Personal Wealth Law News

The Social Security Administration has announced that benefit payments will not increase in 2011. There has not been enough inflation to justify such an increase. The Social Security Wage Base will also not increase, remaining at $106,800 (this is the amount subject to OASDI taxes). Here is the link: http://www.buckconsultants.com/buckconsultants/portals/0/documents/PUBLICATIONS/Newsletters/FYI/2010/FYI-10-15-10-Social-Security-Benefits-Will-Not-Increase-in-2011.pdf

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Actually, I was riding on a train to the airport a few weeks ago, when I overheard a not-very-quiet conversation between two people sitting on opposite sides of the train. The gist of the conversation was that one of the riders was getting involved in a new business. Having done “cash for homes” and a few other things, he was now going into IRA investment opportunities- how people with large IRA balances could make investments out of the general run of stocks, bonds and mutual funds, such as business ownership, real estate investments and the like. Why is this happening?

 Well, a lot of baby boomers are about to have their retirement accounts transferred from their employer’s plan to an IRA. While the employer’s plan might have had a menu of investment choices, and perhaps some advice on how to make those choices, with an IRA you could be on your own- and many people will be investing without professional assistance.

Some people will have professional advisors, who can help IRA owners to decide what makes sense for them in their unique financial and personal circumstances. But, as always happens when a large number of people get a large amount of money, some will fall prey to bad advice and people just trying to sell a product to as many people as possible. It’s important to have expert help in deciding on investments in retirement, because the wrong kind of investments could result in a less than prosperous retirement.

Meanwhile, it’s also important to know what federal tax law provides as to IRA investments. We will shortly post an article on this topic.

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Part of planning for retirement is deciding how much to save, as well as what to spend those savings on and when. An article from the 8/8/10 New York Times descibes some experiences and learning on what makes people happiest. It appears that Americans are saving more and spending less, which is making them happier, and that when they spend, the greatest satisfaction comes from experiences rather than things. Here is a link to the article: http://www.nytimes.com/2010/08/08/business/08consume.html?ref=business

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Social Security has been described as the most successful Federal program ever established. For some reason, perhaps related to politics, there have been claims in recent years that it was unsustainable and had to be drastically overhauled or scrapped. But several studies and reports in just the past few weeks have shown that this is not the case. An article in Bloomberg Businessweek includes this statement: “fact is, there is no Social Security crisis. The system isn’t broke. There’s financial trouble down the road but it’s manageable.” Another article, commenting on the annual report of the Social Security Trustees, says: “long term, Social Security is doing just fine, thank you very much.”

But there are issues regarding future benefit payments, and if nothing is done, there could be problems. The solution is to do something. The Congressional Budget Office has just issued a comprehensive report, titled “Social Security Policy Options”. In that report, there are 30 options suggested that, in various combinations, could ensure the long term viability of the Social Security system. They are categorized as follows:

• changing the taxation of earnings
• changing the benefit formula
• increasing benefits for low earners
• raising the full retirement age
• reducing cost of living adjustments

As the summary of that report states: “long-run sustainability for the program could be attained through various combinations of raising taxes and cutting benefits; such changes would also affect the Social Security taxes paid and the benefits received by various groups of people.”

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A study by the Employee Benefit Research Institute concludes that many people will be at risk of running out of funds sufficient to pay living costs at some point after retirement. Not surprisingly, the results differ based upon the level of pre-retirement income. For people in the highest quartile of pre-retirement income, 5% are at risk of running out of funds within 10 years of retirement, and 13% within 20 years. But at the lowest income quartile, 41% could run out of funds within 10 years and 57% within 20 years. Yet another reason for doing whatever is possible to maximize retirement saving.

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At the beginning of this year (2010), there was discussion in the press and in legal publications about the ability to convert IRAs and qualified plan accounts to Roth IRAs. This conversion involved paying taxes now and then being free of them thereafter, plus avoiding the necessity of minimum distributions during life. In effect, for those people who really didn’t need the amount being converted, conversion was a very effective multi-generational planning technique. To the extent you believe income tax rates will be higher in the future (a good bet), conversion makes sense. There’s a choice you can make when converting, whether to pay taxes this year at this year’s rates or over the next two years at whatever the rates will be then. Some people prefer to pay this year, because they like knowing what the tax rates will be.

Another advantage of conversion now is that security values are still low. The stock market is still far off its high values of a few years ago, so conversion now, before (we hope) the stock market recovers, is a good idea. Conversion is not for everyone. It requires some thinking about the future and personal planning. But there is still time to begin that process.

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Tax legislation that was passed unanimously by both houses of Congress and quickly signed by the President offer some helpful ideas for retirement and estate planning.

First, required minimum distributions from defined contribution retirement plans and individual retirement accounts are suspended for 2009. This means that if you have reached age 70 1/2 and are required to take out a calculated minimum amount for 2009, you will not have to do so. This relief is to help account owners who suffered substantial losses in 2007 and 2008, by not requiring them to liquidate assets with depressed values to make the minimum payments. Most people who have retirement accounts and have reached age 70 1/2 need to take distributions for their living expenses, but for those who do not, this temporary change in the law might be helpful. It does have a revenue effect for the Treasury, because if less than the minimum amounts are withdrawn, less will be paid in taxes for 2009.

Second, a change has been made in distribution rules from qualified plans. This is how it works. Most qualified plans provide that if the participant dies leaving an account balance, that balance must be paid out promptly to the participant’s beneficiary. If the beneficiary is the participant’s spouse, the spouse can roll over the balance to an individual retirement account and avoid immediate taxation. But if the beneficiary is a child, for example, it was long the rule that no rollover was permissible. Therefore, the child would be taxed on the distribution immediately, rather than being able to stretch out distributions through an IRA rollover. A few years ago, legislation was passed to permit rollovers by non-spouse beneficiaries, but it appeared that this would only be permitted if the retirement plan specifically allowed it. There was confusion as to whether Congress meant that this provision should be optional, and the recently enacted tax legislation has now made it mandatory for qualified plans, beginning for plan years after December 31, 2009. This can be a very valuable planning technique for retirement benefits. It’s a good idea to find out what your employer’s plan provides at a participant’s death, and to ask that the non-spousal rollover provisions be added as soon as possible.

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Many people are now thinking that they will have to postpone their retirement, based on the dramatic downturn in the stock market in recent weeks. It has been a shock, although there are already signs that savvy (and brave) investors are about to start buying at bargain prices. But one effect of the uncertainty, coming on top of the long term decline in real estate prices, is that people have to think more carefully about their current spending. That’s why I think this (I hope) brief downturn can provide a useful lesson. The lesson is, how much or how little we need to live on currently. If we strip away expenditures that we really didn’t need to make, we’ll understand how much it costs us to live where we are now, and that can be a good guide to what we’ll have to spend in retirement. As I’ve written before, the number is not some percentage of what we’re spending now, like 70%. It’s whatever it costs, in utilities, insurance, clothing, food, etc. By knowing what we need to spend now, we can learn what we’ll need to spend later. If our retirement savings cover those expenditures, it could tell us what more we can do in retirement, in the form of trips, second homes, etc. Some clients have asked for assistance in determining what their expenditures are, and I have prepared a template that I use myself and suggest to others as a way of gathering information on their expenses. If you would like a copy (gratis), e-mail me at rlouis@saul.com.

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Schadenfreude is the German word for taking pleasure in someone else’s misfortune. Like when someone speeds by you on I-95 and a few miles later, you see him pulled over by a state trooper. Schadenfreude. I have read numerous articles in the past week detailing the losses of leaders of large bank and investment firms. The New York Times of September 22 had a chart showing before and after stock ownership values for the heads of several of large institutions in the news. The numbers were so large before that it’s hard to escape the feeling that it was too much, but it’s difficult to understand how the “after” numbers were reached so quickly.

It’s not possible to have the same feeling about the thousands of employees who were also invested in stock of their employers, either outright or through retirement accounts. For many of those people, plans for retirement and post-retirement, including estate planning, have been destroyed. These are human stories, and while we can’t do much about them, we can take steps to ensure that the same doesn’t happen to us.

A recent article on retirement and estate planning reminds us of the dismal statistic that many people in their 50s have saved amounts for retirement that are clearly inadequate. The personal control and personal responsibility that were touted as major benefits of defined contribution retirement plans have resulted in some people saving more than would have otherwise been possible, but has also resulted in many people saving far less. This method of saving for retirement is in strong contrast to the method that was more prevalent 30 or more years ago, the defined benefit pension plan. In a defined benefit pension plan, a benefit formula established what was to be received at retirement, and the employer had the obligation to provide the necessary funding for that benefit. The risk was on the employer. By contrast, in defined contribution plans, the risk is on the employee. There might be a greater reward for the employee in taking on that risk, but more often there was not. Perhaps our current retirement crisis is the time to give more thought to defined benefit plans.

What is abundantly clear in this economic crisis is the necessity of both younger and older people giving more thought to their retirement savings. Deciding to save more is an easy decision to make, and always the right decision, but it’s difficult to carry out. Once that decision is made, it’s necessary to decide how to invest the savings. My experience with our firm’s retirement plan has led me to conclude that nearly everyone lacks the skill and temperament to invest retirement savings. There are two possible solutions to that problem: for large retirement accounts, an outside adviser can be given authority to invest the account. That’s a decision made based on a high degree of trust, but it gives the average investor a skilled ally in dealing with an uncertain financial landscape. For smaller accounts, a very popular technique is the target retirement method. This is a means of getting expert assistance as well. You decide an approximate retirement date, and that choice results in a mix of mutual funds that is consistent with that intention. And the mix changes as you get closer to retirement, reducing the level of risk.

The process of saving for retirement, for a surviving spouse, or to pass on to children is an important part of the overall wealth planning process. We’ve seen in the past few weeks that some of those plans were based on a failure to understand the risk inherent in them, with disastrous results. As with those people affected by the recent hurricanes, we can feel sympathy, but we must also consider whether our own poor financial planning will put us in the path of a different type of hurricane.

Reprinted by permission of hte Legal Intelligencer.

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Not the one in Galveston; I’m not sure what lesson that teaches other than the need to live somewhere else. I’m referring to the one on Wall Street, which, it’s fair to say, hasn’t ended yet. In many similar situations, employees of the distressed or bankrupt companies had much of their wealth in stock of their employer, either owned outright or through retirement accounts. We have read reports that managements at these companies were urging their employees not to sell their stock, that the company would recover, a classic case of a conflict of interest where retirement accounts were involved. The employees at those companies have suffered and will continue to suffer, perhaps without a solution. Are there lessons for others in this disaster?

As to retirement accounts, these problems suggest a theme often discussed in these blogs: the need to pay attention to retirement accounts and to manage them or obtain skilled management for them. It seems very unlikely that there will be a bailout for the rest of us, so it’s our obligation to find out what to do and do it. This task fall into several categories. I suppose the most difficult is to develop the discipline to save more. Sometimes that means living on less in the present, and that’s always difficult. Perhaps putting a picture of those Lehman employees cleaning out their offices on the refrigerator would help.

Once that decision is made, how are the funds to be invested? My opinion is that nearly everyone lacks the skill to invest for retirement. There are at least two solutions: one is to have a professional adviser. The key is to have a skilled one and to develop a level of trust in that adviser, but never to stop asking questions or trying to understand what’s happening. The second option is to use a target retirement method, by which you choose an approximate retirement date and have an automatic allocation among mutual funds. This allocation changes over time, reducing the riskiness of investments as you get older. Again, the retirement account owner should continue to watch what’s happening and ask questions.

Another element that needs planning is the distribution of retirement assets. In addition to the statutory requirements for minimum distributions, there are questions as to which accounts should be spent first, taxable or tax-deferred, and also which tax-deferred accounts should be spent. Again, it’s important to have advice on this process, because the wrong choice can result in an unnecessary waste of savings.

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