Tax stamp

Why your taxes went up

Posted on by

Many of us are still pondering why we didn’t benefit from the alleged tax cut and worrying about what will happen this year, again. After all, tax brackets went down 3-4% for the first 4 tax brackets. But (and this continues this year) your taxable income most likely went up. Don’t expect that to improve for 2019. At a recent conference I attended, this was much discussed. Why?

You live in a blue state. Clever how that worked, huh? Because in many blue states and urban areas, your property taxes on a middle-class home probably exceeded the $10K cap. Add in your state income tax paid. And don’t forget that mortgage interest you used to itemize. With just these three, there’s a good chance you could exceed the $24K standard deduction (married filing jointly) or $12,000 (single). These increase to $24,400/$12,200 for 2019. Woohoo. But once income tax and property tax are capped at $10K total, your mortgage interest might not put you over the standard deduction.

Your charitable deductions don’t count. If you don’t itemize, you don’t get to take a charitable deduction.

You can’t deduct employee expenses. If you buy supplies, or uniforms (except for teachers), that’s on your dime, now.

You don’t have kids. People with kids saw the tax credit doubled.

For 2019, your medical deductions might not qualify. For 2017 and 2018, you needed medical expenses  greater than 7.5% of your income. For 2019, it goes back up to 10% of adjusted gross.

Changes to alimony. Alimony is no longer deductible to the person who pays, beginning with divorces finalized in 2019. The recipient will no longer be taxed on the alimony, but this is likely to result in lower payments to the recipient (since the payer will be dinged for more).

There’s not a whole lot to be done, except by voting. However, it’s important to remember that lower taxes are not the only consideration—what you get for them is also important. It’s how much spendable income actually ends up in your pocket. If you didn’t have to pay for healthcare, long term care, could look forward to a decent guaranteed income in retirement, and didn’t have to save or pay for  college or vocational training, but had to pay, say, 5% higher taxes, you’d most likely be better off.  It’s the value you get, not just the taxes you pay. I discussed this quite extensively in this post, and what exactly we get compared to other Western Democracies here.

 

Window offering salary loans

Should you pay off your loan or save?

Posted on by

Yes.

Oh, but you wanted to know, which first? It’s a question that virtually every client asks me, but the answer is (as with so many things) it depends. So, I’m going to suggest you work through this checklist.

You should always pay off the minimum required payment on your loan. If you don’t do that, you’re in a world of hurt and that’s a topic for another time. But I’m going to assume that you can scrape up at least a little more than that and you’re wondering where you should put it. BTW, I’m going to be thinking mostly of education loans, but this advice also applies to credit cards and home mortgages.

  • Do you have an emergency fund?

Without an emergency fund, you’ll never get out of debt. We don’t know what the emergency will be, but we know that they come up fairly regularly. See my post here for more discussion. No emergency fund, no extra loan payoff.

While I like to see an emergency fund of 3-6 months necessary expenses (including loan payments!), it can take people just starting out a couple of years to build to that level. A $1,000 emergency fund is barely survival (one vet bill or car accident deductible can easily wipe that out.) Once you have at least $3-$5,000 in your emergency fund, you can begin to consider other possibilities, but I can’t advise going whole hog until the fund equals at least your health insurance deductible + out of pocket max + rent, utilities, and loan payment for however long it might take you to find a new job.

  • Are you contributing enough to your employer’s retirement fund to get the match?

If your employer matches your contribution, that’s a 100% return on your money up to the amount of the match, e.g., if you contribute 1.5% and they match it at 1.5%. If you contribute 3% and they match 1.5%, that’s a 50% return. (We could keep going—you contribute my recommended minimum of 10%, they match at 3%–30% return). No legit credit card or high interest loan is going to charge you 30% interest. Plus, you get an additional return on this investment and maybe a tax deduction, although I recommend you go with a Roth option if you have it.

Before paying extra on any loans, you should contribute anything you can scrape up until you at least get the full match.

  • Are you saving enough for retirement?

This is actually a different question than the one above. You need to be saving 10% of your income toward retirement, and more if you didn’t start until your mid-30s or later. Until you can put away at least 10%, in most cases I recommend you focus on retirement savings rather than early loan payment.

  • What’s the interest rate on the loan compared to your investment return?

As a rule of thumb, I use 5% as a basic cut point. If you’re a dummy and keep all your money in a savings account, you’re earning .5%-2%, so take it and pay off the loan. But let’s say you have a pretty good investment (maybe, quality mutual funds) and you’re earning an annualized rate of 6-8%.

What’s the interest rate on your loans? Credit cards at 22%? Pay them off as soon as you can. I still recommend that you contribute to the retirement plan first, but maybe only for the minimum match until you get rid of the high interest payments.

Student loans at 6-7.75%? As soon as you’re contributing at least 10% to retirement savings, start attacking these loans. They’re as high or higher than you’re going to earn from investments. Even if your employer only matches at 1.5% and you’re contributing 10%, you’re making 15% immediately + investment gain. However, I can wrap my mind around going after these once you’ve secured the minimum match. It’s not a numbers answer, it’s what will make you feel better.

Student loans at 3.25-4%? I wouldn’t rush to pay these off before term. You’d be better off saving more, even if it isn’t in a retirement account—a quality balanced or target date fund should produce better returns. However, if you have managed to accrue an emergency fund of 6 months fixed expenses, a “goals” fund for whatever your goals are (kid’s college, house down payment, etc.) and you just really want to be debt free, then you should do what will make you feel better. These are pretty far down the totem pole, however.

Mortgage? Mortgage interest rates are really low right now, so in most cases there’s no financial reason to pay them off rather than investing any excess money. There are a couple of exceptions: let’s say you have a big bonus or sudden inheritance, and your family might qualify for college financial aid. You might be better off paying off or paying down the mortgage since the value of the house isn’t counted on the FAFSA (it is on the CSS-Profile), whereas an investment account will be counted as available for paying.  The second situation is retirement: most people I talk to feel better when they own their home outright at retirement, since it’s probably the biggest monthly outlay. Just be sure you  have enough for unexpected repairs before you clean out cash to pay off the mortgage. You don’t want to be back borrowing on a line of credit at a higher rate.

As with all things financial, your mileage may vary. There are a lot of moving parts to consider when contemplating loans, and achieving the right balance isn’t the same for everyone. But that’s why people talk to a financial advisor, no?

Challenging College

Posted on by

For about 10 years now, I’ve invited anyone to tell me about someone they personally knew, whose family did not have financial need, who got a free ride for all 4 years at college. By free ride, I mean all expenses paid, not just free tuition, and not just a one-year fellowship or grant of some kind. Finally, someone has come up with this plum, the result of a Facebook discussion. She sent me this list, which is interesting to review. Upon drilling down, however, many of the awards on this list are—you guessed it—tuition only. She also told me she knew of a student at the University of Delaware (un-named) and that her own child had gone to the University of Central Florida with only $500 in costs of books, and transportation costs to get there. Score! Someone did it!

One of the most generous on the above list appears to be the one at Duke. Drilling into their website, they currently have 122 people (across all four years) who are Robertson Scholars. Duke has a student body of 15,192, which means 0.08% of the student population managed to land this. There are currently 21 freshman Robertson Scholars. Duke received 41,000 applications for the freshman class, giving an individual student a 0.005 chance of landing one of these awards. In other words, slightly better than a snail’s chance in hell.

Here’s another list I found through our old buddy, Google. If you look at these, you’ll see that a lot of them are also tuition-only, or for one year, or you have to be on campus already, or they’re for a very small number (sometimes only 1) student in a huge student body.

You may think this has changed my opinion. You’d be wrong. But I’m now willing to acknowledge that someone, somewhere, has actually gotten a full “free ride”, for college. But don’t plan on it unless you can guarantee your student will meet all the following conditions:

Be willing to go to any school that accepts them

I’ve yet to hear about an Ivy League quality school. Indeed, even needy students that get free tuition from an Ivy often find themselves in deep debt for living expenses, because in many schools aid means loans as well. Getting in at all is a real challenge. The New York Times just published an excellent long-form piece on low-income applicants, and the calculus of admissions. Even though they mention that 89% of students get aid, guess what? That includes loans. It’s a must read for any family going through the application process.

If your student is pragmatic enough to choose schools by aid packages instead of prestige, you may have a chance at an award from a school where the profile of the student body is far less academically qualified than your student. Yes, I believe the student and their motivation is more important than the school, but having been to state schools and big-name schools, and having a daughter who also matriculated through both, I can confidently say there is a difference in quality of instruction and student experience. No one has ever asked me for my grades; I graduated magna cum laude from Northeastern Illinois, and well, I graduated from the University of Chicago—but the later is the only cred that has ever counted for anyone.

Be really, truly extraordinary

That means, be a National Merit Finalist, at least. There were 15,000 last year, of whom 2,500 actually got a lousy $2,500 scholarship—but schools look very favorably on them. Or win the Intel, or a Davidson or some other nationally-ranked competition. Publish a commercially edited book. Be an activist or humanitarian who’s been on national news. I don’t care if your kid tested profoundly gifted or has a perfect SAT—yawn, I know quite a few for whom that didn’t even guarantee admission.

Be absolutely certain to major in a field corporations want

This means engineering or computer science. Ha, ha English or Italian literature majors. Because you’re just not worth paying for if you’re not in an “economically useful” STEM field—what’s a liberal education worth anyway. Let’s all support college as a trade-training mill. And quit your major (engineering is one of the most dropped)? Bye, scholarship.

Be willing to go to a region where no one in their right mind from your area would go

Hello, northern urban person. Enjoy Podunk U. The football games are great. Lotsa school spirit.

Get in.

Any school that has even a slight whiff of full-ride programs will immediately get far more applications, which will mean that your student will have even less chance of actual admission than they might have had before such a “generous” policy was announced. And if you refer to the NYT article above, you’ll see that making the school aware that you need financial aid seriously impacts your chance of admission at all, whatever they’d like you to believe.

It’s not quite as hard as finding a virgin to catch a unicorn. But assuming your kid is smart and will get a “scholarship”–ergo you don’t need to save–is not a financial plan. You’re going to need one.