Jonathan Clements's Blog, page 434

Happiness: 10 Questions to Ask

COULD YOU SQUEEZE MORE HAPPINESS from your dollars? Here are 10 questions to ponder:

Which expenditures from the past year do you remember with a smile? Which prompt a shrug of the shoulders and maybe even a twinge of regret? Use those insights to guide your spending in the year ahead.
Could you commute less? Research tells us that commuting is terrible for happiness. You might move closer to the office or try to work at home a few days each week.
When during your life do you recall being happiest? Try to figure out what made it a happy time and what role money played. Could this help you to use your money more wisely in future?
Are there chores you dislike, such as mowing the lawn, cleaning the house or making dinner? Paying others to do these chores could be a good use of your money—and deliver a big boost to your happiness.
Should you make more time for friends and family? Many activities, such as exercising, eating lunch and going to the movies, are far more fun when you do them with others.
Which activities are you most passionate about and find most absorbing? Could you rearrange your life, so you devote more time to these activities?
Are you making yourself feel poor? If you live in a town where most of your neighbors are richer, shop at stores you can barely afford or eat at restaurants where the bill is always a nasty shock, you’re likely hurting your happiness.
What career would you pursue if money weren’t an issue? In middle age, many folks grow weary of their current jobs and think of changing careers. What would it take financially to make such a big change?
Which major expenditures would you like to make in the years ahead? Whether it’s a major home remodeling project, a special vacation or a new car, you’ll get more happiness from the dollars you spend if you plan ahead, so you have a long period of eager anticipation.
What are you grateful for? You may be able to squeeze a little more happiness from your latest pay raise or last year’s family reunion if you pause for a moment and think how lucky you are.

Want to read more about money and happiness? Check out HumbleDollar’s Nine Simple Strategies for a Happier Life and Five Takeways from Happiness Research.

This is the fifth blog in a series. The earlier articles were devoted to retirement, housing, college and your family’s safety net. Follow Jonathan on Twitter @ClementsMoney and on Facebook.

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Hitting Home

WHEN IT COMES TO YOUR HOME, ignorance about taxes isn’t bliss—and it could be disastrous. I often field tax questions from homeowners. Most don’t understand how they’re affected by continuously changing tax rules. Even worse, they’re totally unaware that the rules have changed.

Want to save thousands of dollars? What follows are reminders of how to sidestep tax pitfalls and take maximum advantage of frequently missed—but perfectly legal—opportunities:

Mortgage points. Do you plan to purchase a new dwelling around year-end? Try to wrap things up by Dec. 31. If, to obtain a mortgage, you pay points (each point equals 1% of the loan amount) to the lender, that will qualify you for an itemized deduction on Schedule A of Form 1040 for the current year.

You can take an immediate deduction in full for points paid on a loan to purchase, construct or improve your main home—but not a rental property or a second home that you use as a vacation retreat.

Refinancing an existing mortgage. Do that and you need to familiarize yourself with a different set of rules. Use the loan proceeds to improve your home and you can fully deduct the points. Refinance just to take advantage of lower interest rates and you must claim points only in dribs and drabs over the loan’s full term—by dividing what you paid in points by the number of monthly payments you will make over the life of the loan.

Borrowers who refinance for a second or third time frequently overlook sizable write-offs. Serial refinancers are entitled to immediately deduct what remains of the points from previous refinancings. But borrowers fail to recall those points, because they don’t show up on the closing papers of new refinancings.

Typically, several thousand dollars fall right through the cracks. For refinancers in a combined 30% federal and state bracket, every $1,000 they write off lowers taxes by $300—more than enough to pay for a pleasant night on the town.

Keep track of home improvements. The money spent yields no current deduction, but is added to your home’s cost basis—the figure used to determine gain or loss on a sale of the property. Hence, improvements reduce any taxable profit when you eventually sell.

Like most home sellers, you’re probably aware of rules that relieve you of taxes on a home-sale gain of as much as $250,000 for a single person or a married person filing a separate return, and up to $500,000 for a married couple filing a joint return. But many people are unaware that anyone with a gain greater than the exclusion threshold of $250,000 or $500,000 is stuck with taxes on the excess. No longer are sellers allowed to postpone taxes on their entire gain by buying another home that costs more than what they received for the one sold.

IRS audits. In the event the IRS questions how you calculated the gain, the audit will be less traumatic and less expensive if you’ve kept meticulous records that track the dwelling’s basis. Those records should include what you origin­ally paid for your property, plus settlement or closing costs, such as title insurance and legal fees. They should also include what you later shell out for improvements, such as adding a room or paving a driveway, as opposed to routine repairs or maintenance that add nothing to the place’s value, such as painting or papering a room or replacing a broken windowpane.

Bundle ordinary repairs into a bigger job. It might pay to postpone repair projects until they can be done in connection with an extensive remodeling or restoration project. Adding the smaller jobs into the bigger job may allow you to include some items that would otherwise be considered repairs, such as the cost of painting rooms.

Julian Block writes and practices law in Larchmont, NY, and was formerly with the IRS as a special agent (criminal investigator) and an attorney. This article is excerpted from Julian Block’s Home Seller’s Guide to Tax Savings, available at JulianBlockTaxExpert.com.

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College, Then and Now

WORKING AT A COLLEGE is a bit like being in a time warp. Every year, I get older, but the students don’t. The 20-somethings I deal with make me realize just how much times have changed since I attended college.

Tuition. When I was a college student in the 1980s, 529 plans didn’t exist. Of course, tuition costs were also much lower, so there wasn’t as much need for a college savings plan.

Because I had to pay my own way through school, I chose to attend a local community college to get my basic prerequisite coursework out of the way. Tuition was $19 per credit or, if you attended fulltime, $209 per term. Back then, if you paid fulltime tuition, you could take as many credits as you wanted. Whether you took 12 credits or 24, it cost the same. In an effort to finish school as quickly as possible, I often loaded up on coursework, taking 14 to 18 credits per term.

These days, tuition at the community college I attended stands at $110 per credit and there’s no longer a break for fulltime students. Taking more credits means paying more tuition. Of course, tuition at an in-state community college is still a bargain. That’s especially true compared to a private four-year school like the one I work at, where tuition currently runs $53,900 per year.

Financial help. I paid for most of my education through merit scholarships. I applied for as many as I was eligible for, most of which were worth $250 to $500. I earned scholarships through my involvement with the 4-H program and the American Dairy Goat Association, as well as other organizations. Those small awards provided enough money to pay for all my tuition for the two years I attended community college, and also covered the cost of the used textbooks I purchased. In addition, I worked part-time at the college as a student adviser, earning $3.35 an hour. The main benefit of the job was that it allowed me to register for classes before other students did, ensuring I could always reserve a place in the classes I needed to take.

Today’s college students have access to over $3 billion in private scholarship money. But the overwhelming majority of financial aid comes from the $46 billion awarded by the U.S. Department of Education. The average cost of a textbook rose 82% between 2002 and 2013. One result: A $250 scholarship wouldn’t cover one semester’s worth of books for the average student these days.

The students who work for me now make $11.25 an hour—more than three times what I made back in 1985. Even though the average cost of tuition and fees at most universities increased 179% between 1996 and 2015, a part-time job can still provide students with a way to cover some of the fees and expenses of college, so they don’t have to take out so much in loans.

Dorm life. When I’d finished taking my prerequisite classes at a community college, I moved away from home and enrolled at an in-state university to get my bachelor’s degree. I was fortunate that my best friend from high school lived in a house located just off campus. She let me sublet a bedroom in the house for $75 a month. I didn’t own a car, so I rode a bicycle to class every day. My college diet consisted mostly of peanut butter sandwiches and Top Ramen soup.

Fast forward to 2017. Many of the students I work with reside in dorm rooms nicer than the apartment I currently live in. The college cafeteria is filled with food choices to satisfy every diner—from grass-fed beef entrees to organic, hand-picked local produce. Many students still travel around campus on bicycles, but the parking lot is filled with cars outfitted with license plates from around the country. Owning a car as a teenager is far more common now than it was in the 1980s.

Seeing what students have access to these days sometimes makes me envious. But knowing that I escaped from college with no debt makes me thankful for growing up in a simpler time.

Kristine Hayes is a departmental manager at a small, liberal arts college in Portland, Ore. Her previous blogs include  Growing Up (Part I) and To Buy or Not to Buy.

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This Week/Aug. 13-19

BUYING A CAR? Think twice before financing it through the dealership. While dealership loans are convenient, the interest rate charged will include the dealership’s markup. That means you can likely get a lower rate by going to a bank or credit union—or by using a home equity line of credit. Unlike an auto loan, the interest on home-equity borrowing is typically tax-deductible.

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Measure for Measure

THIS BULL MARKET is more than eight years old, U.S. stocks are undoubtedly expensive and there’s even talk of war. Tempted to sell? Problem is, there was also ample reason to be worried three years ago and yet here we are, with shares both higher and more richly valued.

What to do? I fall back on my standard advice: Forget trying to forecast the market’s short-term direction and instead focus on taking the right amount of risk. That brings me to two quick-and-easy ways to analyze your portfolio.

First, think about your current split between stocks and more conservative investments. But when you add up your conservative investments, include all future savings. This allows you to factor your human capital—your income-earning ability—into your asset allocation.

Let’s say you’re age 45 and plan to retire at 65. You have $300,000 saved, with $240,000 in stocks and $60,000 in bonds and cash investments—a mix of 80% stocks and 20% conservative investments.

But let’s also assume your annual salary is $100,000 and you save 10%, or $10,000, each year toward retirement. At $10,000 a year for 20 years, that’s $200,000 that is effectively in cash and still to be invested. Factor in that $200,000 of future cash, and your portfolio is 48% stocks and 52% conservative investments.

To be sure, there is a risk you’ll never collect that future cash because you lose your job or earn less you than you had hoped. Those with weaker job security or widely fluctuating incomes might adjust for that risk by trimming their estimate of future savings by, say, 20% or 25%.

Even with a haircut like that, it can be comforting to factor future savings into your asset allocation—assuming you have many years of savings ahead of you. Indeed, if you’re in that camp, a stock market decline is a potential bonanza, because you’ll be able to scoop up shares at bargain prices.

But this formulation isn’t so comforting for those of us who are retired or close to it, because we have little or no future savings. Yes, we could take advantage of a market decline by rebalancing into stocks or even overweighting them if valuations seemed especially compelling. But let’s be realistic: Only the bravest retirees will be that aggressive.

Here’s a possible rule of thumb to ponder: You never want more than 60% of your portfolio in stocks—with your portfolio defined as its current value plus future savings.

No future savings? You should have a maximum 60% in stocks. Just entered the work world? Even if your hold 100% stocks, your current investments plus future savings might be at less than 10% stocks. This highlights how irrational it is for young adults to worry about a market decline. In fact, you could likely hold a 100% stock portfolio into your early 40s and still be below 60% stocks, once you figure in future savings.

Is 60% the right benchmark for you? Here’s a gut check: my second quick-and-easy way to analyze your portfolio’s risk level. Pick a value for your portfolio, below which you wouldn’t want it to fall. Let’s say you currently have $600,000 saved and you’d be distraught if your nest egg dropped more than $100,000, to below $500,000. Experts in behavioral finance say that we get far more pain from losses than pleasure from gains. This is your chance to put a number on just how much financial pain you’re willing to endure.

Now, imagine stocks fell 35%. True, we’ve already seen two market declines of roughly 50% in the current century. But historically, 50% declines have been relatively rare. If you look at times when U.S. stocks have tumbled 20% or more—the standard definition of a bear market—the average decline has been around 35%.

To avoid a loss greater than $100,000 during a 35% stock market decline, you would want to limit your stock holdings to $286,000, or 48% of your $600,000 portfolio.

Want to try this with your own portfolio? This math is easy enough: Just figure out the maximum dollar loss you’re willing to suffer and then divide that number by 0.35. Not only will that tell you the amount you should have in stocks, but also it’ll get you mentally prepared, should it turn out that bad times do indeed lie ahead.

Follow Jonathan on Twitter @ClementsMoney and on Facebook.

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Safety Net: 10 Questions to Ask

WANT TO MAKE SURE YOUR FAMILY is adequately protected against financial disaster? Try grappling with these 10 questions:

What’s the minimum dollar amount you need each month to keep your household running? That’s a useful number to know if you’re forced to slash living costs because, say, you lost your job or you need to cover a large, unexpected medical bill.
How would you cope financially if you were out of work for six months? Think about where you would get the money to cover household expenses—and whether you ought to cut living costs, build up your emergency fund and open a home-equity line of credit.
If you’re retired, should you bother with a separate emergency fund? The big financial emergency is getting laid off—and that isn’t a risk once you’re retired.
Who would suffer financially if you died tomorrow? If you’re single with no children at home, or you’re married to somebody with a healthy income, the answer may be no one. But if you’re the main breadwinner, with a spouse at home and young children, your death could wreak financial havoc—and you may need substantial amounts of life insurance.
Do you own the right sort of life insurance? A majority of policies sold are cash-value policies, which involve hefty premiums—and which can crimp your ability to fund superior investment vehicles, such as your employer’s 401(k) plan. A better strategy: Max out your 401(k)—and protect your family with low-cost term insurance.
Would your homeowner’s policy pay enough to allow you to rebuild? Rebuilding may prove surprisingly expensive, because your new home would need to meet current building codes.
If you required nursing home care, how would you cover the cost? Can you afford to pay out of pocket, should you buy long-term-care insurance, or are you planning to deplete your assets and then fall back on Medicaid?
To reduce premiums, should you raise the deductibles on your health, homeowner’s and auto policies, and also extend the elimination period on your long-term-care and disability insurance?
Thanks to your growing wealth, could you afford to drop various insurance policies and instead self-insure? If you have more than $1 million in investable assets, you might have enough socked away to handle life’s financial disasters without help from life, disability and long-term-care insurance.
Which of your assets would be protected if you got slapped with a lawsuit or had to file bankruptcy? Federal law would likely protect much or all of your retirement account money. But what additional protections are offered by state law?

This is the fourth blog in a series. The earlier articles were devoted to retirement, homes and college. Follow Jonathan on Twitter @ClementsMoney and on Facebook.

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By the Book

WHEN I LOOK AT TODAY’S WORLD, I often think of Charles Dickens’s famous line, “It was the best of times, it was the worst of times.” Technology, including the web and smartphones, has made life so much more convenient.

Still, one thing I really miss from the “old days” is the experience of the traditional bookstore. Shopping online is great, but sometimes it’s easier to choose from a curated set of 10 books on a shelf than to sift through an unwieldy list of a thousand choices online. In that spirit, below is my summer personal finance reading list.

If I had to design a personal finance curriculum around just one book, it would be The Richest Man in Babylon. This classic, written in the form of a parable, is an easy read for people of all ages. While it may seem simplistic on the surface, in reality it covers a lot of ground. For example, this is how it explains the concept of intrinsic value: “Gold in a purse is gratifying to own and satisfieth a miserly soul but earns nothing.”

Index funds have been around for more than 40 years, but the “index vs. active” debate has really heated up in recent years. If this topic interests you, I recommend two books. Both authors are active managers, but they take opposite sides of the debate.

David Swensen, the longtime manager of the Yale endowment, has built the best track record in the industry by embracing active management. In Unconventional Success, however, he delivers a striking condemnation of the retail mutual fund industry, explaining why active management works for endowments like his, but not for individual investors.

Taking the other side of this argument is legendary fund manager Peter Lynch. In One Up on Wall Street, he acknowledges that his success as a stock-picker was unusual. He argues, however, that individuals can do better than professionals if they pick their own stocks and if they stick to what they know: “If you’re a surfer, a trucker, a high school dropout or an eccentric retiree, then you’ve got an edge already.”

With the market regularly hitting new all-time highs, I spend a lot of time thinking about risk. On this topic, I have three recommendations.

In The Black Swan, Nassim Nicholas Taleb makes a simple but powerful argument: Just because something hasn’t happened before doesn’t mean that it can’t happen in the future. For that reason, we should be skeptical of financial theory that assumes stock market returns follow the standard bell curve. Instead, Taleb cautions investors to protect themselves against “black swans”—highly unusual but highly consequential events with the power to wipe you out.

Writing in The Most Important Thing, Howard Marks expands on this idea: “Quantification often lends excessive authority to statements that should be taken with a grain of salt.” In other words, when it comes to investments, don’t put too much faith in numbers. Risk may seem quantifiable, but it’s not—because markets are driven by people and people are rarely logical.

If you want proof that black swan events can and do happen, I recommend When Genius Failed. This chronicles the spectacular failure of Long-Term Capital Management, a hedge fund that was built around mathematical models. Despite having more than one Nobel Prize winner on staff, “the professors had ignored the truism…that in markets, the tails are always fat.” In other words, the standard bell curve does not apply.

Excessive quantification isn’t the only reason to distrust Wall Street. In Pound Foolish, Helaine Olen examines the seedy underside of the business—from TV personal finance gurus, to complicated financial products, to the even more complicated (and opaque) relationships in what she calls the “personal financial industrial complex.” Don’t read every word—it will only depress you—but read enough to understand that you, as a consumer, are in a zero-sum game with Wall Street.

For a more lighthearted, but no less critical, look at Wall Street, read Where Are the Customers’ Yachts? Written in the 1940s by a former stockbroker, this book lampoons Wall Street as a “kindergarten.” This insider’s account seems no less true today than when it was first published.

Finally, I would pick up a copy of The Little Book of Main Street Money by Jonathan Clements, editor of this site (and, no, he didn’t insist I include one of his books). Structured as 21 financial lessons, this book’s title belies its depth. It covers everything from savings strategies, to the nuts and bolts of constructing a portfolio, to debt, insurance and taxes. This book is a highly readable field guide to navigate the financial decisions we all face.

In his Little Book, Clements writes, “we should strive to ensure that money is enhancing our lives rather than getting in the way.” I concur and hope that this summer reading list is helpful as you pursue your life’s goals.

Adam M. Grossman’s previous blogs include Go Fish and  Site Seeing (Part III) . 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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Growing Up (Part IV)

THE SOUND AND SMELL of the Pickle will be forever burned into my memory. As a wannabe cool teenager, getting rides to school and soccer practice from my parents in their inherited 1976 green Dodge Aspen coupe with whitewall tires—a.k.a. the Pickle—was beyond embarrassing.

Sometimes, my parents would honk pulling away, just to add insult to injury. Needless to say, it took a bit of humble pie to finally understand the lessons my parents were teaching me, and my sisters, daily.

I didn’t quite grasp what joy my father got from driving old, out-of-style automobiles until one day after soccer practice. On the way home, we took a detour to an affluent part of the small college town I grew up in. He asked me what I thought of these fancy, large houses with beautiful, new cars outside. Like a naive teenager, I remarked that these people must have it all—ultimate happiness and wealth.

That ride home, and several embarrassing Pickle pickups later, I began to understand that perception isn’t always reality. My father pointed out that not every large, beautiful house and expensive car on the block was purchased by someone with sufficient means to pay those bills. My parents didn’t value keeping up with the Joneses. Rather, they had chosen to be conscious spenders. Large expenses were aligned with the values they prioritized for our family—values like adventure, education and a hard work ethic.

On top of Pickle rides, there was Sunday breakfast, which consisted of burned buckwheat pancakes, soccer strategy and a financial lesson. After eating our well-done complex carbohydrates and visualizing our soccer prowess, Dad turned to a financial article or book to explain a new concept. It began with charts of the Nasdaq to explain what the stock market was and what a stock is, followed promptly by why we should care.

He always ensured we had some skin in the game to keep us interested. That skin just happened to come from our farm, manual labor and 4-H earnings. I absolutely despised farm work, but I loved making money. Once I began to understand that money could eventually work far harder on my behalf than I could with my own sweat equity, I was hooked.

In many ways, my parents were way ahead of the curve. They taught us the virtues of frugality, hard work, an unassuming lifestyle and the concept of values-based spending. Perhaps most important, they demonstrated grace in enjoying the ride—no matter how ugly the car might be.

This is the fourth blog in a series. The earlier articles appeared July 25, July 27 and August 1.

Anika Hedstrom’s previous blogs were Getting Schooled and  Site Seeing (Part IV) . Anika is a financial planner with  Vista Capital Partners  in Portland, Ore. She loves to nerd-out and, when given a dollar, will save 96 cents.

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This Week/Aug. 6-12

TAKE STOCK OF YOUR BONDS. Our financial lives are chockful of bond lookalikes, including savings accounts, our regular paycheck, Social Security and any defined benefit pension—all paying us regular income, either now or in the future. Set against these income streams is a big income drain: our debts. Result: Our finances may be riskier or more conservative than our bond position alone suggests.

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August’s Newsletter

WHY DO GREAT FAMILY FORTUNES often get frittered away with alarming speed? It’s tempting to blame profligate heirs. But in truth, the investment math is stacked against us, whether we’re leaving our children $100 million or $100,000. I explain why in August’s newsletter.

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