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Greetings!
It is hard to believe that November has arrived. I don't know about you but the next five months are the longest part of the year for me. April through October fly by while November to March trudges slowly through thick knee-deep mud. But this time of year is traditionally pretty good for the market-so maybe we have some good things to look forward to. Whether we like this time of year or not, we have some year-end planning to do.
So in this edition I want to talk briefly about something called tax-loss harvesting. Often when I talk to clients about harvesting a loss for your income taxes they sometimes look at me like I've just said a dirty word. However, using a loss to offset income can save significant tax money. Plus, there are times when harvesting a capital gain is better this tax year then in a future year (I'll cover that subject in the next newsletter.)
A tax loss is only relevant in a non-qualified account-IRA money is taxed as income regardless of performance. We can only use a tax loss in a non-IRA investment account. Nobody likes a loss, but if Uncle Sam will subsidize your loss then we should take advantage of his generosity-heck, everyone else is. Here's an example:
Joe bought $5,000 worth of stock in 2006 and as of December 2009 it was worth only $1,000. As far as the IRS is concerned Joe he has lost nothing, yet! He has a paper loss of $4,000 but until he sells it he has not realized a loss. Joe must sell the stock and to realize a $4,000 long-term (held for more than one year) capital loss.
Joe can now use that realized $4,000 loss to first offset any other capital gains and then with any loss left over (up to $3,000) he can use to offset income. So let's say Joe is in the 25% tax bracket and he had $500 in capital gains from a mutual fund distribution; he first offsets that gain and wipes it out saving the approximate $75 tax he would have owed[i]. Then, more importantly, he can take $3,000 of the remaining $3,500 loss and offset income, which, being in the 25% bracket saves him another $750. The remaining $500 is carried over until next tax year saving him some money next year.
Our hypothetical Joe took the lemon stock he owned and turned it into lemonade, saving him $825. After 2008 and 2009 there are people who have enough tax-loss carry-overs to have tax savings for the rest of their lives.
Now, let's say that Joe really loves his stock and he thinks it will eventually rebound-he can buy back that same exact stock later but he must wait 31 days to avoid what's called a "wash-sale" which causes the IRS to ignore the sale completely. To avoid the wash-sale he can buy another company or fund in a similar industry if he wants to stay invested during his 31 day hiatus.
I will usually screen the taxable accounts in November and December and I'll call you if we have opportunities for some tax-loss harvesting--but if you already know you might have something like this please call me and we'll take a look at it-I don't want to miss anyone.
Now for the disclaimers, tax laws are subject to change in the future--this technique works this year but be sure to check with your tax advisor for your specific situation. Some States (New Jersey Pennsylvania and a few others) do not allow carryover amounts for State tax purposes; however, Maryland does. Marty
[i] If you are in the 15% or lower tax bracket you don't have to pay capital gains tax in 2009.
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This Month's Quote from Benjamin Graham's The Intelligent Investor
Warren Buffett called it "By far the best book on investing ever written." Benjamin Graham's, The Intelligent Investor has been in print since 1947--has been revised and updated every five years or so. The edition I have was published in 1973 and updated by Jason Zweig in 2003.
Ok, a little different take this month: This comes from the section written by Jason Zweig-a financial columnist for Money Magazine. At the end of his commentary on Chapter 8 he re-prints an "Investment Owner's Contract." It's a bit hokey--but it's supposed to be a contract between your rational/logical self and your emotional/irrational self. Let me know what you think-I love it.
I, your name here, hereby state that I am an investor who is seeking to accumulate wealth for many years into the future.
I know that there will be many times when I will be tempted to invest in stocks and bonds because they have gone (or "are going") up in price, and other times when I will be tempted to sell my investments because they have gone (or "are going") down.
I hereby declare my refusal to let a herd of strangers make my financial decisions for me. I further make a solemn commitment never to invest because the stock market has gone up, and never to sell because it has gone down. Instead, I will invest $________.00 per month, every month, through an automatic investment plan or "dollar-cost averaging program," into the following mutual fund(s) or diversified portfolio(s):
__________________________________________,
__________________________________________,
__________________________________________.
I will also invest additional amounts whenever I can afford to spare the cash (and can afford to lose it in the short run).
I hereby declare that I will hold each of these investments continually through at least the following date (which must be a minimum of 10 years after the date of this contract): ______________________, 20____. The only exceptions allowed under the terms of this contract are a sudden, pressing need for cash, like a health-care emergency or the loss of my job, or a planned expenditure like a housing down payment of a tuition bill.
I am, by signing below, stating my intention not only to abide by the terms of this contract, but to re-read this document whenever I am tempted to sell any of my investments.
This contract is valid only when signed by at least one witness, and must be kept in a safe place that is easily accessible for future reference.
Signed:_______________________________________ Date:__________________
Witnesses:
_____________________________________________
_____________________________________________
Pretty nice. Marty |
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Concept of the Month: Social Security
So last month we said we're going to figure out how your Social Security monthly check is calculated. Grab a strong coffee and a calculator and let's go.
The first step is to find the Average Indexed Monthly Earnings (AIME). Indexed means your lifelong earnings are indexed to account for wage inflation-and looking at your earnings history on your SS statement it's quite a history on wage inflation--in those early years you wonder how we lived on such paltry sums. SS only counts your 35 highest indexed earning years--if you do not have 35 years of earnings history they give you a zero for the missing years. By the way, the wages are indexed up to age 60--after you're 60 wages are not indexed.
Anyway, the SS super-computers total your 35 highest years of indexed income and divides by 420 (the number of months in 35 years) to come up with your AIME. The second step we multiply the AIME by three factors to arrive at a Primary Insurance Amount (PIA).
The PIA, like our income tax code, is graduated to give more of a bang-for-the-buck to people in the lower end of the wage scale. To arrive at the PIA and to benefit lower income earners SS uses what are called "bend points." The first $711 of AIME is multiplied by a factor of .90, for $639.90. So if in fact your AIME was $711 your monthly PIA would be $639.90.
The next bend point takes the amount of AIME between $711 and $4,288 and multiplies that ($3,577) by a factor of .32 for an additional $1,144.64 of PIA. The third bend point takes any remaining AIME and multiplies it by .15 with the result added to the previously calculated $1,784.54 of PIA-with the total-now officially called the PIA.
Now, I'm hoping you haven't fallen completely asleep by this point--but this Primary Insurance Amount is your monthly estimate of your SS payment if you were to take it at your Full Retirement Age (FRA). Since the PIA is calculated at age 62, at least four years before your FRA the number will change slightly; it changes because SS must adjust for the Cost Of Living Adjustments (COLAs), any credits or reductions for not taking it exactly at FRA, or even extra earnings after age 62. So the PIA is again just an estimate-but a pretty close one.
There is a calculator on the Social Security Website: www.socialsecurity.gov, go to "Retirement," then "Plan your Retirement" and then "Benefit Calculators." The easiest to use is the "Quick Calculator" but if you need a more accurate projection you can use the "Online calculator" and enter in your wages since 1951.
Thanks for reading through. Next month we'll look at the early withdrawal reductions and credits given for delaying.
Thanks, Marty
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Book I am reading now: "Relentless" by Dean Koontz, Bantam Books, June 9, 2009
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