College Planning

June 2, 2010

Joe,

My oldest daughter is two years away from college, and my youngest is a freshman in high school. My husband and I had put some money aside over the years, but it has taken a real hit in the past two years. I want my kids to go to a good school, but I just don’t know how we can afford it. Do you have any tips?

Miranda, St. Paul

Thanks for your question. First, don’t panic. You’re in the same situation many parents find themselves in. Parents with college-ready kids are facing a perfect economic storm. First, the accounts they have spent years contributing to are taking a beating. Even families who planned ahead for their kids to attend college are seeing their accounts dwindle.Hope these tips help, Miranda. If you have further questions please don’t hesitate to contact me.

Not only are accounts dwindling, but college expenses are increasing. College tuition and living expenses rise, on average, 5-6% per year—far out pacing inflation. Colleges have become businesses who must recruit for the best students. And the things that attract students—new academic buildings, trendy student lounges, and “free” iPods and laptops all cost money. Guess who gets stuck with the bill?

But even as costs continue to skyrocket, parents continue to trot their kids off to college in record numbers. The U.S. Census Bureau notes that college attendance rose some three million students in the last six years—with 29.3 million students trotting through ivy-shrouded academic buildings and living on a diet of cold pizza for a year. Parents are OK with one less meal out a week or selling the family boat, but struggle to tell their kids they can’t attend college. And there’s a good reason for that: Most jobs now require at least an undergraduate degree—and many an advanced or specialized degree—for employment.

So what do you do?

First. Keep saving. You hear about parents who start applying to top-notch schools before their kids are born? They sound over zealous? Maybe. But start saving when your kids are young, contribute to a 529 Savings Plan.

If you want to estimate what a school will cost look at their current tuition and room and board expenses for 2010-11. Then add 5-6% for each year away from college your kid is. That means if a schools currently has a fee structure of 25,000 dollars (a mid-level state school), it will cost about 28,940 dollars by the time your current 10^th grade kid attends her first year. Scared yet? That is just the first year—remember to plan on a 5-6% increase yearly.

Next, sit down and have a frank conversation about the realities of college. Too many parents fall in to the sentimental trap of giving in to whatever their kids want for college, regardless of finances. This is both dangerous and foolish. With your kid, sit down and make a list with three categories: dream schools if finances are not an issue, mid-level schools that you see as realistic, and safety-schools if your financial situation gets worse (yes, that can still happen).

Next, keep saving. Remember: 5-6% increase a year.

Here’s the secret most people don’t know: Almost no one pays the full sticker price of a college. Most schools, especially private schools, offer generous financial aid packages. The only way to find out what money your kid is eligible for is to apply to a school and see. Also, make sure to fill out the FAFSA. That is the document that will determine the amount in loans and grants your student qualifies for. There are subsidized loans and un-subsidized loans. Subsidized loans are preferable because the interest on them does not start accruing until the student is not in school full-time anymore.

In addition, here are some other general tips in funding college.

Do: Encourage academic performance. One of the most overlooked college financing options rests with your kid. Students who perform well academically and score high on the ACT/SAT are eligible for a host of scholarships—both at the school and privately. There are many private scholarships that go unawarded each year for lack of applicants. Have your student talk with his or her guidance counselor for advice where to look and apply.

Don’t: Bank on athletic scholarships. You have a better chance of winning the lottery.

Do: Consult the numerous resources that rank college. The US News and World Report and Princeton Review are two of the better ones. They rank schools by everything from academic reputation to cafeterias to value. But be advised: The term value applies to more than tuition and what the student is afforded in terms of opportunities at the college. For instance, St. Olaf and its 45,300 dollar comprehensive fee is listed as a best value.

Don’t: Take the rankings as an end all be all. There is a lot of debate amongst colleges as to the utility of such ranking services. Many schools are ranked on past numbers and, if you are cynic, on the money they contribute to the publications. Still, they are a guide.

Do: Consider all schools—both public and private. As state earlier, many private colleges, even though they carry a higher comprehensive price tag, end up being the same price or cheaper based on the private scholarships they can offer.

Don’t: Give up on a public school because it is out of state. Many states have reciprocity agreements with other states to encourage cross-state matriculation of students.

Do: Consider loans. Almost all college students have them, and their low interest rates usually make them comfortable to repay with a typical post-college job. Also, knowing that the student will be paying for the education later often makes him more invested in school while there.

Don’t: Be tempted by the low interest rates of home equity loans to finance college expenses. Yes, the interest rate is low, but home equity loans cannot go into forbearance if the student goes on to graduate school or is unable to afford the payments the way other education-related loans can.

Best,

Joe

Deducting job search expenses

March 23, 2010

photo credit: jypsygen

 

Joe,

I have been out of work for the past five months, actively trying to find a job. As tax time approaches, I want to make sure I get all the deductions I can on my expenses. I keep getting advice from friends and family on what I can deduct and the information I find online is even more confusing. Can you help me on which expenses I can deduct for job searching?

Mike, Plymouth

Mike,

First, sorry to hear about your job loss. You are in a position that many other people find themselves in: Actively searching for jobs in a market that is less than welcoming. I wish you luck in your searching.

That said, you asked about what you can deduct for job search expenses. Sadly, there is not an easy answer for you. You would think that with the fleet of other programs the government has rolled out to help those laid off from work, they would make it easier to deduct job searching expenses. However, they have not taken that route.

There are two big things you need to know about job search related deductions. First, the fees incurred must amount to at least 2% of your AGI (Adjusted Gross Income). So if you have an AGI of $80,000, you would need to have job search related costs totaling at least $200 to be eligible. Luckily (and I use that term lightly), being out of work tends to lower the AGI to a manageable number.

Next, all of your job search related deductions needs to relate to your searching for a job in the same field as your previous line of work. That means if you are laid off by one bank from your position as a loan officer but wish to find a new bank to work for, you can deduct those costs. However, if you are a former loan officer, and want to try your hand at marketing, your job search expenses are non-deductible. Sorry. The government isn’t budging on this one.

That said, if you meet the two above requirements, here are some eligible deductions, as well as a couple deductions that don’t qualify.

Eligible Deductions

* Employment agency or headhunter fees

* Career Coaching

* Resume writing

* Resume preparation, including copying, postage, long-distance calls

* Mileage to and from interviews and job counseling

* Transportation expenses for out of town travel, if the primary intent is job searching. Also, 50% of meals while out of town are deductible.

Non-Eligible Deductions

* Clothing and hair cuts, even if for job interviews

* Internet access

* Cell phone bills

* Expenses reimbursed by prospective employers

* Transportation expenses for out of town travel, if the primary intent is not job searching

That last point may be confusing. Ask yourself (and be honest, because the IRS sure will be), did I fly to Miami to look at a possible company or to spend a week on the beach at my friends condo—with a quick interview thrown in. Ask yourself what was the primary intent of the trip.

Mike, best of luck with the job search. Hopefully these tips will be able to save you a little bit of money come tax time. Should you have any further questions, please don’t hesitate to contact me.

Best,

Joe Rapacki

 

What to bring to your tax appointment

March 23, 2010

photo credit: hughelectronic

 

As April looms nearer, and people begin preparing for their tax appointments, I am flooded with questions about what to bring to tax appointments. So, in the spirit of tax season, here are some thoughts on how to prepare for your upcoming tax appointment.

The first piece of advice is also the most important (and probably the most ignored): Keep thorough records throughout the year. Each year you resolve to do this, but come April, you are sorting through shoeboxes, file folders, and behind the dresser for your W-2 or last receipt. Start now. Keep all your records in one spot. Keep a spreadsheet of expenses and deductions. And keep these things up-to-date.

The next piece of advice is to begin preparing and organizing your documents a couple weeks before the appointment. I have seen my share of clients who come to appointments with bloodshot eyes and frazzled nerves—and it’s not because they are worried about how much Uncle Sam is going to take—it’s because they spent the whole night before preparing.

So what do you need to bring to your appointment? Ask your accountant. Most will have a list of what they like to see. Since you asked me, here is a list of commonly needed items. You may not need all of these—but it surely won’t hurt to have them. I recommend sorting your information in the following categories:

Income Documents

* All your W-2s. When you receive one in the mail, keep them together with all your other documents.

* Form 1099-INT of interest statements from banks

* Form 1099-DIV from investments

* Form 1099-B from transaction statements from stock/bonds sold during year. Make sure to bring the original purchase price and date of purchase.

* Form 1099-G for any unemployment insurance received

* Scheduled K-1 received from partnership, estate, or S-corporation

* Social Security statements

* Any additional income (or debts) such as miscellaneous income from jobs, gambling winnings/losses, and alimony paid/received.

Deduction Documents

* Form 1098 for mortgage interest

* Mortgage points on a new home or a refinance

* Real estate taxes

* Vehicle taxes and license tab fees

* College and education expenses for you and dependents

* Interest paid on student loans

* Amount paid for child care providers. Also bring a tax ID number.

* Money spent for job-related travel, tools, clothing that you were not reimbursed for

* Contributions to IRA and other savings plans

* Expenses paid for medical items such as co-pays, prescriptions, hospitalizations, eye exams or glasses, mileage for medical appointments

* Donations to charities and churches. Make sure to bring receipts.

* Home improvements for energy efficiency and medical reasons

* Closing costs for real estate you bought or refinanced during the year

Business Records (If you have your own business)

* A spreadsheet with categorized expenses/income

* A mileage log of driving done for business. Make sure you include the date, location driven, and miles. I only need the total miles, but if you are audited, the mileage log can save you.

* Percentage use of items such as internet and cell-phone for business-related expenses

* Names of contractors, addresses, SSN, and monies paid

* Health insurance premiums

If you keep an office in your home, you are eligible to deduct proportional expenses of your utilities, repairs, and improvements. However, these deductions are complicated and can carry fees when you sell your home later.

Even if you have been less than fastidious in your record keeping, you can start preparing yourself now. If you bring these items in an organized fashion, your tax appointment will go much smoother and get you in and out of the appointment quicker.

And you can make next year the one where you keep the detailed records…

Debit Card Fraud

March 22, 2010

 

photo credit: jovike

Joe,

I keep seeing stories about people who have their bank information stolen from their debit cards. Is this a real threat? What can I do to protect myself?

Jennifer, Moundsview

Jennifer,

Thanks for your questions. People often only think of accountants when it comes to tax time or looking for investment tips. I am, however, trying to protect you financially in other areas, as well. The threat of having your information stolen through your debit card is very real—and growing.

It’s no longer the guy standing behind you at the ATM who is your threat; thieves today are far more sophisticated. And as law enforcement and banks stamp out one technique, a new method arises. The scary part is most banks and credit agencies are putting the onus on the card holder—not the bank—to find fraudulent activity. In order to protect yourself, it is important that you not only keep up to date on the most common techniques, but take steps to protect yourself, as well.

Most people know enough to protect their debit card numbers—and to watch out for servers and retailers who spend too much time looking at the number. But thieves today use technology to steal your numbers. Some crooks insert a small device at the end of an ATM machine that looks like an extension to the card slot. This device uses cameras and wireless communication to send the card number to the thief anywhere in the world—often in places other than America. The thief simply orders a new card with the number.

Other thieves are using gas pumps to steal your information. They use a key to open the pump—easier than you might think—and install skimming machines that read the numbers on each card. The information beamed wirelessly to a cell phone, where the card numbers can be used.

So how can you protect yourself? Well, first, you should consider the difference between a credit card and a debit card. Federal laws dictates that the maximum amount you are liable for on fraudulent charges made with your credit card is $50 dollars. Debit cards, however, fall under a different law, and require timely monitoring. If you notify your bank within two days of the fraudulent purchases, you are limited to $50 dollars. However, if you wait—or don’t notice the charges—between two days and 60 days, you are obliged to pay up to $500. Wait longer than that, and you might be liable for all charges. The lesson here: Watch your card activity and consider switching your debit card to a credit card.

But if you are wary of a credit card (for they have their own burdens), consider getting a debit that requires a pin number for purchases. The pin number is not a perfect system, but certainly better than a card that just requires a forgeable signature.

Some other common tips to protect yourself:

* Never store your ATM card next to your pin number in, say, your wallet. You lose your wallet, you lose your pin number, too. There goes your security blanket.

* Don’t respond to phishing E-mails asking for your bank information. Reputable banks never ask for information in this fashion. These E-mails are always fraudulent, but you would be amazed at how many people fall into the trap.

* Avoid ATMs that appear to have been tampered with or look out of the normal.

* Monitor your financial information carefully. Track your purchases regularly. If you have a joint account with a spouse, don’t be afraid to ask him/her if the purchases are legitimate. Thieves today often start slow—making one or two small purchases a week. These small amounts often go unnoticed. When the conspirator makes a larger purchase later, you have less legal power to reclaim those initial purchases.

Jennifer, I hope this information helps. If you have any further questions about protecting your financial assets, please don’t hesitate to let me know.

Best,

 

Joe Rapacki

Roth IRA

November 30, 2009

 

 

Joe,

One of my friends just asked me if I planned on converting my IRA to a Roth IRA. He was excited because of a rule change that now made him eligible. He asked me if I were going to do the same thing. I lied and said I was. To be honest, I don’t even know the difference. Should I convert my IRA? What is the rule change he is talking about?

Walter, Stillwater

 Walter,

You are not alone in not knowing the difference between a traditional IRA and a Roth IRA. The basic difference rests when the taxes come out. With a traditional IRA you put money in tax free, but are then taxed when you withdraw. With a Roth IRA, you pay an upfront tax on the investment, but then the money is tax-free to withdraw.

My guess is the change he is talking about is the dropping of the income limit for those who can open or convert a Roth IRA. In the past, only investors with a yearly income under S100,000 could access a Roth IRA. A recent study by Fidelity Investments found that 83% of those surveyed knew nothing about the removal of income limits on IRAs. Understandable given that most investors face other financial issues to worry about. Which is a shame because investor ignorance clouds a significant economic opportunity.

So should you convert your traditional IRA to a Roth IRA? Probably. The most obvious reason is the tax-free income stream. With a Roth IRA, an investor pays the upfront tax, based on his income tax percentage, on the contribution. This strategy works especially well for those who plan on being in a higher income bracket upon retirement than they are now. Not just those starting out, but those who are out of work right now.

But even if you are doing well financially a Roth conversion is advisable. In a one time offer, the government will allow investors to defer the tax hit over two years. If you convert your traditional IRA to a Roth IRA in 2010, you can spread the tax liability evenly over 2011 and 2012. This helps to lessen the shock of a one time large tax hit.

 Another reason to convert now is to take advantage of a shrunken portfolio. Yes, there is an upside to the freefall of your IRA. When you convert to a Roth IRA, you are taxed on the amount converted. If your IRA has a value reduction of 30%, that means 30% less in taxes. When the account grows, you will not be taxed on the additional growth.

Finally, a conversion to a Roth IRA provides you more control over your estate planning. There are no mandatory deductions at 70.5, meaning a Roth IRA is preferable if you plan to pass on the account to beneficiaries.

All of these factors contribute to the proverbial perfect storm for you to convert your traditional IRAs to a Roth IRA. Don’t let your ignorance or a lack of press contribute to a missed financial opportunity.

Hope this information helps. Maybe you can even give your friend some advice. As always, check with a money manager whom you trust before making any conversions. There are many subtle rules that impact your conversion. Best of luck, Walter.

photo credit: scottwills

Your primary residence in a divorce

October 10, 2009

photo credit: steakpinball

Joe,

My wife of seven years and I have been talking about divorce. While nothing is finalized yet, I am curious what we can do with our family home. Should we sell it now and split? Wait? Will the selling hurt us coming tax time?

Roland, White Bear Lake

Roland,         

First, let me say I am sorry to hear you are going through such a difficult time. Divorce is not easy—not emotionally and not financially. While I hope you don’t need this advice, it is good you are preparing now.

I am not sure of the exact particulars of the situation—for instance having kids, time lived in home, and current marital status all play a role in determining the best course of action. That said, here is a hypothetical example I give many of my clients:

Let’s say Jack and Jill, a couple who has been married for five years, decide to separate. In the past, in a housing market long, long ago, it would have been easy for the couple to sell the home and divide the profit. If they divorced and filed as “single”, Under IRC §121 Jack and Jill could exclude up to $250,000 of gain on the sale of a principal residence if the ownership and use tests are met. To meet these tests, both Jack and Jill would need to  1) own and  2) use the home as their primary residence for two of the five years preceding the sale. However, if one of the spouses did not meet the test, they might be best off staying married until  year end and file jointly.  This way Jack and Jill could claim $500,000 so long as they both meet the use test and one of the two meets the ownership test.

Additionally, reduced exclusions are available to those couples who fail the two out of five year test due to health, employment, or marital changes—think divorce or lay off.

However, the plummeting real estate market has turned many homes into toxic assets. Many couples cannot afford to sell their homes at their current value. In that situation, Jack and Jill may decide to have Jill continue to live in the house, and pay Jack his portion when she sells or refinances the house. However, this is problematic in a couple respects.

First, with the current real estate market, it may be a considerable time before the home is sold at a favorable price, leaving Jack waiting for his potential payout. Second, Jill would need to sell the house within three years of the divorce for Jack to be eligible for the exclusion.  This time frame can be extended to six years if the former spouse is granted use of the home by a divorce “instrument.”

Also, Roland, make sure you keep the lines of communication open with your former spouse. This will provide a chance to communicate a strategy that is most advantageous to both of you. Then make sure you find a tax professional to handle the situation should the divorce proceeding continue. Not only will they provide you the best strategy to minimize your taxes, they will also protect you so you don’t unwillingly underpay your taxes and be liable for penalties years from now. The rules governing divorce and deductions are complex and nuianced.  Also, it may sound ideal to use the family CPA—they  have done the family taxes for years afterall. However, in divorce proceedings it is best for each party to have his and her own accountants, as some of the decisions that could be advantageous to one client, might be disadvantageous to the other. You want to make sure your CPA goes to bat for you.

Hope this information helps. As always, contact me should you need further advice. Best of luck reaching an amicable solution.

Late 2009 Tax Planning – Equipment Purchases

October 6, 2009

Joe,
Are there some tax rules my small business could take advantage of before the end of 2009?

Brad, Bloomington, MN

Dear Brad, 

That’s a good question. There are two favorable items due to expire on December 31, 2009.

1. Bonus depreciation. The 50 percent first-year bonus depreciation (for new equipment) is due to expire at the end of 2009. What this means is that 50% the cost of the new asset may be depreciated in addition to using the standard depreciation tables. Also, the $8,000 additional first-year depreciation allowed for new vehicles placed in service ends in 2009. For bonus depreciation to apply, the equipment must be placed in service by the end of 2009.
2. Code Section 179 expensing. Although this does not affect many clients, the limit for Code Section 179 expensing drops from $250,000 in 2009 to a maximum of $125,000 in 2010.

The rules are somewhat complex and you should review the specifics with your tax professional. 

For more information, visit:  http://www.irs.gov/businesses/small/article/0,,id=213666,00.html

Joe

Homeowner Tax Relief

October 6, 2009

photo credit: mhartford

We recently had a short sale on our home. We were surprised to learn we’d be getting a form 1099 for the amount of debt that the bank discharged.  And that we would be required to put the amount of the debt discharged as INCOME on our tax return. Is this true?

Frankie, Hopkins, MN

 

Yes, the Internal Revenue Code requires debtors to report all the forgiven debts on their Form 1040. Normally this is taxed as ordinary income unless one can use the bankruptcy or insolvency exemption.

However, there’s a rule in place that should help you out this year. Congress passed a law that allows homeowners special relief for the years 2007-2012. In order to qualify, the debt that was forgiven must be from one’s principal residence. Secondly, you must have incurred the debt to buy, build or substantially improve the residence. There’s no relief if you refinanced your mortgage in 2006 and used the equity that was cashed out to buy a Lincoln Navigator.

The rules for determining qualified principal residence indebtedness (QPRI) can be complex if the homeowner obtained a home equity loan and/or refinanced and used the loan proceeds for multiple reasons. So review the specific details with your tax professional.

Joe

Estate Taxes

September 28, 2009

Hello, Joe,

What are you hearing about the estate taxes for 2010?

Barb, Edina, MN

Hello, Barb;

There’s a fair amount of speculation about what will happen with the estate taxes.  The current federal estate tax law allows a $3.5 million dollar exclusion.  However, the estate tax is due to be completely eliminated in 2010 (This is a sunset provision written years ago into law).  However, a number of sources view such an event as unlikely to happen.

There are two reasons that this is unlikely.  First, the current federal budget deficit will require tax revenues to be at least be at the 2009 level for the foreseeable future.  Secondly, if the estate tax expires, the step up of basis in assets passing through an estate would expire as well.  Beneficiaries have limited knowledge about the cost basis of assets that are held by decedents.  The potential complexity of unknown or incomplete cost records would cause both the beneficiaries and the IRS overwhelming problems.

The most likely legislation will be simply an extension of the existing estate tax laws and exemption, for another year.  This will allow a busy Congress to visit the issue next year.  The majority of clients still believe that “I’m going to get taxed some how, some way, and I’m not going to like it”,

Estate planning is still important.

Joe
photo credit: simonsimages

Financial Planner Questions

September 28, 2009

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