everyone on the team to a poker night at his house���except me, the only female. When I asked why I was left out, he said the absence of women would make the guys feel freer to relax.

Another manager threatened to fire me when I asked to take a longer lunch break to attend my son���s sixth birthday party at his daycare center. While the manager approved my request unwillingly, his exact words were, ���Next time, you will have to choose between being a mom and working here.���

My experience in the workplace is hardly unique. Women are more likely to be subjected to demeaning comments, have to provide more evidence of their competence, have their work contributions ignored and be seen as the ���different��� employee who makes others uncomfortable, while also getting less access to senior leaders.

Critics say the pay gap is due, in part, to women not asking for money as aggressively as men do. But even when women do, it���s often seen as arrogant, unfeminine and even ���bitchy.��� It���s also difficult for women to determine how much they are underpaid, as there���s little salary transparency in corporate America.

When I requested the salary range for my pay level, so I could know where I fell, both my manager and my manager���s manager informed me they didn���t have that information. My question was escalated to a human resources employee, who informed me I wasn���t privy to this information.

Over my career in financial services���where women typically earn 61% to 66% of what men do���I would occasionally ask for greater compensation or promotions after excellent performance reviews and after fulfilling the duties of a higher-level job. Some of the responses:

One of my male managers advised me to look for another job in another department, despite my top performance rating.
Another manager said that, despite excellent reviews, I���d have to continue proving to him and the rest of management that I could do the higher-level job for ���a few more years��� before they would give me the actual promotion.
When I asked for the promotion later, I was told that, although my manager totally agreed I���d been working hard, doing vice president-level work and deserved a promotion to that level, it would be better if I applied for the promotion by myself���rather than him promoting me���or, alternatively, apply for such a position at another company.

According to a 2018 survey of more than 64,000 workers by McKinsey & Co., performance perception bias helps explain early gaps in hiring and promotions, which then compound over a career. Research shows that we tend to overestimate men���s performance and underestimate women���s. Result: Men are often hired and promoted based on their potential, while women are often hired and promoted based on their track record.

During my career, I went through several corporate reorganizations, where I ended up training a new male manager, who often had no knowledge in the area to which he���d been promoted. For instance, when I worked as a strategy analyst, which requires a thorough understanding and familiarity with statistical analysis, the company promoted a male manager who knew nothing about strategy and struggled with statistical concepts. I had to tutor him. His exact words to me were ���please dumb down your presentation,��� so he could present it as his own in executive meetings. He was made manager of a complex analysis group at a top-three U.S. bank based solely on his ���potential.���

Of course, a large banking institution, like the one I worked for, must be seen publicly as doing what it can to promote women and minorities. I was among a group of high-performance employees identified to join a special one-year leadership pipeline program designed to help the careers of minority employees. Yet one of the main messages echoed throughout the program was not that the bank would promote upward more fairly and without regard to gender or race, but that we should be happy to move laterally.

Jiab Wasserman recently retired at age 53 from her job as a financial analyst at a large bank.�� She and her husband, a retired high school teacher, currently live in Granada, Spain, and blog about financial and other aspects of retirement���as well as about relocating to another country���at YourThirdLife.com . This is the second article in a three-part series about the obstacles women face in the workplace. The first part was�� Mind the Gap .

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Be Like Neil Young

ONE OF MY favorite musicians is singer and songwriter Neil Young, who has sold millions of records since the 1960s. Young was rated No. 17 by Rolling Stone on its list of 100 greatest guitarists. He was inducted into the Rock and Roll Hall of Fame twice: once as a solo artist in 1995 and as a member of Buffalo Springfield in 1997.

When I was in college in the early 1970s, I would often hear students strumming their guitars to his songs as I walked across campus. Young’s music is relatively simple to play. Some of his songs, such as his popular hit single “Heart of Gold,” are recommended for beginner guitar players. One song, “Love Is a Rose,” only has three guitar chords. As Willie Nelson once said, all you need for a good song are “three chords and the truth.”

The same thing can be said about money. To have a successful financial life, you only need a few well-known financial chords and the truth. These can be summarized by everyday sayings we���ve all heard over the years. Anyone can learn these principles, just as any aspiring guitar player can learn “Heart of Gold.”

What are the three financial chords?

“Money doesn’t grow on trees.”��There isn���t an endless supply of money. Your income is limited. Result: You need to keep your fixed expenses low and live within your means.

“The best things in life are free.”��You don’t have to spend money on material things to have a happy life. A quiet dinner with friends or family can be a wonderful, memorable event. Saving money and being happy aren���t mutually exclusive.

“Don’t put all your eggs in one basket.”��Asset allocation���how you divide your funds among stocks, bonds and cash���is a major determining factor in building wealth. A simple all-inclusive financial holding, such as a target-date fund, can be sufficient.

And what���s the truth? It can be summed up in two phrases.

“If it sounds too good to be true, it almost certainly is.”��Don’t be a victim of fraud, identity theft and imposter scam. Protect your Social Security number and other vital personal information. Practice these safeguards:

Register your phone number with the National Do Not Call Registry. This should prevent legitimate marketers from calling you. There are also apps available that will block robocalls.
Don’t pick up the phone unless you recognize the number.
Don’t say ���yes��� to an unsolicited sales call or email offer, and don���t give out personal information.
Don’t respond to purported calls from the IRS and other government agencies. They won’t call you unless you call them first.

“This isn’t rocket science.”��To have a secure financial future, you don’t need to go to school and learn the rule of 72, what standard deviation is or how to calculate the present value of an asset. You don’t need to be like Warren Buffett. You just need to be like Neil Young, and keep it simple and easy. If you practice these three basic financial chords and know the truth, your financial life will be a hit.

Dennis Friedman retired at age 58 from Boeing Aerospace Company. He enjoys reading and writing about personal finance. His previous blogs include First Impressions,��Family Inc.��and�� Creative Destruction . Follow Dennis on Twitter��@dmfrie.

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It’s All Relative

YOUR INVESTMENT holdings might include an asset that���s dropped in value since you bought it. Still, you have great hopes for the investment: While you���d like to sell and get the tax loss, you really hate to part with your old friend. Should you instead sell it to your spouse or your child?

You can usually claim losses on investments when you sell them. But IRS code section 267 generally disallows deductions for losses on sales to certain family members and other related parties. Under the loss disallowance rules, related parties include close relatives, such as a spouse, child, grandchild, parent, brother or sister, or a company in which you own more than 50% of the stock.

Good faith sales. The law authorizes the IRS to invoke the related-party rules even if you make the sale in ���good faith������that is, without intending to avoid taxes���or involuntarily, as when a family member forecloses on the mortgage he or she holds on your property. Those rules can also snag an indirect transaction, such as when you sell stock through a public stock exchange and a related party purchases stock in the same company.

An example: You buy 100 shares of DEF Company for $10,000 and later sell them to your sister for $8,000. You can���t deduct your $2,000 loss. Why do these restrictions exist? The goal is to stop tax avoidance through transactions that merely shuffle property back and forth within the same family.

Salvaging disallowed losses. In the above example, your disallowed loss becomes available to your sister in the event she realizes a profit on the sale of her DEF shares. Her profit escapes taxes up to the amount of your disallowed loss.

Her basis for the DEF shares is the $8,000 that she paid you. If she eventually sells them for $9,000, her gain of $1,000 sidesteps taxes because it���s offset by $1,000 of your disallowed loss. If the sales price is $11,000, making her gain $3,000, then she���s liable for taxes on only $1,000 of the gain���the $3,000 gain minus your $2,000 disallowed loss.

Sales to ���nonrelated��� relatives.��The related party rules apply only to losses on sales of property to related parties such as your sister or son. Those restrictions don���t bar a deduction by you for a loss on the sale of the DEF shares to an in-law, such as a brother-in-law or daughter-in-law.

That brings me to an often-overlooked strategy. Let���s say your DEF shares have declined drastically and you wish to realize some of your paper loss without being out of the stock for an extended period. Under yet another set of restrictions, known as the wash-sale rule, your loss on a sale of the DEF shares is currently deductible only if the repurchase takes place more than 30 days before or after the sale.

What to do? To maneuver around these various rules and get your tax loss, while keeping the DEF shares in the family, just make a bona fide sale to an in-law. Instead of selling the stock on the open market, get a current quote and sell the stock at the market price to any in-law with whom you enjoy a good relationship. This will keep the benefit of a future upturn within the family���and you���ll have your deductible loss.

Julian Block writes and practices law in Larchmont, New York, and was formerly with the IRS as a special agent (criminal investigator). His previous blogs include Now or Later,��Good Old Days, Two’s a Crowd and Stepping Up. Information about his books is available at JulianBlockTaxExpert.com. Follow�� Julian on Twitter��@BlockJulian.

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Saving Ourselves

FRANKLIN ROOSEVELT said on Aug. 14, 1935, that the new Social Security program would provide ���some measure of protection to the average citizen��� against poverty-ridden old age.���

Nancy Altman, president of Social Security Works and chair of the Strengthen Social Security coalition, opined this year that ���after a lifetime of work Americans should have enough guaranteed Social Security to maintain their standard of living.���

Make no mistake: There���s a vast gap between Roosevelt���s notion of protecting against poverty and Altman���s goal of guaranteeing one���s standard of living. The latter implies 100% income replacement. How did we end up here?

Today, Social Security is designed to pay the average person about 40% of preretirement income and, for many people, it���s far less. At current benefit levels, the program won���t be able to pay 100% of promised benefits in 18 years or so. Yet some want Social Security expanded, so it pays even higher benefits, while others argue we should trim the program���s generosity to ensure its solvency.

There was a time when many Americans had a pension to rely on in old age. But it was never the majority and that number has declined for a host of reasons, including the decline of unions, complexities added by government regulations, funding problems, and fears among employers about the impact of this uncertain liability on their finances.

It���s hard to determine exactly how many of today���s workers have a traditional defined benefit pension, because the term ���retirement plan��� is used so loosely. But we do know there are great difference between public and private sector workers.

In the public sector, the traditional pension is the norm. Among state and local government workers, 85% of all workers and 93% of fulltime workers have access to a defined benefit pension. But in the private sector, pension coverage is put at just 15%.

Meanwhile, Social Security benefits represent about 33% of retirees’ income. Among Social Security beneficiaries, 48% of married couples and 69% of single individuals receive 50% or more of their income from Social Security. Even more alarming, 21% of married couples and about 44% of singles rely on Social Security for 90% or more of their income. That should not be the case. Few people can live on Social Security alone without significant belt-tightening.

Enough of the depressing statistics. What are we to do about it? We might assume that Americans would realize that a substantial part of retirement income depends on their own actions and do something about it. We might also assume employers would see the value in bolstering employee morale and loyalty by helping them to retire in comfort at a reasonable age, and want those retirees to have enough money to continue buying their goods and services. Apparently, neither are invalid assumptions.

Employers embraced 401(k) and similar plans largely for two reasons. First, costs were easy to predict and control for employers. Second, these plans seemed to make sense for a workforce that was more mobile, with few people staying with one employer long enough to qualify for a substantial defined benefit pension.

But the 401(k) experiment has proven to be a failure. Perhaps it isn���t the plans themselves that failed. Rather, the failure lies with workers��� unwillingness to accept long-term responsibility for their own retirement.

We can���and, I believe, likely will���eventually raise the basic Social Security benefit. But even a jump of 10% to 15% in benefits won���t solve the problem, and it will require significant additional taxes that���ll hamper the ability of many individuals to save.

According to the��calculator from the Committee for a Responsible Federal Budget, to increase benefits by 15% for new beneficiaries only��would require increasing the payroll tax by six percentage points, bringing the total payroll tax to 18.2%. That���s still a far cry from ensuring all beneficiaries maintain their standard of living in retirement. But given employers��� unwillingness to provide significant retirement benefits and employees��� unwillingness to save out of their own pocket, increasing Social Security benefits���and hence the payroll tax���is arguably the least bad option.

Richard Quinn blogs at QuinnsCommentary.com. Before retiring in 2010, Dick was a compensation and benefits executive. His previous blogs include Required Irritation,��We’re Stuffed��and��Clueless.��Follow Dick on Twitter��@QuinnsComments.

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