By Edward Mendlowitz, CPA
Most business executives are driven by the goal for their companies to succeed, grow and be on a firm financial footing. They expend great energy in managing the business and have above-average knowledge of financial matters. Thus, many assume their personal finances are in good order. In consultation with many of my own clients, I find this is not actually the case for those who are planning to retire – or, in today’s economy – are being forced to retire.
The bad news for hopeful retirees? Financial planning is a process that improves over time. The good news is that it can start at any point in one’s life. However, the later the start, the more compromises and adjustments one may have to make.
With the stock market drop at about 40 percent, and the over-30 percent drop in fixed income yields during the last year, just about everyone’s plans have to be altered, so, it’s not just the people who did not plan that are affected. We’re all in this storm together.
What can be done to optimize your plans in times like these? The strategy is simple; attack your financial planning aggressively and intelligently.
The following are some tactics to consider:
1.Get rid of debt – especially from credit cards. Then try to pay down mortgages that have interest rates higher vs. what you can earn on your investments.
2.Reduce spending. With the end goal of being financially secure, current lifestyles need to be adjusted to accomplish longer term goals, examine every area of spending, including insurance, clothing, medical costs, gifts to family members and vacations. The alternative? Work for a longer duration.
3.Invest in a more tax-efficient manner. Buy your bonds and bank CDs in tax-deferred accounts and stocks in your own name. The interest will then be free from current taxation. Then, the lower yield dividends and any eventual capital gains will be taxed at reduced rates.
4.Reduce investing costs by using discount brokers. Buy index and exchange-traded funds rather than actively managed mutual funds. The costs do count, and they hold down your overall yields and growth.
5.Buy longer term bonds and CDs to increase your yields. Consider setting up a five year CD or ten year bond ladder. A ladder has one-fifth or one-tenth of your money invested to come due each year. This allows reinvestment at the then-current rates, changing your investment vehicle, or having the funds available to be used for other purposes.
6.Understand what you are really investing in. For example, a bond mutual fund is not a “safe” investment. Once made, you can only get back such an amount that the market deems appropriate based on the current interest yields. As market yields increase, the value of the bond fund will decrease. Of course, the opposite is true if rates drop. Then, assuming there isn’t excessive leverage within the fund or a major snafu (such as in 2008 when many bonds had too high a proportion of their investments in financial organization bonds), the fund’s value will likely increase. Long term investment plans should not ignore stocks. A married couple, both ages 70, should have a plan that assumes at least one of them could live, on the long term, twenty-five more years. The planning strategy should be to not outlive your money. For instance, someone age 92 can possibly ignore future effects of inflation and plan on spending down principal. Someone at age 70 could not.
7.Review your asset allocation at a minimum of once a year, and don’t automatically rebalance. An illustration of this is that stock values dropped significantly at the end of 2008 without a correspondingly significant drop in dividends paid. However, while bank CDs did not drop at all in value, the yields on rolled-over CDs dropped by more than a third. Traditional rebalancing refers to asset values and not portfolio yields. None of the traditional rules apply anymore.
8.Consider immediate annuities. Increase your cash flow by using a portion of your funds to purchase an immediate annuity that will guarantee the cash flow for the rest of your life. The downside is that the funds are no longer available to be used for anything else and disappear upon your death. The benefit is that you cannot out live the cash flow. You need to balance your desire to leave a “legacy” to your heirs versus having a secure cash flow. Note that immediate annuities are similar to charity gift annuities, but provide a greater return because the residual goes directly to the insurance company and you can factor in your health in determining the annual cash flow.
9.Know your safety nets. If you continue to spend down your assets to maintain “yesterday’s” life style you can always get a reverse mortgage if you own a house; ask you kids for financial help; go on welfare; or finally, live your life spending only the income you bring in.
Every one of the above steps can be easily executed without special training. Whether you do it yourself or enlist the help of a financial professional such as a CPA or certified financial advisor to execute the steps, it’ll take focus, determination and resolve. There is no silver bullet that will convert a bad plan into a great plan, but small changes, tweaking and attention will produce immediate benefits and concrete results. And you can start now!
About Edward Mendlowitz, CPA
Edward Mendlowitz, CPA, is partner emeritus in WithumSmith+Brown’s New Brunswick office. He is accredited as a personal financial specialist by the American Institute of CPAs; is the author of sixteen books; and a member of the NYS Society of CPA’s Estate Planning Committee. He is the winner of the Lawler Award for the best article published during 2001 in the Journal of Accountancy; has taught in the MBA graduate program at Fairleigh Dickinson University, and is admitted to practice before the U.S. Tax Court. His most recent book is The Adviser’s Guide to Family Business Succession Planning (AICPA 2006). Mr. Mendlowitz consults with clients on how to plan for their future financial security, and on business succession planning. Mr. Mendlowitz can be reached at 732.964.9329, or e-mail: emendlowitz@withum.com.
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