LifeFocus.com T. Young info@lifefocus.com www.LifeFocus.com
Changing Jobs
March 28, 2010
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Table of Contents Considering a New Employment Opportunity ................................................................................................... 11 What is it? ................................................................................................................................................ 11 Make sure the offer is firm before you evaluate it .................................................................................... 11 Investigate the company .......................................................................................................................... 11 Assessing the job offer .............................................................................................................................12 Consider the financial and emotional impact of taking the job ................................................................. 13 Should you accept the offer? ................................................................................................................... 14 Starting a New Career .......................................................................................................................................15 Introduction .............................................................................................................................................. 15 Assessing your career path ......................................................................................................................15 Plan for the financial impact of starting a new career .............................................................................. 16 Moving Expense Reimbursement as an Employee Benefit .............................................................................. 18 What is it? ................................................................................................................................................ 18 Can You Afford to Have One Spouse Stay at Home? ...................................................................................... 20 Can you afford to have one spouse at home? ......................................................................................... 20 Impact of the loss of second income ........................................................................................................20 Cost of earning the second income ..........................................................................................................20 Hidden benefits ........................................................................................................................................ 21 Long-term cost of not working ..................................................................................................................21 Lifestyle changes ..................................................................................................................................... 21 Employee Benefits ............................................................................................................................................ 23 What is it? ................................................................................................................................................ 23 Welfare benefit funds ............................................................................................................................... 23 Cafeteria plans ......................................................................................................................................... 23 Flexible spending accounts ......................................................................................................................24 Health reimbursement arrangements .......................................................................................................24 Health savings accounts .......................................................................................................................... 24
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Types of employee benefits ..................................................................................................................... 24 General valuation rule and special valuation rules ...................................................................................25 Section 132 benefits ................................................................................................................................ 25 Determining the Need for Disability Income Insurance: How Much Is Enough? ..............................................28 What is it? ................................................................................................................................................ 28 Evaluate your risk .....................................................................................................................................28 Determine your income and expenses .....................................................................................................28 Determine what disability benefits you may receive if you become disabled ...........................................28 Anticipate additional expenses you might incur if you were disabled ...................................................... 29 Calculate your disability income insurance needs ................................................................................... 30 Disability Insurance as an Employee Benefit .................................................................................................... 32 What is it? ................................................................................................................................................ 32 Sick-leave plans ....................................................................................................................................... 32 Short-term disability ................................................................................................................................. 33 Long-term disability .................................................................................................................................. 33 Permanent disability .................................................................................................................................33 Life Insurance as an Employee Benefit .............................................................................................................34 What is it? ................................................................................................................................................ 34 Group term life insurance .........................................................................................................................35 IRS tax treatment of group term life insurance .........................................................................................36 Group whole life insurance .......................................................................................................................36 Group universal life insurance ..................................................................................................................38 Split dollar life insurance .......................................................................................................................... 39 Key employee life insurance .................................................................................................................... 39 Determining the Need for Life Insurance: How Much Is Enough? (General Discussion) ..................................40 What determines your life insurance need? .............................................................................................40 Methods of calculating life insurance need .............................................................................................. 41 Insurance mistakes .................................................................................................................................. 42 Rollovers from Employer-Sponsored Retirement Plans ....................................................................................43
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In general ................................................................................................................................................. 43 Which plans allow rollovers? ....................................................................................................................43 What can be rolled over and what cannot be? .........................................................................................44 Are partial rollovers permitted? ................................................................................................................ 44 Direct rollovers vs. indirect rollovers ........................................................................................................ 44 Conduit IRAs ............................................................................................................................................ 46 Advantages of doing a rollover .................................................................................................................47 Disadvantages of doing a rollover ............................................................................................................47 Is it better to roll over to an IRA or to another employer's plan? .............................................................. 48 How to do a rollover ................................................................................................................................. 49 Income tax consequences of doing a rollover ..........................................................................................50 Estate and gift tax consequences of doing a rollover ...............................................................................50 Qualified plan automatic rollover rule .......................................................................................................50 Dependent Care Assistance: Employee Benefits ............................................................................................. 51 What is it? ................................................................................................................................................ 51 Types of dependent care assistance programs ....................................................................................... 51 Other types of dependent care assistance ...............................................................................................51 Dependent care tax credit ........................................................................................................................ 52 COBRA Coverage: Health Care During Transitional Periods ........................................................................... 53 What is COBRA? ..................................................................................................................................... 53 Are all employers subject to COBRA requirements? ............................................................................... 53 Who is eligible for COBRA benefits? ....................................................................................................... 53 What are the "qualifying events" that trigger COBRA eligibility? ..............................................................53 How long does COBRA coverage continue? ........................................................................................... 54 If you are eligible, how do you decide whether to accept COBRA coverage? ......................................... 54 How do you elect COBRA coverage? ...................................................................................................... 55 How much should you expect to pay for COBRA coverage? ...................................................................55 Will your COBRA coverage be the same insurance you had through your employer? ............................55 What happens when your COBRA coverage expires? ............................................................................ 56
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Home Inventory Checklist ................................................................................................................................. 57 Buying a Home ................................................................................................................................................. 62 How much can you afford? ...................................................................................................................... 62 Mortgage prequalification vs. preapproval ............................................................................................... 62 Should you use a real estate agent or broker? ........................................................................................ 62 Choosing the right home .......................................................................................................................... 63 Making the offer ....................................................................................................................................... 63 Other details .............................................................................................................................................63 The closing ...............................................................................................................................................63 Selling a Home ..................................................................................................................................................65 Timing is everything ................................................................................................................................. 65 Preparing your home for the sale .............................................................................................................65 Setting the right price ............................................................................................................................... 65 Using a broker or doing it yourself ........................................................................................................... 65 Negotiating the sale ................................................................................................................................. 66 The closing ...............................................................................................................................................66 Other things to consider ........................................................................................................................... 66 Investment Planning: The Basics ......................................................................................................................67 Saving versus investing ........................................................................................................................... 67 Why invest? ..............................................................................................................................................67 What is the best way to invest? ................................................................................................................67 Before you start ........................................................................................................................................68 Understand the impact of time ................................................................................................................. 68 Consider working with a financial professional ........................................................................................ 68 Review your progress .............................................................................................................................. 68 Health Insurance Made Simple ......................................................................................................................... 69 Not part of a group? You may have to go it alone ....................................................................................69 Know what's out there ..............................................................................................................................69 Read your contract ...................................................................................................................................70
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The Fundamentals of Disability Insurance ........................................................................................................ 71 Why would you need disability insurance? .............................................................................................. 71 What do you need to know about disability insurance? ........................................................................... 71 Where can you get disability insurance? ..................................................................................................71 Opening the Door to Homeowners Insurance ...................................................................................................73 Why you need it ....................................................................................................................................... 73 Property coverage ....................................................................................................................................73 Liability coverage ..................................................................................................................................... 74 Purchasing homeowners insurance ......................................................................................................... 74 Renters Insurance .............................................................................................................................................75 Property damage coverage ......................................................................................................................75 Replacement cost vs. actual cash value .................................................................................................. 76 Liability coverage ..................................................................................................................................... 76 What does it cost? ....................................................................................................................................76 Retirement Planning: The Basics ......................................................................................................................77 Determine your retirement income needs ................................................................................................ 77 Calculate the gap ..................................................................................................................................... 77 Figure out how much you'll need to save .................................................................................................77 Build your retirement fund: Save, save, save ...........................................................................................78 Understand your investment options ........................................................................................................78 Use the right savings tools ....................................................................................................................... 78 Taking Advantage of Employer-Sponsored Retirement Plans ..........................................................................79 Understand your employer-sponsored plan ............................................................................................. 79 Contribute as much as possible ............................................................................................................... 79 Capture the full employer match .............................................................................................................. 80 Evaluate your investment choices carefully ............................................................................................. 80 Know your options when you leave your employer ..................................................................................80 Deciding What to Do with Your 401(k) Plan When You Change Jobs ..............................................................82 Take the money and run .......................................................................................................................... 82
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Leave the funds where they are ...............................................................................................................82 Transfer the funds directly to your new employer's retirement plan or to an IRA (a direct rollover) ........ 83 Have the distribution check made out to you, then deposit the funds in your new employer's retirement plan or in an IRA (an indirect rollover) ......................................................................................................83 Which option is appropriate? ....................................................................................................................83 Choosing a Beneficiary for Your IRA or 401(k) ................................................................................................. 85 Paying income tax on most retirement distributions .................................................................................85 Naming or changing beneficiaries ............................................................................................................85 Designating primary and secondary beneficiaries ................................................................................... 85 Having multiple beneficiaries ................................................................................................................... 85 Avoiding gaps or naming your estate as a beneficiary .............................................................................86 Naming your spouse as a beneficiary ...................................................................................................... 86 Naming other individuals as beneficiaries ................................................................................................86 Naming a trust as a beneficiary ................................................................................................................87 Naming a charity as a beneficiary ............................................................................................................ 87 Understanding Defined Benefit Plans ............................................................................................................... 88 What are defined benefit plans? .............................................................................................................. 88 How do defined benefit plans work? ........................................................................................................ 88 How are retirement benefits calculated? .................................................................................................88 How will retirement benefits be paid? ...................................................................................................... 88 What are some advantages offered by defined benefit plans? ................................................................ 89 How do defined benefit plans differ from defined contribution plans? ......................................................89 What are cash balance plans? .................................................................................................................89 What you should do now .........................................................................................................................89 Evaluating a Job Offer ...................................................................................................................................... 91 How does the salary offer stack up? ........................................................................................................ 91 Bonuses and other benefits ..................................................................................................................... 91 Personal and professional consequences ............................................................................................... 91 Deciding whether to accept the job offer ..................................................................................................91 Negotiating a better offer ..........................................................................................................................91
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Am I Having Enough Withheld? ........................................................................................................................ 93 Form W-4 helps you determine the proper withholding amount .............................................................. 93 Complete the worksheets to claim the correct number of allowances ..................................................... 93 Check your withholding ............................................................................................................................ 94 Qualifying for the Home Office Deduction .........................................................................................................95 The home office deduction is really a group of deductions ...................................................................... 95 The place of business test is somewhat flexible ...................................................................................... 95 You must also meet the regular and exclusive use test ...........................................................................95 Telecommuters might also qualify for the home office deduction ............................................................ 96 If you qualify for the deduction, you can deduct all direct expenses and part of your indirect expenses .96 Some of your home office expenses may be limited ................................................................................96 Can you spell "audit"? .............................................................................................................................. 96 Having a home office can be a disadvantage when you sell your home ................................................. 97 Comparing Auto Insurance Policies .................................................................................................................. 98 Compare similar policies .......................................................................................................................... 98 Compare premiums ..................................................................................................................................98 Don't stop there--price isn't everything .....................................................................................................98 Why Buy Insurance? ......................................................................................................................................... 100 Do you feel lucky today? The concept of risk ...........................................................................................100 You can limit or eliminate some of your risks with the right type of insurance ......................................... 100 Weigh the price of insurance protection against the potential benefits .................................................... 100 Choosing an Insurance Provider .......................................................................................................................101 What are your options? ............................................................................................................................ 101 What is an insurance company's rating? ................................................................................................. 101 What level of service do you want? ..........................................................................................................101 How much experience does your agent or broker have? .........................................................................101 Are you getting the lowest-cost insurance? ............................................................................................. 102 Do your insurance needs require specialists? ......................................................................................... 102 Understanding Managed Care .......................................................................................................................... 103
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How do managed care plans work? .........................................................................................................103 Health maintenance organizations ...........................................................................................................103 Preferred provider organizations ..............................................................................................................104 Point of service plans ............................................................................................................................... 104 How do I select the plan that's right for me? ............................................................................................ 104 What to ask before you buy ..................................................................................................................... 105 Comparing Health Insurance Plans .................................................................................................................. 106 Compare premiums ..................................................................................................................................106 Compare deductibles, co-payments, and coinsurance ............................................................................ 106 Compare coverage and features ..............................................................................................................107 Compare insurance companies ............................................................................................................... 107 Health Insurance and COBRA: Sometimes You Can Take It with You ............................................................ 109 The Consolidated Omnibus Budget Reconciliation Act of 1986 (COBRA) may help you continue your health insurance coverage for a time ....................................................................................................... 109 The Health Insurance Portability and Accountability Act of 1996 expanded COBRA .............................. 110 The American Recovery and Reinvestment Act of 2009 provides Cobra subsidy ...................................110 My employer wants me to sign a noncompetition agreement. What is it? Is it legally binding? ........................111 If I work at home occasionally, am I entitled to a home office deduction? ........................................................ 112 Can I get disability insurance if I'm self-employed? .......................................................................................... 113 If I leave my company, can I take my life insurance policy with me? ................................................................ 114 If I leave my job, will I lose my employer-sponsored health insurance? ........................................................... 115 How can I get affordable health insurance if I'm self-employed? ......................................................................116 If I have long-term disability insurance coverage through my employer, do I need my own policy, too? ..........117 Should I contribute to my 401(k) plan at work? .................................................................................................118 How can I plan for retirement if my employer doesn't offer retirement benefits? .............................................. 119 Can I still have a traditional IRA if I contribute to my 401(k) plan at work? ....................................................... 120 What is vesting? ................................................................................................................................................121 My company has a profit-sharing plan. How do these plans work? .................................................................. 122 I teach at a school that offers a 403(b) plan. Is this plan a good way to save for retirement? .......................... 123 Does the federal government insure pension benefits? ....................................................................................124
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Will my group health insurance cover my partner, even though we're not married? ........................................ 125 After my child is born, doesn't the law say I'm entitled to three months of leave? ............................................ 126 Should my spouse and I integrate our health insurance benefits? ................................................................... 127 Do I have to pay U.S. taxes when I work abroad? ............................................................................................ 128 If I move, do I need to get new homeowners insurance, or can I transfer my existing policy? ......................... 129 If my employer goes out of business and discontinues its health plan, am I still eligible for COBRA benefits? 130 I'll be changing jobs, and I'm pregnant. Will I qualify for health insurance with my new employer? ................. 131 A cell phone and laptop were inside my stolen briefcase. Will my company's insurance cover the loss? ........ 132 I use my laptop computer for my home business. Is it covered under my homeowners policy? ...................... 133 I'm looking for a job. How can I tell if an employer is offering a good insurance benefit package? .................. 134 Do long-term disability insurance premiums depend on the nature of my job? ................................................ 135 I drive my own car on company business. Whose insurance pays for damages if I get into an accident? .......136
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Considering a New Employment Opportunity What is it? In the past, workers stayed with the same company for years and years, working their way up in the company. However, times have changed. Businesses facing hard economic times restructure, forcing employees to look for new jobs. It's also become common for workers to change jobs several times throughout their careers as they seek higher salaries and new professional opportunities. Whether you're forced to seek a new employment opportunity or are willingly doing so, you'll eventually be faced with an important decision: When you're offered a job, should you take it?
Make sure the offer is firm before you evaluate it Although it may be useful to explore an employment opportunity, don't waste time dreaming about your new position until you have gone through the interview process, gathered data on the company, and received a firm offer of employment. Only then should you take time to compare the offer you've received against the job you already have or a job offer you've received from another company. You'll have the facts, and you can make a more informed, unemotional decision.
Investigate the company Where to look for information Gather some data that can help you evaluate what kind of future you can look forward to with the company you're investigating. It's a good idea to do some research on the company before you have an interview so you'll know what questions to ask and be able to fairly judge the answers you receive. There are many ways to get background information on a company. Here are a few: • Check your local public or university library--Many references are available through public or university libraries that can help you obtain information about a company or an occupation. Following are references that can give you general information about the company (including some financial data): Dun & Bradstreet's Million Dollar Directory • Standard & Poor's Register of Corporations • Ward's Business Directory • Thomas' Register of American Manufacturers • You should also look for information on a business in consumer or trade magazines and/or newspapers. Magazines and newspapers may contain up-to-date information about the company's future, its products and services, and its successes and failures. You may also be able to find out something about the company's key executives and philosophy. Rather than check the magazines individually, check one or more of the following indexes: Business Periodicals Index • Readers' Guide to Periodical Literature • Wall Street Journal Index • Look for information via the Internet--If you have Internet access, you can use it to find information on a company without leaving your home or office. Many excellent resources exist, including the following: American City Business Journals, www.bizjournals.com --This site will search the archives of many weekly U.S. business journals, looking for the name of the company or organization you are researching. As a result, you may be able to access articles, press releases, and snippets of
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information about the company. • Dun & Bradstreet, www.dnb.com --At the Dun & Bradstreet site, you can find information (including financial) about millions of companies. If you want a detailed report, however, you'll have to pay. You may want to do this once you are seriously considering a job offer. Tip: Whatever research method you choose, it's often easier to find information about public rather than private companies and well-established companies rather than new ones. To get hard-to-find information, you may want to contact the public relations liaison in the company and ask for general information and/or an annual report. You may also be able to get information by asking individuals who do business with the company or who have worked there in the past or by asking about the company at your local chamber of commerce. What kind of information to look for As you research a company or organization, try to find answers to some or all of the following questions: • How strong is the company financially? • Will the company be taken over by another in the near future? • Is the company planning to expand? • How many employees does the company have? • How long has the company been in business? • Is the company privately or publicly held and by whom? • What successes and failures has the company experienced? • What is the company's philosophy? • Is the company a part of a growing industry? Answering these questions can enable you to determine whether the company or organization is a good match for you and help you decide whether the company has a strong track record and an exciting future. Supplement the information you get via your own research by asking questions during your interview to fill in the gaps or to expand your understanding of the company. If possible, try to talk to one or more employees who currently work there to get a handle on the company environment and future.
Assessing the job offer Salary and bonuses You probably have some idea of what you want to earn, and the salary offered by the company you are evaluating may or may not match your expectations. Obviously, if the company offers you more than you expect, you have no problem. But what if the company offers you less? First, find out how frequently you can expect a pay review and/or a raise, and try to determine how much the pay increase is likely to be and on what is it based (e.g., merit, cost of living). In general, you should expect the company to increase your salary at least annually. Next, ask about bonuses, commissions, and profit sharing that can add a lot to your income. To fully evaluate the salary you're being offered, try to find out about the average pay for that job in your area. You can do this by talking to others who hold similar jobs, by calling a recruiter (i.e., headhunter), or by doing library or Internet research. The following resources can help you: • Bureau of Labor Statistics, Office of Compensation and Working Conditions Phone: (202) 606-6225 Internet: www.bls.gov
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• Bureau of Labor Statistics, Office of Employment and Unemployment Statistics Phone: (202) 606-6400 • JobStar Salary Info Internet: www.jobstar.org Many salary surveys are available on the Internet that you can use to research salaries in your profession. Benefits Never overlook the value of good employee benefits. Benefits can add thousands of dollars to your base pay, and some benefits (including group health insurance and disability insurance) can be difficult to obtain privately at a reasonable price. Although many companies offer them, the type and quality of benefits vary widely from company to company. Find out what benefits the company offers and how much of the cost the employee must bear. Future opportunities with the company You'll want to find out what opportunities exist for you to move up in the company. This includes determining what the company's goals are and the type of employee the company values. Will you get to use skills you already have? Will you need more training and education? Is your philosophy regarding work in line with the company's? (If not, you may have trouble getting promoted or may end up leaving the company.) In addition, make sure the company has a future at all. If it's a new company, it may be at risk for folding in the near or distant future, so take time to evaluate the company's structure and plans and, if possible, to find out some information about the financial soundness of the organization. If the company is well established, determine if it is in a growth industry and try to find out (possibly by checking annual reports or articles about the company) what plans it has for the future. Working environment You may be getting paid well and the company may offer great benefits, but you still may not be happy working there if the working environment does not suit you. To evaluate the working environment, pay attention if you get a chance to tour the company's offices. Do employees seem extremely busy? Do they look happy? Bored? Is the office space cold or inviting? Do people seem relaxed and friendly? Tense? In addition, try to meet the individuals you will be working with closely. Do they seem like people you would be comfortable working with? Do you sense any hostility? Do they say they like their jobs? Finally, consider how much time you must spend at your job. Are the hours suitable? Will you work a lot of overtime? Will you have to punch a clock, or is the scheduling somewhat flexible?
Consider the financial and emotional impact of taking the job Professional and personal consequences To evaluate the professional and personal consequences of taking the job, consider the following questions: • How will taking this job positively or negatively affect your finances? Consider increases or decreases in salary, cost and availability of benefits, and related costs of taking this job, including relocation, spouse potentially losing his or her job, and the cost of transportation. • How will this job indirectly affect your finances? For instance, will taking this job lead to better opportunities in the future? Does taking this job mean taking on additional financial risk (e.g., if the job doesn't work out or the company downsizes or goes out of business)? • Will taking this job make you happier? Aside from the financial implications of accepting the job, consider the emotional consequences, both personal and professional. Will you be happier than you are now? Will your family be happy with your choice? Will you work longer hours or have more time to relax? Will you be better respected or be able to expand your professional horizons?
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Ramifications of golden handcuffs Sometimes employers use nonqualified deferred compensation plans as golden handcuffs to make sure that key employees stay with the company for a specified period of time. If you are a highly compensated or key employee and participate in such a plan, you may lose certain benefits if you leave the company prematurely under the terms of the plan. Since your monetary loss may be significant, consider this before changing jobs.
Should you accept the offer? Despite the time and energy you spend researching and evaluating, the hardest part is yet to come: deciding whether to accept the offer. Begin by assembling the facts, data, and information you have gathered. Think back to the interview, paying close attention to your feelings and intuition about the company and/or the position. Consider not only the salary offered to you but also what future you can expect with the company, and think about whether you believe you would be happy and excited working there. If you're having trouble making a decision, try writing down the pros and cons of accepting the job; it may then become clear whether the positives outweigh the negatives. Sometimes, you may really want the job, but you're unhappy with the salary or the benefits offered to you. If so, it's time for negotiation. Making the job offer acceptable through negotiation Some people are afraid to negotiate a job offer because they really want the job and are afraid that the company will rescind the offer or respond badly if they attempt to negotiate. However, if you truly want the job but find the salary, benefits, or hours unacceptable, it's better to face rejection than turn down what otherwise would be a great opportunity. The first step in negotiating is to tell your potential employer what it is that you want. Make it clear that you are immediately willing and able to accept the offer if this aspect of the offer could be changed. Be specific. Name the amount of money it would take or the exact hours you would like to work. However, don't threaten the company, and if you really want the job, don't imply that you'll walk if the offer remains unacceptable. Stay neutral. What will happen? The company may refuse your request, either because company policy does not allow negotiation or because the company is not willing to move from its original offer. Or, the company may make you a second offer, perhaps offering you more money but not as much as you requested or offering to make up to you in benefits what they can't give you in salary. In either case, the ball is back in your court. If the offer is still unacceptable, you may have to turn the job down. However, if the offer is better but not exactly what you want, ask for a day or two to think about it. It's also possible that the company will accept your counteroffer outright, especially if you have unique talents or experience. At this point, there isn't much else to say except, "Thank you, I look forward to working here."
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Starting a New Career Introduction Downsizing is one reason you may be seeking a new career. Reaching a professional plateau is another. The fact is, many people change careers, sometimes more than once. With proper planning, you can start a fulfilling new career without sacrificing your financial security.
Assessing your career path Consider working with a professional career counselor Working with a career counselor can ensure that you receive career-planning advice tailored to your individual needs and goals. Professional career counselors can help you explore your abilities and interests, clarify your life and career goals, help you decide whether you should find a new career, and teach you job-hunting skills. You should look for a career counselor who promises you more than a great job or fast results; although credentials and services offered vary, the counselor you choose should have extensive training, education, and experience. Professional counselors are often licensed by state counselor licensing boards. They may also be certified by the National Board for Certified Counselors and belong to a national or state career counseling professional association. To become a National Certified Career Counselor, an individual must have a graduate degree in counseling from a regionally accredited institution, have at least three years of full-time career development work experience, and have completed a certification exam. To find a qualified career counselor, ask friends and family for recommendations and check with colleges and universities in your neighborhood. You can also check your phone directory or contact your state employment service. The National Board for Certified Counselors, which can be reached at (800) 398-5389, can also provide you with a list of nationally certified career counselors in your state. Tip: Professional career counselors should follow the ethical guidelines established by organizations such as the American Counseling Association or the National Career Development Association. They should not charge exorbitant fees or make exaggerated promises. Before signing a contract with a career counselor, make sure you understand what services you will receive for your money. Assess your skills, talents, interests, and goals Many resources are available to help you assess your skills, talents, interests, and goals. If you decide not to work with a professional career counselor, you can explore your career options with the help of a book or an Internet site devoted to career issues. Such resources include tests and exercises that you can complete that will help you evaluate what you like to do best and what you are good at doing. You can then use this information to determine what career is right for you. Research potential careers Before deciding to switch careers, do your homework. What sounds like an ideal career for you may not be. For instance, you may love the idea of teaching but hate the idea of taking a big pay cut to become a teacher. Or, the idea of making a lot of money as an investment banker might appeal to you, but you may object to working long hours. When researching a new career, answer the following questions: • Will this career be personally gratifying? • How much money can I expect to make initially? In 5 years? In 10 years? • Will I be able to find a job where I currently live, or will I have to relocate?
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• Will I need to go back to school? • What is the occupational outlook for this profession? To find this information, you may have to consult several sources. If you have not yet decided on a career, check the employment section of your local newspaper for ideas on jobs available. If possible, talk to others who work in the career field you are considering and find out how satisfied they are with their career choice. They will be able to give you advice regarding the profession and information regarding the pros and cons of pursuing a career in this field. You can also find books on careers in your public library or local bookstore and locate a lot of information about careers on-line, including information on how much money you can expect to make. To find out what the occupational outlook is for the career you're considering, consult the Occupational Outlook Handbook, which is the official handbook of the Bureau of Labor Statistics. It is available at your local library or can be viewed on-line at http://stats.bls.gov/oco/. Another Internet resource that can help you evaluate career fields is America's Career InfoNet ( www.acinet.org). Decide whether you should start a new career Once you've researched career options available to you, decide whether you should start a new career. First, make sure that you have thoroughly explored ways to make your current career more satisfying. For instance, moving to a different department within your company, taking professional development courses, and/or getting a promotion may change the way you feel about your career. Second, after exploring your interests, you may also discover that changing your career is not the best way to make your life more meaningful. Instead, you may decide to change your life outside of work, volunteer, turn a hobby into a part-time business, or take classes to develop new skills. On the other hand, you may decide that it's time to change careers. Perhaps you're just not happy anymore working in your current field, and there's no way to fix it. Or, you may be facing early retirement and you see this as an opportunity to move into a new career field. You've done your research, and you're excited about the chance to put your talents and abilities to work in a new career.
Plan for the financial impact of starting a new career Planning ahead can minimize financial losses The best way to plan for the financial impact of starting a new career is to plan early. Don't quit your present job until you've determined how you will survive financially during your career transition. In particular, you should undertake the following actions: • Determine how changing your career will affect your income and expenses. • Save up an emergency cash reserve. • Reduce any consumer debt you have by paying off credit cards and loans. • Determine whether you can afford to be out of work temporarily in the event that you can't find a job in your new career field right away or if you go back to school. • Figure out how you will pay for your education if you decide to return to school. You may be eligible for grants and financial aid. In addition, if your income is within certain limits, you may be eligible for a Lifetime Learning tax credit equal to 20 percent of your qualified education-related expenses up to $10,000. You may also be able to deduct interest paid on qualified higher education loans. Changing careers means re-evaluating your insurance coverage Consider how starting a new career can affect your insurance coverage. For instance, you will likely lose your employer-sponsored health insurance coverage when you resign from your present job. Although you may be able to continue coverage under the Consolidated Omnibus Budget Reconciliation Act (COBRA) for 18 months, it can be expensive to do so. If you have a disability insurance policy, consider the impact that changing your
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career may have. Your ability to get disability coverage and the premium you pay depend, in part, on your occupation. So, if you switch careers, your disability insurance coverage may be affected. Changing careers may affect your retirement nest egg Changing careers may affect your retirement nest egg in several ways. First, if you leave your current job before you have completed a certain number of years of service with the company, you may not be vested in the company's pension plan. If you are not vested, you will own none of, or only a portion of, the employer's contributions to the plan. Second, if you leave the company and don't properly roll over your retirement funds into an IRA or another corporate plan in a timely manner, then you may have to pay a 10 percent nondeductible penalty tax and 20 percent in federal income tax withholding. The funds that are not rolled over will also be included in your income for tax purposes. Finally, you may ultimately lose pension benefits because many plans calculate defined benefits using the employee's highest earnings years. This means that your pension at age 65 from at least one employer will be based on a salary that you earned years ago when you probably were not in your peak earnings years. Tip: Sometimes employers use nonqualified deferred compensation plans as golden handcuffs to make sure that key employees stay with the company for a specified period of time. If you are a highly compensated or key employee and participate in such a plan, you may lose certain benefits if you leave the company prematurely under the terms of the plan. Since your monetary loss may be significant, consider this before changing careers.
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Moving Expense Reimbursement as an Employee Benefit What is it? If certain requirements are met, you may be able to exclude the value of any employer-provided, qualified moving expense reimbursements from your gross income (exceptions apply to members of the armed forces). A qualified moving expense reimbursement is any amount that you receive from your employer as payment for or reimbursement of expenses that would have been deductible as moving expenses if you had directly paid or incurred them. Deductible moving expenses Deductible moving expenses include the moving of household goods and personal effects from the former home to the new home, and traveling from the former home to the new home. Tip: Deductible moving expenses do not include expenses you incur selling, buying, or looking for a home. Requirements for deductibility The following requirements must be met in order for your moving expenses to be deductible (or qualify for the exclusion from income if reimbursed by your employer): • You must incur the expenses in connection with the start of work at a new principal place of employment. • The distance between your new principal place of employment and your former residence must be at least 50 miles greater than the distance from your former place of employment to your former residence. If you go to work full time for the first time, your place of work must be at least 50 miles from your former home to meet the distance test. If you go back to full-time work after a substantial period of part-time work or unemployment, your place of work must also be at least 50 miles from your former home. • You are a full-time employee in the general location of your new place of employment for at least 39 weeks of the 12-month period immediately following your arrival at your new location. If you are self-employed, you must be employed or performing services at the new location for at least 78 weeks out of 24 months immediately following the move and at least 39 weeks of the first 12 months after the move. Tip: You can still deduct your moving expenses even if you have not yet met the 39-week or 78-week time test by the date your tax return is due, as long as you expect to meet the time test in the following tax year. Tip: If you are reimbursed by your employer for your expenses, you can exclude the reimbursement from income, but you cannot deduct your otherwise deductible moving expenses (to the extent that they were reimbursed). Tip: Your employer can reimburse you either directly or indirectly for qualified moving expenses. Tip: If your employer does not reimburse you for qualified moving expenses, you can claim them as a deduction on your individual tax return. Tip: There is no dollar limit on the moving expense deduction, but the expenses must be reasonable.
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For more information, see our separate topic discussion, Moving Expenses.
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Can You Afford to Have One Spouse Stay at Home? Can you afford to have one spouse at home? For many families, this is an important question. Unfortunately, most dual income couples feel that both of them have to work in order to meet their expenses and maintain their lifestyle. If you evaluate your situation financially--factoring in the cost of working and the amount of taxes that you pay while both of you are working--you may find that you have a choice. One of you may be able to stay at home without seriously affecting your cash flow. This evaluation will at least enable you to make a more informed decision. When one spouse stays at home, you will not have to incur several work-related expenses, especially if you have young children and are paying for child care. Most people are aware of child-care expenses because they are so obvious, but you need to take into account many other hidden expenses when you consider staying home. In many cases, not only do you save money by not incurring those expenses, but you may be able to save a great deal of money by making some small changes in your lifestyle. Here is what you need to consider: • Impact of the loss of second income • Cost of earning the second income • Hidden benefits • Long-term cost of not working • Lifestyle changes
Impact of the loss of second income Frequently, the real impact of the second income is not as much as the income itself. In fact, it can be much less. It is easy to think that if you are making $70,000 a year, your loss would be $70,000. However, if you calculate the taxes, the extra cost of working, and other expenses, the real impact may be far less, depending upon where and how you live.
Cost of earning the second income Here is a list of some typical expenses that you need to consider before making that decision. Look at your spending diary and identify how many expenses are related to both of you working. Make a list of how much you can save by not incurring those expenses. Child care For most working couples with young children, child care is the expense with the most impact on your decision. Depending upon how young your children are, the kind of child-care arrangement you prefer, and the number of children, the cost of child care will vary. When you calculate child-care expenses, make sure that you add related expenses, such as driving to and from the child-care center or any payroll taxes that you may be paying for your nanny. Commuting The reduced commuting expenses also add up, not only in terms of gasoline and oil changes, but also wear and tear on your car and auto insurance.
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Lunches out When you are working outside the home, the seemingly small expense of lunches adds up. When considering whether you or your spouse should stay home, you should take into account the amount spent on office lunches. Clothing Depending upon where you both work, you may be spending a sizable portion of your income to buy work clothes. When one of you stops working, you will not be spending this money on clothes. Dry cleaning The same holds true for your dry cleaning expenses. Add them up to find out how much you would save if dry cleaning became unnecessary for one of you. Take-out dinners With two of you working, you are probably spending a sizable amount of money on take-out dinners. If you are able to have your dinners at home, you reduce the need for expensive take-out meals. You may also save on groceries, since you will have more time to shop carefully, and may find many items on sale. Housecleaning services When both of you work, you may be paying to have your house cleaned. Add up those expenses.
Hidden benefits There may be some hidden savings when you switch from a two-income to a one-income household. For example, you may be able to save on taxes. Often, your joint income puts you into a higher tax bracket and you wind up paying a good portion of one spouse's income on taxes. If you are filing a joint return, calculate the impact of the second income on your taxes.
Long-term cost of not working Although the picture in the short-term may look promising for one spouse to stay at home, you need to consider some long-term implications of that decision. Consider the long-term effect on your 401(k) plan. If you or your spouse remain in the workforce, 401(k) plans not only give you an immediate tax break, but also grow to make a larger retirement nest egg. Your 401(k) is funded more when you are working because you are contributing (and your employer may also make contributions). Consider when, if at all, you or your spouse is planning to reenter the workforce and the effect on future earnings. When one of you reenters the workforce, your earning power is likely to be diminished. Some individuals who reenter the workforce find that they are not getting paid their former salary while doing a similar job. Also, you may have to climb the career ladder once again since there may not be the opportunity to start where you left off. Remember that now you are more exposed to the risks of the economy because you are dependent on one income. You are more vulnerable to economic downturns and company downsizing. So, if the working spouse loses a job, it will have a more devastating effect on the family's finances. Keep in mind that as your children grow, your child-care expenses--one of the biggest expenses in a young family's budget--will decrease considerably. As a result, you will save less from having one of you stay home.
Lifestyle changes
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When one spouse stays home, you may need to make some lifestyle changes. In fact, making some changes in your present lifestyle might allow one of you to stay home. Here is how you can do it. Make two lists: need list and want list In your need list, include all the bills that you have to pay, whether you stay home or work outside. In your want list, include entertainment, travel, music and dance lessons, books, toys, and gifts. For many, the need list is probably all you can handle with one income. Don't panic. You can take steps to have at least some items from your want list. Reduce expenses You can make both big and small changes that will reduce your expenses. For more information and specific ideas, see How to Cut Costs. Remember that little things add up By making small changes, such as turning off lights when not needed or drying clothes on racks instead of using the dryer, you not only save money, but also instill in your children the value of such things. Make things instead of buying them Frequently, your creativity gets a big boost when you have a little more time to yourself. You can save a considerable amount of money by making small things such as birthday cards and holiday gifts. The added advantage can be the personalized attention given to each item, and the feeling of joy when you have created something yourself. Find alternatives If you work out at a health club, find out if you can join a nearby YMCA or a less expensive health club instead. Instead of renting a hotel room at a fancy resort, find out if you can rent a cabin in a national park. Find out if you can make money working at home You may not realize that you can also make money by staying home. Find alternative employment such as a part-time, evening, temporary, or a work-at-home job to fill the shortage. Turn your hobby into a part-time business If you like to write, find out if you can write for your local newspaper. This will not only give you extra income, but also some recognition, and may be a way to voice your opinions. For other ideas, see How to Increase Cash Flow. Plan ahead Do not quit your job without planning. If you plan ahead, you can pay off a loan to save monthly installments, secure a part-time or at-home job, or start implementing other lifestyle changes to reduce the impact when your second income stops.
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Employee Benefits What is it? Today, a competitive employee benefit package can play an important role in an individual's employment decision making. An attractive employee benefit package will not only assist you in obtaining services that you might not otherwise be able to afford, but it might also be able to provide you with significant tax benefits. Caution: This is a highly complex subject and this discussion is intended to provide you with only a general understanding.
Welfare benefit funds A welfare benefit fund is a method of funding a welfare benefit plan. A welfare benefit plan provides benefits for sickness, accident, disability, death, unemployment, vacation, apprenticeship or other training programs, day care centers, scholarship funds, prepaid legal services, or holiday and severance pay plans. A welfare benefit fund allows your employer to prefund your welfare benefit plan by making deposits into the fund and using those deposits to purchase the welfare benefits at a later date. There are two types of welfare benefit funds: the welfare benefit trust, also known as a taxable trust, and the voluntary employees' beneficiary association (VEBA), also known as a nontaxable trust. Regardless of the tax status of the employer's welfare benefit fund (i.e., whether a taxable trust or nontaxable trust), you as an employee will be subject to tax with respect to any welfare benefits when the benefit is actually paid or permitted by the trust, or you may exclude the welfare benefit you receive from the trust from your income for tax purposes if and to the extent there is a statutory exclusion for an employer-paid benefit (e.g., the exclusion for health insurance paid for by the employer).
Cafeteria plans In general A cafeteria plan allows you to choose from an array of benefits and customize a benefits package based on your individual needs. You can purchase benefits from the plan by using either a flexible spending account or a dollar amount that your employer previously allocates to you. Cafeteria plan benefits are not included in your gross income as wages. Taxable (cash) versus nontaxable (qualified) benefits A cafeteria plan allows you to choose from among both taxable (cash) and nontaxable (qualified) benefits. Taxable benefits include not only cash, but also any benefits that you purchase with after-tax dollars or the benefit value that your employer would normally treat as taxable compensation. Taxable benefits can include cash, car or homeowners insurance, and group legal services. Nontaxable benefits are not included in your gross income. Nontaxable benefits can include health insurance, group term life insurance, and dependent care assistance. Methods of funding cafeteria plans There are numerous ways for your employer to fund your cafeteria plan. A flexible spending account allows you to contribute pretax dollars to an account that your employer can later use to reimburse you for qualified expenses. A premium-only cafeteria plan allows your employer to pay for a certain amount of your health coverage while you pay the remaining difference with pretax dollars through a salary reduction program. An add-on cafeteria plan provides you with basic low-level benefits and allows you to supplement or add on to those benefits. Under an opt-up/opt-down cafeteria plan, your employer provides both high- and low-level benefits and allows you to either decrease or increase your level of benefits. A core plus option plan allows you to supplement
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your benefits beyond the core benefits that your employer provides to you under the plan. Under a modular cafeteria plan, your employer combines certain benefits into packages and allows you to choose the benefit package that suits your particular needs. Under a full-flex cafeteria plan, your employer places a price on benefits and then gives you a certain number of credits with which to purchase the benefits.
Flexible spending accounts A flexible spending account (FSA) allows you to contribute pretax dollars to an account that your employer can later use to reimburse you for qualified expenses. Since contributions are made before taxes, you save Social Security taxes, federal income tax, and, in most cases, state and local income taxes on the money you put into the account. The pretax dollars that you use to fund the account usually come from a salary reduction program.
Health reimbursement arrangements A health reimbursement arrangement (HRA) is an arrangement that allows you to pay for medical costs using a pool of employer-provided funds. An employer establishes an HRA and contributes funds to it. You cannot make contributions. The HRA reimburses you for qualified medical expenses you've incurred, up to a maximum amount per coverage period. Reimbursements you receive are not taxable income. Unlike flexible spending accounts, HRAs allow employees to carry over unused funds from year to year.
Health savings accounts If you are covered by a qualified high-deductible health plan at work, your employer may offer you the opportunity to participate in a health savings account (HSA). An HSA is a tax-advantaged savings account with funds earmarked for medical expenses. Amounts contributed to the HSA belong to you and are completely portable, remaining with you if you switch jobs, become unemployed, or retire. Amounts left in your account at your death may be bequeathed to a spouse or other beneficiary. Funds not spent stays in the account from year to year, earning interest tax free, and may be invested in stocks or mutual funds. Withdrawals are tax free if used for qualified medical expenses. If you use the money for non-health expenditures, you pay tax on it plus a 10% penalty. After age 65, a withdrawal used for a non-health purpose will be taxed, but not penalized. Contributions you make may be either pretax if offered through a cafeteria plan or tax deductible (even if you do not itemize).
Types of employee benefits In general Employee benefits can come in the form of either cash or noncash benefits, also known as fringe benefits. Both types of benefits can help you to meet needs that otherwise could not be met. In addition, certain benefits are excludable from your gross income. Cash compensation Although cash compensation is not traditionally thought of as an employee benefit, it plays a major role in your overall benefit package. Some employee benefits are valued as to their cash equivalency, and others have contribution schedules that are based upon your rate of pay. Noncash/fringe benefits Noncash benefits, also known as fringe benefits, can include the use of a company car, parking, moving expense reimbursement, life, health, and disability insurance, dependent care assistance, adoption assistance, and tuition reimbursement. Unless the fringe benefit that your employer provides to you falls within certain exceptions, your employer must include the value of the fringe benefit in your gross income as wages. Your employer can determine the value of the fringe benefit by using either the general valuation rule or one of the special valuation rules.
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General valuation rule and special valuation rules General valuation rule Under the general valuation rule, your employer must include, in your wages, any amount over the fair market value of a fringe benefit when it is more than: • Any amount you paid for the benefit, or • Any amount the law excludes from income The fair market value of a fringe benefit is the amount you would have to pay a third party to obtain the fringe benefit. Tip: When your employer provides you with a company car, the fair market value of the car is the amount you would have to pay a third party to lease the same or a similar car in the same or similar circumstances. Special valuation rules Special valuation rules include the annual lease value rule, the vehicle cents-per-mile rule, the commuting rule, and the employer-operated eating facility rule. Your employer can only use the special valuation rules if certain prerequisites are met. Annual lease value rule If your employer provides you with a company car for an entire year, he or she can use the car's annual lease value in order to determine its value. If your employer provides you with a car for less than one year, the value of the car is either that of a prorated annual lease or a daily lease value. If you use the car for business, you may be able to exclude part of the car's value as a working condition fringe benefit. Vehicle cents-per-mile rule Another way for your employer to determine the value of a company car is to use the vehicle cents-per-mile rule. Under the vehicle cents-per-mile rule, your employer values the car by using a standard mileage rate and multiplying it by the total miles that you drive for personal reasons. Your employer can use the vehicle cents-per-mile rule if your employer provides you with a vehicle that he or she would reasonably expect you to use in your employer's business or if the vehicle meets certain mileage requirements. Commuting rule The commuting rule values the use of a company car at $1.50 per one-way commute for each employee who commutes in the car. Employer-operated eating facility rule Under the employer-operated eating facility rule, an employer must include a portion of the total meal value in your gross income. The total meal value is calculated as 150 percent of the direct operating costs of the eating facility, which is considered to be the value of all meals the facility provides to employees during the year.
Section 132 benefits
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In general While your employer must include the value of most fringe benefits in your gross income, there are certain noncash/fringe benefits that the IRS specifically allows your employer to exclude from your wages. These fringe benefits are found in Section 132 of the Internal Revenue Code and include: • No additional cost service • Qualified employee discount • Working condition fringe • De minimis (minimal) fringe • Qualified transportation fringe • Qualified moving expense reimbursement • Certain athletic facilities No additional cost service No additional cost service is service your employer provides you at no substantial additional cost to him or her. No additional cost services are usually found in excess capacity services, such as airlines, trains, buses, and cruises. For example, an airline allows its employees to fly free on those planes that have empty seats. The airline is providing a no additional cost fringe benefit to its employees. By allowing its employees to fly free of charge on planes with empty seats, the airline provides its employees with a service that they sell to the general public, at no additional cost to the airline. The no additional cost service that your employer provides is not includable in your gross income if your employer does not incur any substantial costs in providing that service to you. Qualified employee discount A qualified employee discount is a price reduction that your employer gives you on the same property or services that your employer offers to his or her customers. Tip: The no additional cost service and qualified employee discount benefits that your employer provides to you must be for property or services that he or she offers for sale to customers in the ordinary course of business in which you perform substantial services. Working condition fringe Working condition fringe benefits include any property or service that your employer provides whereby if you paid for the property or service, you could deduct it as a business expense. De minimis (minimal) fringe A de minimis fringe benefit includes any property or service that your employer provides that has so small a value that it would be unreasonable or administratively impracticable to account for it. De minimis fringe benefits include the use of a secretary to type a personal letter, occasional personal use of a copying machine, and occasional tickets to entertainment events. Example(s): Acme Corp. allows its employees to use the photocopy machine for personal use. Acme estimates that the photocopy machines are used for company business 95 percent of the time and that employees use the photocopy machines for personal use 5 percent of the time. Since
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the employees' personal use of the photocopy machine is minimal, it would qualify as a de minimis fringe benefit. Qualified transportation benefits Qualified transportation benefits are benefits that your employer provides you with in the form of transportation in a commuter vehicle, bicycle expenses, a transit pass, or qualified parking. Qualified transportation benefits are, within certain limits, excludable from your gross income. The value of a qualified transportation benefit is based on the benefit's fair market value. Qualified moving expense reimbursement Qualified moving expense reimbursements are amounts that your employer gives to you, directly or indirectly, as payment for or reimbursement of expenses that would be deductible as moving expenses if you paid for or incurred them yourself. Deductible moving expenses include the moving of household goods and personal effects from the former home to the new home, and traveling from the former home to the new home if such move is in connection with the start of work at a new principal place of employment. Tip: There is no dollar limit on the exclusion for qualified moving expense reimbursements. However, the expenses must be reasonable and substantiated. Athletic facilities Athletic facilities include any on-premises gym or other facility that your employer provides to employees. The exclusion does not apply if your employer makes access to the athletic facility available to the general public.
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Determining the Need for Disability Income Insurance: How Much Is Enough? What is it? Most people believe that they are adequately insured against disability because they think they have coverage through their employer or through the government. That's probably why 80 percent of Americans don't own private disability income insurance coverage. However, assuming that you're covered against disability through your employer or through the government is a mistake. Although 50 percent of employers cover short-term disability, only 40 percent cover long-term disability. Government programs, such as Social Security and workers' compensation, may pay you benefits, but you qualify for benefits only if you meet a strict definition of disability. Example(s): Chris worked for a major electronics company and was severely injured in a motorcycle accident on his way to work. He assumed that he was covered for disability under workers' compensation, but his employer told him that because his accident wasn't directly work-related, he wouldn't be eligible for workers' compensation disability benefits. His employer did tell him, though, that he was covered for short-term disability under the employer's group plan, and he received those benefits for a year. At the end of that year, however, his benefits expired. Unfortunately, Chris still was not able to work and was left without income to pay his mortgage or his bills.
Evaluate your risk Statistically, your risk of being disabled is great. It is estimated that every year, one in eight people become disabled. If you are age 45 right now, you have a 50 percent chance of suffering a disability that lasts more than 90 days sometime before you turn 65. Of course, statistics can be misleading. You might never become disabled, especially if you're healthy and work in a low-risk occupation. But then again, how many people do you know who have had cancer or suffered a heart attack? How many of your friends and family members have been in car accidents or have had back problems? Illness, as well as injury, is disabling. If you were hurt or got sick, how would you support yourself or your family?
Determine your income and expenses When you purchase disability insurance, the insurance company will determine the maximum amount of disability insurance you can buy by looking at your present income. It may also ask you to submit your financial records for the last three years to document your income. It's hard to know exactly how much income you'll need after you suffer a disability, but you'll probably need more than you think. Most of your fixed expenses won't change, and you may save money on work-related expenses such as clothing, automobile costs, and lunches out. However, you'll also spend more on other items, such as health-care expenses. Taking an honest look at your current and post-disability income needs is an important step in planning for disability.
Determine what disability benefits you may receive if you become disabled Through government programs and group insurance, you may already be covered by some disability insurance. However, relying on these types of insurance can be dangerous; government plans often pay benefits under strict definitions of disability, and group insurance may not be comprehensive, offering only short-term or long-term benefits. Both types of insurance may pay you only a small portion of your current salary. Review the forms of coverage available to you, take a look at the specifics of any group disability policies you already are covered by, then decide whether you need more disability coverage. Example(s): After reviewing his disability insurance coverage, Ichabod decided to buy a private
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disability income insurance policy. Although he was covered for short-term disability under a plan sponsored by his employer, he had no way of supporting himself if he was disabled for more than a year. Even if he qualified for Social Security disability benefits, he knew that they would only replace a portion of his average lifetime earnings, not his current salary. To protect himself against a lifetime of disability, he bought a policy that guaranteed to pay Ichabod benefits up to age 65. Good thing, too. A few months later, after seeing a headless horseman, Ichabod filed a claim for benefits because he was unable to work due to a psychiatric condition. Social Security disability benefits Although you shouldn't overlook the disability benefits you may be eligible to receive from Social Security, you shouldn't rely on them either. Social Security denies more than 50 percent of the claims submitted, in part due to a strict definition of disability. If you are deemed eligible for benefits, you still won't begin receiving them until at least six months after you become disabled because of the waiting period that applies. In addition, your benefit may replace only a fraction of your pre-disability income. Example(s): Vinnie was hurt in a skydiving accident and applied for Social Security disability benefits. His claim was approved, but he didn't begin receiving benefits until six months after his accident. Although he was earning $3,000 a month at the time of his accident, his Social Security benefit was only $1,100 a month because it was based on his average lifetime earnings, not on his current earnings. Workers' compensation insurance If you are injured at work or get sick from job-related causes, you will likely receive some disability benefits from workers' compensation insurance. How much you will receive depends on the state that you live in. When reviewing your disability insurance needs, remember that workers' compensation only pays benefits if your disability is work-related, so it offers only limited disability protection. Some states also cover only the diseases or disabilities outlined in the state's workers' compensation laws. Example(s): Corrine fell down a flight of stairs at home. Her back injury kept her bed-ridden for months. She thought she had disability protection through her job because she was covered by workers' compensation. However, since her injury occurred at home, workers' compensation did not pay her disability claim. Pension benefits Some government and private pension plans pay disability benefits. Often these plans pay benefits based on total, permanent disability, or your retirement benefit may be reduced in proportion to what you already received for a disability. In addition, remember that these benefits are usually integrated with Social Security or workers' compensation, so your benefit may be less than you expect if you also receive disability income from other government sources. For more information, see Integrating Social Security with Other Retirement Plans. Benefits from group disability insurance If you work, you may have purchased (or your employer may have supplied) disability insurance. However, don't assume that because you own a group policy your income will be protected if you become disabled. Often, benefits from a group plan are short-term and may be restricted to specific types of disabilities. If you purchased group insurance through a trade association, you may have been able to add on riders or other options that make your plan more flexible. At this point, you should carefully review any group disability coverage you may already own and decide whether it offers you adequate protection. How much benefit will you receive? When will benefits begin? How long will they last? How do you qualify for benefits?
Anticipate additional expenses you might incur if you were disabled
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Medical expenses Unfortunately, when you are disabled, your monthly expenses often increase, even though you expect them to decrease. You can expect your medical expenses to rise when you suffer a disability. Assuming you have health insurance, you'll probably have to satisfy a deductible as well as an out-of-pocket maximum, which may increase your expenses immediately after your disability occurs. In addition, if you suffer a long-term disability and are forced to quit your job, your group medical insurance coverage may be terminated. Of course, you can elect to continue coverage through Consolidated Omnibus Budget Reconciliation Act (COBRA) and conversion coverage may also be available, but you'll have to pay the premium yourself. This can add hundreds of dollars to your budget. You may also need to buy medical equipment or supplies or even renovate your house to accommodate your disability. Living expenses What if you can't drive, clean your apartment or house, mow the lawn, or cook for yourself after you become disabled? Will you need to hire household help to take care of day-to-day activities that you can no longer do? Hiring help can be a substantial, unexpected expense you incur when you become disabled. Example(s): Sam developed a heart condition and was no longer able to do yard work. For a few months, his friends and family helped him out, mowing his lawn, raking leaves, and shoveling snow. But soon, they tired of helping him, and Sam had to hire a lawn maintenance service that charged him $150 a month to do the work. Child-care expenses If you have young children and you and your spouse both work, you know how expensive child care is. Could you afford to pay for it if you or your spouse was disabled and no longer employed? The disabled partner may be able to care for the children at home but not if his or her disability is too limiting. If, on the other hand, you currently stay at home with your children, you may be forced to return to work if your spouse is disabled, and you may have to contend with an unforeseen additional expense. Example(s): Nancy stayed at home with her two sons, ages one and three. When her husband developed a lung disorder and couldn't work, Nancy decided to resume her teaching career. Although she was able to earn as much monthly income as her husband had been bringing home at the time he was disabled ($3,600), she had to pay $1,200 for child care. As a result, their monthly income was reduced by 33 percent.
Calculate your disability income insurance needs Once you've collected information, you can estimate how much income you will need to replace if you become disabled. To estimate your post-disability income needs, use the Disability Income Needs Worksheet (see example below). Once you complete the document, talk to your financial advisor or insurance professional about purchasing disability insurance. The following example illustrates how to fill out the Disability Income Needs Worksheet: Example(s): Ozzie and his wife, Martha, are considering buying private disability insurance. Ozzie earns $2,800 a month (net income), whereas Martha earns $3,600 a month (net income). She also receives $300 a month in child support from her former husband. They add up their monthly expenses and include in that figure payments they make for housing, utilities, groceries, clothing, child care, insurance, autos, credit cards, and loans. Their monthly expenses total $4,800. They contribute a total of $400 a month to their 401(k) plans and save $100 a month toward their children's college education. They also put $500 a month into a money market account. They filled out their Disability Income Needs Worksheet this way: Disability Income Needs Worksheet
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Current Income Ozzie's current monthly net income..................................
$2,800
Martha's current monthly net income.................................
3,600
Other miscellaneous income............................................
300
Current Expenses Their current living expenses............................................
4,800
Their current contributions to investments.........................
1,000
Analysis Total Current Income........................................................
6,700
Total Current Expenses and Investments...........................
5,800
Excess Income................................................................
900
Income Available After Disability Ozzie's monthly net income from salary..............................
2,800
Martha's monthly net income from salary if she was disabled........................................................................
0
Monthly income expected from an association disability insurance policy.............................................................
1,000
Other income..................................................................
300
Anticipated Expenses After Disability Ozzie and Martha's current living expenses.........................
4,800
Anticipated additional expenses due to disability................
300
Amount they want to continue investing...............................
1,000
Analysis Total Anticipated Expenses After Disability.........................
6,100
Total Income Available After Disability...............................
4,100
Income Deficit or Excess..............................................
$2,000
Example(s): Ozzie and Martha considered what they could do to eliminate the income deficit they would face if Martha became disabled. They decided that they could stop saving for their retirement and their children's education and withdraw money from their savings account every month. But then, Martha had second thoughts. They could afford to do this for a few months, but what if she was permanently disabled? Unless Ozzie got a substantial raise or they found a way to dramatically reduce their expenses, eventually their savings would run out. So, after evaluating their income needs, Ozzie and Martha decided to plan for disability by purchasing a disability income insurance policy that would protect Martha's income and allow them to continue saving money.
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Disability Insurance as an Employee Benefit What is it? In general The inability to work due to physical or mental incapacity is a major cause of concern for many employees. Providing your employees with the security of a sick-leave plan or disability insurance can help alleviate some of this concern. A sick leave plan can reimburse your employees for lost wages as a result of a sickness or accident that lasts for a short period of time (usually no longer than six months). Disability insurance provides your employees with benefits during the period when he or she has a disability and is unable to work. The type of disability insurance that you provide to your employees will depend on the types of disabilities you would like to cover under your disability insurance plan. There are three types of disability insurance plans: short-term disability, long-term disability, and permanent disability. Tip: There is usually a waiting period before employees can begin receiving their disability income insurance benefits. For more information on disability insurance, see Disability Insurance. Internal Revenue Service (IRS) tax treatment of disability insurance plans If you provide your employees with disability insurance, you may be eligible for tax deductions. Contributions that you make to a disability insurance plan may be deductible as ordinary and necessary business expenses as long as you self-insure or fund the plan with insurance. Whether or not you can exclude the amount that your employee receives under the plan from your employees' gross income depends on who pays the premium. If your employee pays the total premium using after-tax income, then his or her benefits will be tax free. Conversely, if you pay the total premium and do not include the cost of coverage in the employee's gross income, then the employee will be taxed on the benefits. If you pay part of the insurance premium and your employee pays the rest, then your employee's tax liability will be split as well. Any part of the benefit that your employee receives that is attributable to your share of the premium is taxable; any part of the benefit attributable to your employee's share of the premium is tax free. Example(s): Bob was covered by a group disability insurance plan at work. His employer paid 60 percent of the monthly premium, and Bob paid 40 percent using after-tax dollars. When he became disabled, Bob received a $1,000 benefit monthly for six months ($6,000). When he filed his income taxes, he only had to pay taxes on $3,600 (60 percent of $6,000), the part attributable to his employer's contribution.
Sick-leave plans Under a sick-leave plan, you either wholly or partially reimburse your employees for lost wages resulting from a sickness or accident that lasts for a short period of time (usually no longer than six months). Sick-leave plans usually provide benefits for a specific number of days each year. You can either allow your employees to accrue sick days on a monthly basis, or you can allocate your employees with a certain number of sick days each year. You do not have to purchase insurance to set up a sick-leave plan. Instead, you administer and fund the plan yourself. If you choose to implement a sick-leave plan, sick leave may be includable in your employee's gross income as wages. However, you may be able to deduct all or part of the cost you incur by providing your employees with a sick-leave plan. Tip: Make sure the sick-leave plan that you offer to your employees is in writing. Tip: Under a sick-leave plan, you can allow your employees to carry over any sick days that they do not use to the following plan year.
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Example(s): Ken works for a factory that allows its employees to earn one day of paid sick leave for each month of full-time employment. After a year of full-time employment with the factory, Ken has used only 3 of his 12 earned sick days. The factory allows him to carry over the 9 remaining sick days to the following plan year.
Short-term disability Short-term disability often bridges the gap between sick pay and long-term disability coverage by providing benefits that cover temporary disabilities for a limited time period (typically less than one year). The length of disability coverage under a short-term disability plan can last anywhere from a few months to one year. Under a short-term disability plan, an employee is considered to have a disability when the employee is unable to perform his or her regular duties. Tip: If you provide your employees with short-term disability insurance, you must also provide your female employees with benefits during pregnancy and childbirth. Tip: Insurance companies will differ in their interpretation of the beginning of a new period of disability. Some companies require that your employee return to work for one day, while others require a few months of continuous active employment. Example(s): Ken works at a factory. The factory's short-term disability plan provides that employees can receive three weeks of benefits for each period of disability. Ken was out of work for three weeks due to a back injury he received while on the job. Three days after returning to work, he reinjures his back. Thankfully, the disability insurance company interprets his new period of disability as beginning the day after he returned to work.
Long-term disability Long-term disability insurance usually provides benefits to employees who are disabled as a result of sickness or accident, and who are unable to work for a lengthy time period, usually longer than six months. The benefit an employee receives from long-term disability insurance is usually 50 percent to 70 percent of their predisability pay. Typically, the employee can receive long-term disability benefits up until he or she reaches age 65. The definition of disability will vary from policy to policy. For more information, see How Disability Insurance Contracts Define Disability. Tip: Since long-term disability plans (that are not self-insured plans) do not have to follow IRS nondiscrimination rules, you can reduce a plan's overall costs by offering it to only a select group of employees. Tip: Long-term disability benefits usually do not kick in until your employee uses up all of his or her short-term disability benefits. Example(s): Ken, who works at the local factory, injured his back while playing golf. Ken was entitled to one year of short-term disability benefits. Almost a year after he first injured his back, Ken was still out of work, and his short-term benefits were about to run out. Luckily, the factory offered its employees additional long-term disability benefits that will take effect once Ken's short-term benefits run out.
Permanent disability If your employee becomes permanently disabled before reaching age 60, he or she may be able to receive permanent disability benefits through provisions that are contained in an employer-provided group life insurance policy. This is not a cash benefit but rather a bill that does not need to be paid. A permanent disability is a disability that prevents you from being able to work at any job. A typical life insurance provision that is used for permanent disabilities is a waiver of premium, which continues coverage of an employee who becomes disabled. The coverage lasts until the employee's death and is without the payment of any premium.
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Life Insurance as an Employee Benefit What is it? In general Life insurance is a contract whereby the insurance company pays a sum specified within the contract to a named beneficiary upon the death of the insured, in exchange for the payment of an agreed upon premium. If your employer offers life insurance as an employee benefit, it most likely will be in the form of group life insurance. Group life insurance provides insurance for a group of employees through a contract that exists between an employer and an insurance company. The actual group life insurance is usually issued to the employer rather than to each individual employee. This contract is known as the master contract and provides coverage for the entire group. In lieu of having the actual contract in hand, the insurance company will issue each employee a certificate of insurance as proof of coverage. Although you as an employee are not a party to the master contract, you still are able to enforce your legal rights under the master contract as a third party beneficiary. Generally, group life insurance mirrors the types of life insurance policies that are available on an individual basis, such as term, whole, and universal. If a group life insurance policy is permanent, it accumulates cash value. In other words, any excess funds that you pay towards the permanent contract (the part of the premium that exceeds the cost of providing the death benefit) builds up equity in the policy. Cash value life insurance provides protection, in addition to accumulating cash within the policy for your future use. Cash value can be a useful tool for the individual policyholder because it offers the opportunity to obtain a policy loan or to surrender the policy. If a group life insurance policy is a term one, it provides protection as long as the premium is paid. A term policy does not accumulate cash value that you can draw upon in the future. While term insurance does not accumulate cash value, it requires minimal cash outlay in the beginning and does not require a long-term commitment. Tip: Some companies will provide insurance to their employees by making payroll deductions to any insurer. Many companies will offer employees insurance at no cost (e.g., one to two times an employee's annual salary), and allow employees to purchase additional insurance with low premiums. Advantages of group life insurance In addition to the obvious advantage of providing your beneficiaries with funds upon your death, a group life insurance policy can offer many additional advantages. Typically, the cost you incur funding a group life insurance policy must be included in your gross income. However, there are certain limited exceptions (e.g., the first $50,000 of group term life insurance), although it is rare that these exceptions apply to the average employee. In addition to its possible tax benefits, group life insurance usually does not require medical underwriting. Individual life insurance policies generally require the insurance company to evaluate your health in order to prove to the company that you are insurable. If you are in poor health, it is likely that an individual policy may require you to pay high premiums or that the company may not find you insurable. With a group life insurance policy, the insurance company does not perform medical underwriting on an individual basis. Instead, you may be asked a series of simple medical questions while the characteristics of the group as a whole (e.g., size, stability, and group makeup) are evaluated. Tip: A group life insurance plan qualifies as an ERISA welfare benefit plan and is subject to ERISA rules. Caution: Since group term life insurance is a contract between your employer and the insurer, your employer can terminate a group term life insurance plan at any time. Caution: If you change jobs, you will lose coverage under your group life insurance plan. However, you may be able to convert your group coverage into an individual policy.
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Group term life insurance In general Group term life insurance is a contract between an employer and an insurance company that lasts for a specific period of time (usually until you retire, reach a certain age, or leave the company) and provides death benefits upon your death. Caution: Since a group term life insurance plan provides only term coverage, it does not accumulate any cash value. Tip: Since you may only have to pay a small portion of the premium for a group term life insurance policy, group term life insurance can be a low-cost method of providing your beneficiaries with death benefits. Group life insurance carve-out plan Under a group life insurance carve-out plan, your employer removes certain highly compensated employees from the group term life insurance plan coverage and provides those employees that were "carved-out" with individual life insurance policies. Caution: One of the major disadvantages of a carve-out plan is that because it is an individually based plan, it is likely to require you to be individually underwritten. If you have health problems, you should be aware that you may have a heavy policy rating or be deemed uninsurable under an individual plan. Contributory or noncontributory Under a group term life insurance policy, your employer usually pays for a base amount while you pay for any supplemental amounts. The amount of the premium that your employer pays depends on whether the policy is contributory or noncontributory. If a group term life insurance policy is contributory, your employer pays the majority of the premium, while you pay a small portion of the premium. If a policy is noncontributory, your employer pays the entire premium. Beneficiary designation You are free to name any person or persons who you want to receive the proceeds of your group term life insurance policy upon your death. In addition, you can name your beneficiary on either a revocable or irrevocable basis. Death benefit coverage Generally, the amount of death benefit coverage you have under a group term life insurance policy is determined by using a benefit schedule. However, some plans may place a ceiling on the amount of coverage that the policy provides. Example(s): Example 1: Mary works for XYZ Company and earns an annual salary of $30,000. Mary's group term life insurance policy provides death benefit coverage in an amount that is equal to twice her annual salary, or 2 x $30,000 = $60,000. Example(s): Example 2: Mary works for XYZ Company and earns an annual salary of $60,000. Mary's group term life insurance policy provides death benefit coverage in an amount that is equal to twice her annual salary, with a $100,000 limitation on the coverage amount. As a result, Mary would not receive $120,000 (or 2 x $60,000) worth of coverage, but a death benefit of $100,000. In addition to being based on your annual salary, death benefit coverage can be a set amount (e.g., $50,000) for all employees.
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IRS tax treatment of group term life insurance In general As long as your group term life insurance plan meets certain requirements, you can exclude the cost of the first $50,000 of insurance from your gross income. The cost of any amount over the $50,000 limit must be included in your gross income, unless you pay for the coverage with after-tax dollars. Tip: The amount over $50,000 that is included in your gross income is known as imputed income. Tip: In order for a group term life insurance plan to qualify for the $50,000 exclusion, it must meet the requirements of Section 79 of the Internal Revenue Code. Exception to $50,000 limit Generally, the cost of employer-provided group term life insurance that exceeds $50,000 is taxable to you. If you fall within an exception, the cost of group term life insurance that exceeds $50,000 is not included in your gross income. Group term life insurance costs that exceed $50,000 are not taxable to: • Retired employees who fall within a special grandfather rule • Employees who have terminated employment because of disability • Employees whose beneficiary under the policy is their employer (either directly or indirectly), or • Employees whose beneficiary under the policy is a charitable organization Dependent group term life insurance The cost of group term life insurance on the life of your spouse or dependent (also known as employer-provided dependent group term life insurance) is included in your gross income. However, the cost is not included in your gross income if you pay for it on an after-tax basis. In addition, the cost of dependent group term life insurance can be excluded from your gross income as a de minimis fringe benefit if the face value of the insurance payable on either your spouse's or dependent's death is limited to under $2,000. Exclusion of death benefits from your beneficiary's gross income In order for an individual to be able to exclude death benefits (any amount that he or she receives from a life insurance policy as a result of your death) from his or her gross income, the individual must be a beneficiary and the amounts paid must be by reason of the death of the insured.
Group whole life insurance In general Under group whole life insurance, you pay a fixed premium either over your lifetime (ordinary life) or over a shorter period of time (limited pay life). While many variations of the group whole life insurance policy exist, it is mainly a mixture of both term and permanent insurance. Your premium payment usually goes to the permanent insurance portion, while your employer's payment goes to the term insurance portion. Group whole life insurance allows your employer to offer employees employer-paid term insurance with the additional coverage of a permanent group life insurance plan. Example(s): Bill works for XYZ Company. XYZ offers its employees a group whole life insurance policy. XYZ pays a portion of the premium that purchases the term life insurance, while the employee pays the premium for any permanent coverage. Bill can elect to receive only the term life insurance and have the premium paid completely by XYZ. In addition, Bill can choose to have both
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term and permanent coverage. In this case, he will be personally responsible for that portion of the premium that purchases the permanent coverage. Tip: Since premium payments are fixed under a group whole life insurance policy, payments cannot be made in lump sums. Tip: Since group whole life insurance is a permanent type of life insurance, it accumulates a cash value. The cash value of most group whole life insurance policies grows at a set rate. However, if a group whole life insurance policy is interest sensitive, the cash value grows at an interest rate that is subject to change. In addition, if a group whole life insurance policy is current assumption whole life, the interest rate, policy premium, and death benefit that are credited to the cash value of the policy may vary. Tip: When you retire, you can choose to either surrender the policy or continue your coverage by paying the premiums yourself. Dividend options If a whole life insurance policy is "participating," it allows you to receive annual dividends. Usually, a participating whole life insurance policy offers a variety of dividend options from which to choose, such as buying paid up additions, reducing the policy's premium, accumulating at interest, buying additional term life insurance, or refunding the excess premiums as cash. If you use dividends to buy paid up additions, the insurance company uses each dividend to purchase you an additional amount of life insurance that does not require premium payments. If you use dividends to reduce the policy's premium, you pay a lower premium, but the death benefit of the policy will remain the same. If the insurance company pays the dividend to you in cash, the policy premium and the death benefit remain the same. If you choose to let the dividends accumulate at interest, the dividends stay with the insurance company, which pays a set rate of interest on the dividends. Finally, if you choose to buy additional term life insurance with your policy dividends, the insurance company will purchase term life insurance on your behalf. Nonforfeiture options If you are unable to pay your group whole life policy premium, you have two options: surrender the policy for cash value or exercise a nonforfeiture option. While you can surrender your group whole life insurance policy for its cash value at any time, if you surrender the policy, any death benefit coverage that you had under the policy terminates immediately. If you choose to exercise a nonforfeiture option, some of your death benefit coverage will remain, either for a shorter period of time or a lesser amount of coverage. Generally, nonforfeiture options come in two forms: paid up term life insurance and reduced paid up whole life insurance. If you choose the paid up term life insurance nonforfeiture option, your premium payments end and you are left with a term policy that provides a certain amount of death benefit coverage for a specific period of time. Example(s): John wants to end his premium payments for his whole life insurance policy. However, John has a child for whom he still wants to provide death benefit coverage. John can exercise the paid up term nonforfeiture option that can end his premium payments, but still offer death benefit coverage for his child. If you choose the reduced paid up whole life nonforfeiture option, you use the cash value of the policy to purchase life insurance on a paid up basis. Tip: Unless a policy has been held for many years, you may receive only a percentage of a policy's cash value upon surrender. An insurance company may seek reimbursement for unrecovered costs by issuing surrender charges on a policy's existing cash value. In today's transient job market, employees tend to move from job to job before surrender charges disappear.
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Group universal life insurance In general Under a group universal life insurance policy, you can choose to either pay a minimum premium or fully fund the policy. By paying the minimum premium, you cover the cost of keeping the policy in effect. However, the minimum premium is usually not enough to accumulate a large amount of cash value. On the other hand, you can choose to fully fund the policy. If you fully fund the policy, you can cover the cost of keeping the policy in effect, while at the same time, accumulating a large amount of cash value. Minimum premium payments may be a good idea for an individual who cannot afford to spend a lot of money on insurance premiums. Fully funding a plan is a useful tool for the employee who wants to limit his or her premium payments during retirement, or to accumulate funds in the policy for use at a later date. Tip: Unlike group term life insurance, group universal life insurance is not governed by Section 79 of the Internal Revenue Code. Group universal life insurance is taxed the same as if you purchased a universal life insurance policy on an individual basis. As a result, you cannot deduct premiums that you pay from your gross income. Caution: The interest rate that is credited to your universal life insurance policy's cash value is subject to change by the insurance company. Selection of amount of death benefit coverage In addition to choosing the type of premium payment, group universal life insurance allows you to choose the amount of death benefit coverage for your policy. Most policies will offer you a few choices, usually an amount that is equal to one-half, one, or two times your annual salary. The policy will normally impose a minimum death benefit level so that, even if one-half of your salary is less than the minimum amount, you must choose the minimum amount in order to participate. Example(s): XYZ Company offers its employees a group universal life insurance plan. The plan offers a few choices for the amount of death benefit coverage you can have. These choices include one or two times your annual salary. In addition, the policy has minimum death benefit coverage of $15,000. Richard, an employee of XYZ, earns an annual salary of $60,000 and chooses the death benefit equal to two times his salary for a total of $120,000 in death benefit protection. Mary, an employee of XYZ, earns an annual salary of $28,000 and chooses the death benefit equal to one-half her salary or $14,000. Because the XYZ policy has a minimum death benefit selection of $15,000, and because one-half of Mary's salary is less then the minimum amount required, Mary's death benefit coverage would be $15,000. Usually, a universal life insurance policy will offer a choice between two benefit options: Option A and Option B. Option A provides a death benefit coverage that remains constant. Example(s): Mary's coverage under a universal life insurance policy begins at age 35. Mary chooses an Option A death benefit coverage of $100,000. Twenty years later, when Mary is 55 years old, the death benefit coverage of her policy will still be $100,000. An Option B death benefit coverage does not remain constant. Instead, it increases over time in proportion to the increases in the policy's cash value. The death benefit coverage under Option B is equal to the policy's face value plus the policy's cash value. Example(s): Mary has a universal life insurance policy with death benefit coverage of $100,000. After five years of coverage, Mary's policy has accumulated $5,000 of cash value. If Mary chooses death benefit coverage Option B, her policy's death benefit coverage in year five will be $105,000. Tip: The amount of death benefit coverage provided under a group universal life insurance policy can be either increased or decreased, depending on your individual needs.
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Split dollar life insurance In general A split dollar life insurance arrangement, or SDA, is an agreement between you and your employer to share the costs and benefits of a life insurance policy on your life. An SDA is an agreement that concerns (at least in part) the life insurance premium payment (and eventual repayment); it is not a type of policy. Split dollar arrangements usually take one of two forms. In the endorsement form, the employer is formally designated as the owner of the insurance contract and endorses the contract to specify the portion of the insurance proceeds payable to the employee's beneficiary. In the collateral assignment form, the employee is formally designated as the owner of the contract, and the employer's premium advances are secured by a collateral assignment of the policy. Caution: The Sarbanes-Oxley Act of 2002 makes it a criminal offense for a public company to lend money to its executives or directors. This may prohibit the use of the collateral assignment form in these companies. Split dollar life insurance is an important part of the compensation package of many key employees. In a typical split dollar arrangement, the employer funds all or part of the cost of providing an employee with life insurance protection and then recoups the cost either from the cash value of the policy or from the death benefit. Split dollar arrangements have also come into wide use in gift and estate planning. The IRS has issued regulations as of September 17, 2003 that provide guidance for federal income, employment, and gift tax purposes. For more information, see our separate topic discussion, Taxation of Split Dollar Arrangements.
Key employee life insurance Key employee life insurance is a life insurance policy that insures the life of an employee whose death would cause significant economic loss to a business. Under a key employee life insurance policy, your employer takes out an insurance policy on your life. Your employer becomes both the owner and the beneficiary of the policy and is responsible for paying the premiums. Upon your death, the insurance company pays the death benefits to your employer's business. The proceeds are not included in your employer's income.
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Determining the Need for Life Insurance: How Much Is Enough? (General Discussion) What determines your life insurance need? Life stages and circumstances When determining your life insurance need, you should first consider your life stage and circumstances. Marital status, number of dependents, size and nature of financial obligations, your career stage, and your intentions to pass on your property are all factors to consider. Your need for life insurance changes as the circumstances of your life change. Starting out In the "starting out" stage of life, you may be just beginning your career or family. You may not have children or other dependents at this stage, but that doesn't mean you have no obligations. For instance, if you paid for your college education with student loans, you likely had a cosigner for your loan--maybe your parents or a grandparent. The same may be true of your car loan. If you were to die before the loan is paid, your cosigner would be obligated to pay the debt. Under law, a cosigner is responsible for full payment of a debt in the event of default. Death doesn't erase the debt obligation. Single adult A growing percentage of the population now falls into the single adult demographic group. This group covers a broad spectrum of ages, lifestyles, and obligations. Family obligations--Parents Although you may not have a spouse, your death could have a serious financial impact on other family members. If, like many adults, you are supporting your parents (either financially or with care), your death could have a major impact, both emotionally and financially. They would not only lose the support you have been providing to them, but they would also need to come up with the money for your final expenses. Family obligations--Children If you are a single parent, the primary financial support for your children would die with you. If you are lucky, you may have family members who would step in and help your children if you died. If you are even luckier, they will be able to provide your children with the education and lifestyle you had hoped for them to have. Your need for life insurance as a single parent is even greater than that of a dual-parent, dual-income household, which would still have one income if one parent died. Life insurance is a cost-effective way to make sure that your children are protected financially should anything happen to you. Debt obligations In this stage of life, you may still be paying for or even still accumulating education loans. You may have purchased a house or condo with a cosigner. If you died, your cosigner would be legally liable for the payments on the debt. Protect your insurability Another reason to buy life insurance at this stage of your life is to protect your future insurability. Once you buy a permanent, cash value life insurance policy, it remains in effect for your entire life (assuming the premiums are paid), even if your health changes. If you were to experience a serious change in health, you might not be able to buy additional insurance coverage, but you would still have the permanent coverage you already own.
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Dual-income couple or family If you and your spouse both earn an income, it is possible that if one of you died, the other may be able to cope financially on the remaining income. If there are mortgages, joint credit cards or other debt, or children in the picture, the loss of one income could be much more difficult to overcome. The more people who depend on your income while you are alive, the more life insurance you should own. If you died today with insufficient or no insurance, your mate could be forced to give up the residence or lifestyle for which you have both worked. When there are children involved, the loss of one breadwinner could mean a setback in the daily way of life, not to mention any plans for private school or college. Parent of grown children Just because your children have grown up and left the nest doesn't mean you have no need for life insurance. You may have spent your entire adult life building an estate that you intend to pass on to your children, grandchildren, or favorite charity. You can use life insurance to ensure that the bulk of your estate passes to your heirs or designated charitable organization subject to certain tax advantages. Part of overall financial planning Determining your life insurance needs should not be done in isolation. Instead, it should be looked at as part of your overall financial plan, with consideration given to your goals for savings and retirement, as well as tax and estate planning. As your life changes, your financial goals may change, as well as your need for life insurance, making it important to also periodically review your coverage.
Methods of calculating life insurance need Several methods are used to calculate the appropriate level of insurance for you and your situation. While they all share common features, some methods strive to be more simplistic, while others involve more sophisticated calculations. Some of these differences are illustrated in the Table of Alternatives. You may want to determine an amount on your own, using one of the simpler methods. This can provide a basis for your discussions with your financial planner. Insurable interest Before you begin calculating your insurance needs, it is important to determine insurable interest. Basically, having an insurable interest in a person's life means that you would suffer emotional or financial harm or loss if that person were to die. It is always assumed that you have an insurable interest in your own life. However, to prove an insurable interest in someone else's life, you must have a relationship to that person based on blood, marriage, or monetary interest. You must have an insurable interest before you can purchase an insurance policy. Family needs approach The family needs approach is one of the more comprehensive methods of calculating your life insurance needs. It assumes that the purpose of life insurance is to cover the needs of the surviving family members. This method takes into account the immediate and ongoing needs of the surviving family members, as well as income from other sources and the value of assets that could be used to help defray the family's expenses (such as bank accounts and real estate). Capital retention approach The capital retention approach is one of two calculation methods under the family needs approach. This approach assumes that life insurance principal will support the family indefinitely into the future. Because you will purchase more life insurance under this method, you will be in a better position if the surviving spouse lives longer than expected.
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Capital liquidation approach The capital liquidation approach is the second of two calculation methods under the family needs approach. This method does not provide as much continuing capital for the surviving spouse or for heirs after the death of the surviving spouse. However, it does allow you to spend less money by purchasing a lesser amount of life insurance coverage. Estate preservation and liquidity needs The estate preservation and liquidity needs approach attempts to determine the amount of insurance needed at death for items such as taxes, expenses, fees, and debts while preserving the value of the estate. This method considers all the variables of family lifestyle and the total cash needed to maintain the current value of the estate while providing adequate cash needed to cover estate expenses and taxes. Income replacement approach The income replacement calculation is based on the theory that the purpose of insurance is to replace the loss of your paycheck when you die. This analysis determines an economic or human life value and factors in salary increases and the effects of inflation in determining the appropriate level of coverage. While more comprehensive than the rules of thumb, this method still fails to consider special circumstances or financial needs and operates on the premise that the current level of income provides a satisfactory standard of living that will remain level throughout the future. Rules of thumb The rules of thumb are extremely basic calculations. They provide a starting point but fail to recognize special family circumstances or needs and focus only on the most basic components. One rule of thumb dictates that multiplying your salary by a certain number will provide an adequate level of insurance, while another calculates need based on normal living expenses.
Insurance mistakes No insurance The worst mistake you could make concerning life insurance is having a need and not having any insurance at all. Very often, people can find all sorts of excuses for not buying life insurance. It's no fun to plan for your death, for one thing. For another, there's the tendency to think that dying won't happen to you, only to some person you read about in the obituaries. But how many times have you heard about a young, apparently healthy person dying suddenly in a car accident, leaving behind a spouse, a young child, and no insurance? Sadly, it happens, and when it does, the family faces not only emotional trauma but possibly an extremely difficult financial situation, as well. Not enough insurance The majority of people with insurance are underinsured. Insufficient coverage can occur as a result of buying what is affordable instead of what is needed. Failure to review your coverage periodically could also result in insufficient insurance, even if you started out with adequate levels. Inflation rates, your career, and your lifestyle may have changed. Your family could be faced with a large financial gap and left unable to maintain the current lifestyle if you died today. Consequences could include loss of the family home, scaling back of college plans, and possibly years of financial difficulty. Too much insurance If you purchased a large policy during one point in your life and then didn't adjust your coverage when your insurance need was reduced, it is possible that you have too much life insurance. This is another good reason to periodically review your coverage with your financial planning professional. Periodic reviews of your insurance coverage can reveal opportunities to change your levels of coverage to match your current and projected needs.
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Rollovers from Employer-Sponsored Retirement Plans In general A rollover is generally a transfer of assets from a retirement plan maintained by your former employer (it may be possible to roll over certain in-service distributions from an existing employer's profit-sharing plan as well). Rollovers from an employer-sponsored retirement plan can take one of four forms: 1. A transfer from your old retirement plan directly to an IRA trustee (this is a type of direct rollover) 2. A transfer from your old retirement plan to you, and then, within 60 days, from you to an IRA trustee (this is a type of indirect rollover) 3. A transfer from your old retirement plan directly to the trustee of the retirement plan at a new employer (this is a type of direct rollover) 4. A transfer from your old retirement plan to you, and then from you to the trustee of a retirement plan at a new employer (this is a type of indirect rollover) Generally, rollovers come from defined contribution plans. A defined contribution plan is a retirement plan in which contributions are based on a set formula (e.g., a percentage of the employee's pretax compensation), while the payout is based on total contributions and investment performance. The 401(k) plan is the most common type of defined contribution plan. If a rollover is done properly and all rules are followed, there will be no taxes or penalties imposed on the retirement plan distribution. In addition, a rollover encourages retirement savings by allowing you to continue tax-deferred growth of the funds in the IRA or new plan. When you are eligible for a rollover from your plan, the plan administrator must send you a timely notice explaining your options, the rollover rules, and related tax issues.
Which plans allow rollovers? An employer-sponsored retirement plan generally must allow direct rollovers to be made from the plan, but does not have to allow rollovers to be made into the plan. You are generally able to roll over funds between qualified retirement plans, Section 403(b) plans, governmental Section 457(b) plans, and traditional IRAs. Caution: You generally can't roll over funds from an employer-sponsored retirement plan into a SIMPLE IRA. Special rules apply with regard to the 10 percent premature distribution penalty when rolling over funds into a Section 457(b) plan. Special rules also apply to the rollover of any after-tax dollars in an employer-sponsored retirement plan. Tip: You can make a direct or indirect rollover from a tax-qualified retirement plan, tax-sheltered annuity, and governmental 457(b) plan to a Roth IRA, subject to the present law rules that generally apply to rollovers from traditional IRAs to Roth IRAs. For example, a rollover from an employer-sponsored retirement plan to a Roth IRA is includible in gross income (except to the extent it represents a return of after-tax contributions), and the 10-percent early distribution tax doesn't apply. Similarly, an individual with AGI of $100,000 or more, and taxpayers who are married but filing separately, can't make a direct rollover to a Roth IRA. (Note: the $100,000 income limit and married filing separately restriction are repealed by the Tax Increase Prevention and Reconciliation Act of 2005 (TIPRA) after 2009.) Tip: Special rules apply to Roth 401(k) and Roth 403(b) plans. In general, distributions from Roth 401(k) and Roth 403(b) accounts can be rolled over to a Roth IRA, or to other Roth 401(k) and Roth 403(b) plans that accept rollovers.
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What can be rolled over and what cannot be? Rollovers consist of eligible distributions made to you from your vested interest in an employer-sponsored retirement plan. In addition, your spouse may need to consent to a rollover in writing. To find out about additional restrictions your plan may impose on rollovers, consult your plan administrator. You may not be able to roll over the entire balance in your retirement plan account. Rollovers cannot include: • Required minimum distributions (to be taken after you reach age 70½ or, in some cases, after you retire). • After-tax contributions can be directly rolled over from a qualified plan or 403(b) plan to a qualified plan or 403(b) plan if the new plan separately keeps track of the after-tax contributions and their earnings. After-tax contributions can also be rolled over, directly or indirectly, from a qualified plan or 403(b) plan to an IRA. • Amounts that are required to be taken as substantially equal payments over 10 or more years, over your life expectancy as the plan participant, or over the joint life expectancy of you and your beneficiary. • Hardship withdrawals • Retirement plan loans that are taxable because they exceed the allowable loan limit • Life insurance coverage costs • Dividends on employer stock • Corrective distributions of excess 401(k) plan contributions and deferrals Caution: If you roll over any part of a lump-sum distribution, the remaining part cannot qualify for the special 10-year averaging or the special capital gains treatment that is available in some cases. Caution: If your retirement plan distribution includes assets other than cash (such as employer securities), your IRA trustee or the new plan trustee may, but isn't required to, accept those assets as part of a rollover. If you sell the assets and roll over the proceeds to a traditional IRA within 60 days of receiving a distribution, it is considered a nontaxable rollover. Consult a tax advisor for further details. Caution: Special recontribution rules may apply to distributions received by qualified individuals who are impacted by presidentially-declared natural disasters, and distributions to qualified reservists.
Are partial rollovers permitted? Yes. However, only the portion that is rolled over qualifies as an income-tax-free transfer of funds. The remainder that is distributed to you is treated as a taxable distribution, subject to federal (and possibly state) income tax and perhaps a premature distribution tax penalty if you are under age 59½ (unless an exception applies).
Direct rollovers vs. indirect rollovers Once you decide to roll over your retirement plan assets, you need to decide how the transfer will be made. Rollovers can be direct rollovers or indirect rollovers. The distinction is important because indirect rollovers can cost you a lot of money in some cases. A direct rollover is usually a better option.
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Direct rollovers Generally, you will want to arrange for a direct rollover rather than an indirect rollover when your retirement plan assets are moving to either another employer's retirement plan or an IRA. As the name suggests, a direct rollover involves arranging for the transfer of your retirement plan assets directly from the old plan trustee to either: • The trustee of a retirement plan maintained by a new employer • The trustee of a new or existing IRA in your name With a direct rollover, you never actually take receipt of the retirement plan funds. The funds go directly from the old plan trustee to the trustee of the IRA or new plan. For this reason, a direct rollover is often referred to as a trustee-to-trustee transfer. Direct rollovers have fewer tax complications, and you are not limited to moving the funds once a year (as is the case with indirect rollovers). Indirect rollovers With an indirect rollover, the trustee of your old retirement plan distributes the funds to you, and then you transfer them to the trustee of your IRA or to the trustee of another employer-sponsored retirement plan. There are some complications and potential pitfalls with indirect rollovers. In general, it is best to avoid indirect rollovers and utilize direct rollovers instead. First, with an indirect rollover, the administrator of your old plan must withhold 20 percent of the distribution to you for federal income tax. This withholding requirement exists because the IRS is concerned that you may take the money as a taxable distribution rather than complete a timely, tax-free rollover to an IRA or another plan. Because of this possibility, the IRS simply assumes that the distribution will be a taxable distribution, not a tax-free rollover. Here is the problem with the mandatory tax withholding for indirect rollovers: In order to complete a tax-free rollover, you must roll over 100 percent of the amount distributed to you from your old plan. This means that you need to have additional funds available to replace the 20 percent withheld at the time of distribution. Tip: You will eventually get the 20 percent back as a credit for federal income tax withheld when you file your income tax return the following year. Caution: If you do not make up the 20 percent with additional funds, the 20 percent withheld will actually be considered a taxable distribution. If you fail to complete the rollover within 60 days, the entire distribution may be treated as a taxable distribution. Further, if you are under age 59½ and do not qualify for an exception, you will be subject to a 10 percent federal premature distribution tax (and perhaps a state penalty, too). Example(s): Carol's vested balance in her former employer's plan is $100,000. Instead of arranging a direct rollover of funds from her old plan to her new employer's plan, Carol decides to do the rollover herself. Since it is an indirect rollover, her old plan administrator withholds 20 percent ($20,000) for federal income tax. Carol receives a check for $80,000. However, she must roll over $100,000 (the entire balance of her old plan account) to avoid tax consequences. This means that Carol has to use $20,000 of her own funds to make up the difference. Otherwise, if she rolls over only $80,000, she will be subject to income tax (and perhaps penalties) on the $20,000 shortfall. With an indirect rollover, you may end up paying income tax (and perhaps penalties) on the entire distribution to be rolled over unless you roll over the amount of the plan distribution within 60 days (beginning with the date you received the funds) to a traditional IRA or another employer's plan. Another reason to avoid indirect rollovers is the "one rollover per year" rule. You are only allowed to make a rollover
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froma particular traditional IRA to any other traditional IRA (or back to the same IRA), or from a particular Roth IRA to any other Roth IRA (or back to the same Roth IRA), once in any 12 month period. In addition, you are not allowed to make a rollover from the receivingIRA to any other IRA (or back to that IRA) until 12 months have passed. These rules are complicated, and if you violate them, your rollover may fail, your distribution may become taxable, and you may be subject to premature distribution penalties. In contrast, direct rollovers are not subject to the "one per year" rule--you can make as many direct roillovers as you wish. (Note: conversions of traditional IRAs to Roth IRAs are not subject to the one-per-year rule.) The only real benefit of an indirect rollover is that you have the equivalent of a 60-day "loan" from your retirement plan. But there is always the danger of missing the 60-day deadline and becoming subject to income tax (and perhaps penalties) on the distribution. By using a direct rollover, you generally avoid this risk because the money never enters your hands. In addition, direct rollovers are not subject to the federal withholding requirement that applies to indirect rollovers. Tip: The IRS is authorized to grant waivers on the 60-day rule in cases of "equity or good conscience, including casualty, disaster, or other events beyond the reasonable control of the individual subject to this requirement." Consult a tax advisor for further guidance.
Conduit IRAs You may need to do a rollover from your old employer's plan to an IRA as an interim step. Your new employer's plan may accept rollovers from an IRA, but not from a former employer's plan. Or, you may be in between jobs and not have a new employer's plan in place to accept a rollover from your old plan. In either instance, a rollover to a conduit IRA may be the answer for you. A conduit IRA is not technically a specific type of IRA. It is a traditional IRA that is being used for a specific purpose--as the term "conduit" suggests, to temporarily hold funds that you have rolled over from a former employer's retirement plan. With the funds in a conduit IRA, you may have the opportunity to roll over those funds to another employer's plan at a later date. If this opportunity never arises or you prefer to have the funds in an IRA, you can simply leave them in the conduit IRA. A rollover to a conduit IRA can be done as a direct rollover or an indirect rollover, just as with rollovers to other employers' retirement plans. Remember, if you do an indirect rollover, 20 percent of the distributed amount will be withheld for federal income tax. Should you fail to complete the rollover within 60 days of receiving the distribution, you will be subject to income tax and perhaps penalties on all or part of the distribution. Tip: Prior to 2002, a conduit IRAs had special importance--using a conduit IRA was the only way funds could move from a qualified plan to an IRA, and then back to another qualified plan. The conduit IRA could only contain funds rolled over from an employer-sponsored retirement plan, and the investment earnings on those funds. You were not allowed to commingle those rolled over funds with regular IRA contributions and their earnings. If you violated this rule, you lost the right to later move the rolled over funds and their earnings from the conduit IRA to another employer's retirement plan. However, as part of the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA), Congress passed provisions to make it easier to roll over funds between IRAs and different types of employer-sponsored retirement plans, and conduit IRAs are now largely only of historical importance with two exceptions, described below. Caution: Certain lump-sum distributions from an employer-sponsored retirement plan (but not from an IRA) qualify for special income tax benefits. The benefits may include 10-year averaging (for participants born before 1936) and capital gains treatment (for distributions attributable to pre-1974 participation in an employer plan). If you want to preserve the possibility of these income tax benefits, you may need to maintain a separate (conduit) IRA for your plan funds until you complete a rollover to another employer's retirement plan. Consult a tax professional. Tip: Amounts you roll over from an employer qualified plan or 403(b) plan to a traditional or Roth IRA (and earnings on those funds) are generally entitled to unlimited protection from your creditors under federal law in the event you declare bankruptcy. However, your other (non-rollover) traditional and Roth IRA assets are generally protected only to an aggregate limit of $1,095,000 (as of April 1, 2007). It may make sense in some cases to maintain a separate (conduit) IRA in order to more
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easily track rollovers from employer plans that are entitled to unlimited bankruptcy protection.
Advantages of doing a rollover A rollover is not a taxable distribution A properly completed rollover (direct or indirect) is a tax-free transfer of assets, not a taxable distribution. This means that if you complete the rollover within 60 days of receiving the distribution and follow other federal rollover rules, you will not be subject to income tax or early withdrawal penalties on the money. You will not have to pay federal or state income tax on the money until you begin taking taxable distributions from the IRA or new plan. By that time, you may be retired and in a lower income tax bracket. Also, if you are 59½ or older when you take distributions, you will not have to worry about premature distribution penalties. A rollover allows continued tax-deferred growth When you do a rollover, you are simply moving your retirement money from one tax-favored savings vehicle to another. This allows the money to continue growing tax deferred in the IRA or new plan, with little or no interruption. Tax-deferred growth allows your retirement money to potentially grow more rapidly than it might outside an IRA or retirement plan. To understand why, consider the power of compounding. As your IRA or plan investments earn money, those earnings compound on top of your principal and any earnings that have already accrued. As this is happening, no tax is due while the funds remain in the IRA or plan. Depending on investment performance, the long-term effect on your savings can be dramatic. In most cases, this benefit is lost if you receive a distribution from your employer's plan and do not roll it over. A rollover may be an option every time you leave a job You may be able to roll over your vested benefits in a former employer's retirement plan every time you leave a job (whether voluntarily or involuntarily). You generally have the option of rolling over benefits from an old employer's plan to a new or existing traditional IRA (but not a Roth IRA). In addition, if you join another employer's retirement plan and the plan accepts rollovers, you can roll over your benefits from the old plan to the new plan. There is no limit on the number of rollovers from an employer-sponsored retirement plan you can do, which is an advantage for those who change jobs frequently.
Disadvantages of doing a rollover You cannot revoke a rollover election Once you have elected in writing to roll over your retirement plan benefits to an IRA or another plan and received payment, you typically cannot change your mind and revoke the election. If you do try to revoke it, you will generally be subject to income tax and penalties on all or part of the distribution. Before you elect the rollover option, be absolutely certain that this is what you want. You cannot roll over certain amounts As mentioned, you generally may not roll over any distribution that is not includible in your taxable income (direct rollovers of after-tax contributions from one qualified plan to another qualified plan and to a traditional IRA are permitted in some cases). Also, you cannot roll over amounts to be taken as required minimum distributions or as substantially equal payments. An indirect rollover can be costly If you are considering an indirect rollover, bear in mind the 20 percent mandatory withholding requirement. To complete the rollover, you must make up the 20 percent out of your own funds, or be subject to income tax and possibly penalties on the shortfall. This can be a problem if you do not have cash available to replace the 20 percent. Also, with an indirect rollover, you generally have only 60 days to complete the rollover. The 60-day period begins with the date on which you receive the distribution from the former employer's retirement plan. If you fail to complete the rollover within this time frame, all or part of the distribution to you will be taxable and
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perhaps penalized. Loss of lump sum averaging and capital gain treatment If you roll over all or part of a distribution from a qualified employer retirement plan into an IRA, neither that distribution, nor any future lump-sum distribution you receive from the qualified plan, will be eligible for special 10-year averaging or capital gains treatment.
Is it better to roll over to an IRA or to another employer's plan? One of the most common questions people ask is: Should I roll over my retirement money to an IRA or to another employer's retirement plan? Assuming both options are available to you, there is no right or wrong answer to this question. There are strong arguments to be made on both sides. You need to weigh all of the factors, and make a decision based on your own needs and priorities. It is best to have a professional assist you with this, since the decision you make may have significant consequences--both now and in the future. Reasons to roll over to an IRA • You generally have more investment choices with an IRA than with an employer's plan. You typically may freely move your money around to the various investments offered by your IRA trustee, and you may divide up your balance among as many of those investments as you want. By contrast, employer-sponsored plans typically give you a limited menu of investments (usually mutual funds) from which to choose. • You can freely move your IRA dollars among different IRA trustees/custodians. Unlike indirect rollovers, there is no limit on how many direct, trustee-to-trustee IRA transfers you can do in a year. This gives you flexibility to change trustees often if you are dissatisfied with investment performance or customer service. It can also allow you to have IRA accounts with more than one institution for added diversification. With an employer's plan, you cannot move the funds to a different trustee unless you leave your job and roll over the funds. • An IRA may give you more flexibility with distributions. With some employer-sponsored plans, if you are married and your spouse does not sign a waiver, the usual form of distribution is a joint and survivor annuity. With an IRA, the timing and amount of distributions is generally at your discretion (until you reach age 70½ and must start taking required minimum distributions). • You will not be "cashed out" of an IRA if you have a small balance. By contrast, some employer-sponsored plans may cash you out prior to the plan's normal retirement age if your vested benefits are $5,000 or less. Until your vested benefits are over $5,000, there is a risk that a new employer's plan could cash you out if you leave employment. If cashed out, the funds would have to be either rolled over to an IRA or taken as a taxable distribution. Reasons to roll over to another employer's retirement plan • Many employer-sponsored plans have loan provisions. If you roll over your retirement funds to a new employer's plan that permits loans, you can generally borrow against your vested balance in the new plan if you need money. You cannot borrow from an IRA--you can only access the money in an IRA by taking a distribution, which may be subject to income tax and penalties. • A rollover to another employer's retirement plan may provide greater creditor protection than a rollover to an IRA. Assets in employer-sponsored retirement plans that are subject to the non-alienation provisions of ERISA (for example, 401(k) plans)receive unlimited protection from your creditors under federal law. Your creditors cannot attach your plan funds to satisfy any of your debts and obligations, regardless of whether you've declared bankruptcy. In contrast, traditional and Roth IRAs are generally protected under federal law only if you declare bankruptcy. Any creditor protection your IRA may receive in cases outside of bankruptcy will generally depend on the laws of your particular state. If you are concerned about asset protection, be sure to seek the assistance of a qualified professional.
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• Employer-sponsored retirement plans usually impose lower administrative costs and investment fees (e.g., minimum fees) on investors than IRAs. • You may be able to postpone required minimum distributions. These distributions usually must begin by April 1 following the year you reach age 70½. However, if you work past that age and are still participating in your employer's retirement plan, you can delay your first distribution from that plan until April 1 following the year of your retirement. (You also must own no more than five percent of the company.) This deferral exception is not available for IRAs. • You may prefer the investment options of an employer's plan. The choices and flexibility that IRAs provide can be a benefit for some people, but a drawback for others. If you lack investment knowledge and experience, you may make poor decisions when left to your own judgment. In this case, you may welcome the limited investment selection (and investment advice, in some cases) that many employer-sponsored plans offer.
How to do a rollover In general There are seven steps that you should follow to complete a rollover: 1. If rolling over to another employer's plan, check with the new plan administrator to make sure the plan accepts rollovers. 2. Consult your tax advisor before selecting a rollover to make sure this is the right option for you. Rollovers can have a long-term impact on your retirement planning, as well as your tax liabilities. 3. Review the notice from your old plan administrator explaining the rollover rules, the direct rollover option, the consequences of an indirect rollover, the withholding rules, and the possible reduction or deferral of taxes. 4. Decide whether you want to do a direct rollover or an indirect rollover. Then, make the necessary arrangements with your old plan administrator, and either the new plan administrator or the IRA custodian/trustee. 5. Obtain your spouse's consent, if required. Some plans require written spousal consent. 6. Make sure that a check (made out properly, and in the correct amount) is sent from your old employer's plan to the new employer's plan, the IRA custodian, or you personally, depending upon the method of distribution you selected. 7. If you receive the funds personally, make sure that you roll over those funds within 60 days to an IRA or another employer's plan to avoid taxes and penalties. In general, you should avoid a distribution directly to you in order to avoid the 20 percent federal withholding requirement. Types of rollovers: how to do it How you accomplish a rollover depends upon the type of rollover you want to do. Direct Rollover:
You usually need to complete paperwork with the existing plan, indicating that a direct rollover is to be made and providing the name of the receiving plan Qualified Plan to Qualified Plan administrator. The check must be made out to the trustee of the new plan, or to the new trustee for the benefit of you as the participant. If it's not, don't endorse it or deposit it. Have a new check prepared with the correct payee.
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Direct Rollover:
You would fill out forms with the existing plan trustee, indicating that you want a direct rollover and naming the IRA custodian. You would also fill out forms Qualified Plan to traditional IRA with the IRA custodian. The check from your old plan must be made out to the IRA custodian, or to the new IRA custodian for the benefit of you as the participant. If it is not, do not endorse it or deposit it. Direct Rollover:
You would fill out paperwork with the new plan trustee to be sent to the old IRA custodian. The IRA custodian may also require that you fill out a form.
Conduit IRA to Qualified Plan Indirect Rollover:
This type of rollover should generally be avoided because you must make up the 20 percent mandatory withholding or be taxed, and perhaps penalized, on Qualified Plan to Qualified Plan that 20 percent. (There is no mandatory withholding on funds coming out of an IRA.) Qualified Plan to traditional IRA Conduit IRA to Qualified Plan
Income tax consequences of doing a rollover As discussed, a timely and properly completed rollover is treated as a tax-free transfer of retirement assets. However, if the rollover is not completed within 60 days, the portion of the distribution that is not rolled over will generally be treated as taxable income to you (excluding any after-tax contributions you made to your plan). In addition, if you are under age 59½ and do not qualify for an exception, you may be subject to a 10 percent federal premature distribution penalty tax on the distribution (and possibly a state penalty as well).
Estate and gift tax consequences of doing a rollover Any amounts remaining in your retirement plans and IRAs at the time of your death are treated like the rest of your assets for federal estate tax (and possibly state death tax) purposes--they are included in your taxable estate to determine if estate tax is due.
Qualified plan automatic rollover rule Qualified retirement plans, Section 403(b) plans, and governmental 457(b) plans often contain a provision that requires the mandatory cash out of small benefits--generally vested benefits with a present value of $5,000 or less--if you terminate employment before reaching the plan's normal retirement age. However, if the mandatory payment is greater than $1,000, the plan must make the payment to an IRA established for the you, unless you affirmatively elect to receive the payment in cash, or to roll it over into a different IRA or to an employer retirement plan. The rule doesn't apply to distributions to beneficiaries or alternate payees, to plan loan offset amounts, or to distributions that don't qualify as eligible rollover distributions.
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Dependent Care Assistance: Employee Benefits What is it? As the family needs of today's workforce change, many employers are providing their employees with some type of dependent care assistance. Dependent care assistance is a benefit whereby your employer pays for your work-related dependent care services. A service is work-related if it allows you to work and if the services are for a qualifying individual's care. A qualifying individual is a dependent under the age of 13, a dependent who is physically or mentally incapable of caring for him or herself, or a spouse, if he or she is physically or mentally incapable of caring for him or herself. The types of dependent care assistance that your employer can provide you with include dependent care assistance programs (DCAP), tax-exempt organizations, voluntary employees' beneficiary associations (VEBA), and dependent care flexible spending accounts (FSAs).
Types of dependent care assistance programs A DCAP provides you with dependent care services. If your employer offers a DCAP, the IRS allows your employer to exclude up to $5,000 per year in dependent care assistance from your gross income. There are two types of DCAPs that your employer can offer: an employer-responsibility program or an employer-assistance program. An employer-responsibility program requires your employer to develop and maintain an on-site facility for your dependents (usually a day-care facility). An employer-assistance program is a program where your employer pays either for dependent care services that you incur when you place your dependent in an off-site facility, or for a counselor to aid you in selecting the appropriate off-site facility for your dependent.
Other types of dependent care assistance In addition to a DCAP, your employer can provide you with dependent care assistance through a tax-exempt organization, a VEBA, or a dependent care FSA. Tax-exempt organization Your employer can offer you dependent care assistance by creating a tax-exempt organization that operates a day-care facility. While you are not eligible for a tax credit for the dependent care assistance that your employer provides through the tax-exempt organization, it enables you to provide your dependents with affordable day care. Voluntary employees' beneficiary association A VEBA provides for the payment of health insurance, life insurance, disability insurance, or other benefits to its members. If your employer provides you with dependent care assistance through a VEBA, the monetary value of the services you receive is included in your gross income. However, the value of the benefits is not subject to taxation until you receive distributions from the VEBA. Example(s): Bill, who is not married and has no children, is entitled to the dependent care assistance benefits that his employer offers through a VEBA. However, the value of the benefits is not taxable income to Bill unless he enrolls a child in the day-care facility. Dependent care flexible spending account A dependent care flexible spending account (FSA) allows you to contribute pretax dollars to an account that your employer can later use to reimburse you for qualified dependent care expenses. In order for your dependent care expenses to qualify for reimbursement under an FSA, they must be necessary for employment and, if you are married, for employment of your spouse as well. The IRS allows your employer to exclude up to $5,000 per year from your gross income in order to fund the account. In addition, any contributions that you make to fund the account are tax exempt.
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Tip: In order to claim the exclusion for dependent care expense reimbursements, you must list on your federal income tax return the name, address, and taxpayer identification number of the person or party that provides dependent care to your dependents.
Dependent care tax credit If your employer does not offer dependent care assistance, you may be eligible for an individual tax credit. The IRS allows you to claim a dependent care tax credit if you maintain a household for a qualifying individual and incur employment-related expenses. A qualifying individual is a dependent under the age of 13 or a dependent or spouse who is incapable of self-care. Employment-related expenses are expenses that you incur in order to be gainfully employed. The tax credit allowable ranges from 20 to 35 percent of qualifying expenses, depending upon your adjusted gross income (AGI). The qualifying expenses on which the tax credit is based are limited to $3,000 for one qualifying dependent and $6,000 for more than one qualifying dependent. If there is more than one qualifying dependent, the expenses that are taken into account for purposes of the $6,000 limit do not have to be attributable to more than one dependent. Example(s): Cindy Smith, a single parent, has $30,500 of AGI and pays $3,500 per year to keep both of her children, ages two and five, in day care. Since both of Cindy's children are qualifying individuals, the higher tax credit limit applies and all of her day-care expenses ($3,500) fall within her available tax credit. Assuming that Cindy's allowable tax credit is 20 percent, she can claim a $700 tax credit. Caution: Expenses that are eligible for the dependent care assistance tax credit must be offset by expenses that you exclude from your income under a dependent care assistance plan. Example(s): Cindy Smith, a single parent with two children, has $4,800 in eligible dependent care expenses during the year. Cindy's employer reimburses her for $3,800 of the dependent care expenses. Only the remaining $1,000 ($4,800 - $3,800) would be eligible for the dependent care tax credit. Tip: If you have child-care expenses that exceed the credit limit and you are eligible to participate in a company-sponsored dependent care assistance plan, you may have to choose between the company plan and the dependent care assistance tax credit. Your choice will hinge upon a number of factors, including your tax rate, whether or not amounts that would otherwise be allocated to child care under the company plan can be allocated to other benefits, your filing status, and your AGI. Tip: For more information on the IRS dependent care tax credit, see Section 21 of the Internal Revenue Code.
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COBRA Coverage: Health Care During Transitional Periods What is COBRA? The term "COBRA" is commonly used to refer to certain provisions of Title X of the Consolidated Omnibus Budget Reconciliation Act of 1986. This law provides an opportunity for employees and their dependents who have been covered by an employer-sponsored health insurance plan to continue coverage under circumstances where such coverage might otherwise have been terminated. The covered employee is entitled to COBRA coverage only in cases of termination or reduction in hours. In addition, there are several situations in which an employee's spouse and dependent children may be eligible for COBRA benefits. The duration of COBRA coverage is limited and depends on the reason why existing coverage is being terminated. COBRA can be an invaluable resource, particularly for those who find themselves without health insurance due to circumstances beyond their control (e.g., layoff or reduction in working hours). Because individual health insurance is generally much more expensive than comparable group insurance, many of these individuals might otherwise be forced to go without health insurance. This can be a dangerous gamble. COBRA provides a way to retain health insurance coverage at a reasonable rate.
Are all employers subject to COBRA requirements? COBRA requirements apply only to employers who have 20 or more employees on at least 50 percent of working days during the previous calendar year and who provide an employer-sponsored group health insurance plan. COBRA requirements also apply to state and local governments (but not the federal government). Employers who fit this description are required to offer continuation of coverage to employees and their dependents under the circumstances described in the following.
Who is eligible for COBRA benefits? To be eligible for COBRA benefits, you must be a "qualified beneficiary." A qualified beneficiary is any individual who is covered under the group health insurance plan as of the day before a qualifying event and who fits into one of the following three categories: • Employees and their spouses and dependent children who have lost employment-based health insurance benefits due to a change in their employment status • Divorcees, widows, and their dependent children who have lost employment-based health insurance benefits as a result of divorce or the death of the covered spouse • Spouses and dependent children who have lost employment-based health insurance benefits because the covered family member has become eligible for Medicare benefits, while the spouse remains ineligible
What are the "qualifying events" that trigger COBRA eligibility? Any of the following events causing a loss of health insurance coverage will trigger COBRA eligibility for qualified beneficiaries: Termination of employment or reduction in hours The covered employee and other qualified beneficiaries become eligible for COBRA benefits if the employee's employment is terminated. This is true whether the termination is voluntary or involuntary, unless the reason for
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termination is "gross misconduct" on the part of the employee. The covered employee and other qualified beneficiaries also become eligible for COBRA coverage if the employee experiences a reduction in working hours that results in a loss of coverage. Example(s): Willy B. Sick's employer reduces Willy's hours as part of a companywide cutback, changing Willy's status from full-time to part-time. If Willy was covered under an employer-sponsored health insurance plan as a full-time employee but loses this coverage as a result of his new part-time status, Willy would be eligible for COBRA benefits. Death A covered employee's dependents become eligible for COBRA benefits if the covered employee dies. Divorce or legal separation If a spouse or dependent child loses health-care coverage as a result of divorce or legal separation from the covered employee, these dependents become eligible for coverage under COBRA. Eligibility for Medicare benefits Group health coverage is terminated if the covered employee's condition qualifies him or her for Medicare benefits. Medicare benefits do not extend to the covered employee's spouse and dependent children, so the spouse and any dependent children become eligible for coverage under COBRA. Loss of dependent child status If a child loses coverage because he or she no longer fits the definition of "dependent child" under the terms of the employer's health insurance plan, the child becomes eligible for coverage under COBRA. This most often occurs because the child reaches the age of majority, but it may also be the result of emancipation. In other words, the child is no longer a dependent and thus cannot be covered under a parent's health insurance.
How long does COBRA coverage continue? COBRA coverage begins on the day the qualifying event occurs and continues for up to 18 months in the case of termination of employment or reduction in hours or up to 36 months for any other qualifying event. COBRA coverage may expire before the end of this 18- or 36-month period if any of the following events occur: • The employer terminates the employer-sponsored group health insurance plan for all employees. • Coverage lapses due to nonpayment of the premium. • A qualified beneficiary becomes eligible for Medicare benefits. • A qualified beneficiary becomes eligible as an employee under another group health plan. • Coverage is obtained under another group health plan that does not contain any exclusion or limitation with respect to any pre-existing condition. The occurrence of any of these events during the 18- or 36-month COBRA coverage period terminates COBRA eligibility immediately.
If you are eligible, how do you decide whether to accept COBRA coverage? As a general rule, you should accept COBRA coverage if you are eligible and you don't have other medical coverage. It can be very dangerous to go without health insurance coverage, even for a short time. COBRA coverage may cost more than you were previously paying, but this is far better than being uninsured. Keep in mind that you should begin to look for other coverage as soon as possible. COBRA only covers you for a limited period of time. If your health deteriorates while you are on COBRA, you may find yourself unable to get
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other insurance when your COBRA coverage runs out.
How do you elect COBRA coverage? The administrator of your health insurance plan is required to notify you of your rights to continue coverage under COBRA. However, in some cases (such as divorce, legal separation, or emancipation of a minor), the plan administrator must first be notified that a qualifying event has occurred. You have at least 60 days to elect coverage. The clock starts ticking either the day your coverage is terminated or the day you receive notification of your COBRA continuation rights, whichever occurs later. Although the law does not require your election to be made in writing, it is advisable to do so. Whether you accept or decline coverage, it is safer for all parties involved to get this decision in writing. Also, it is presumed that if a covered employee or spouse elects to continue coverage, this election applies to all qualified beneficiaries. If any qualified beneficiary wishes to be excluded from coverage, this information should be presented in a written waiver. Tip: The Trade Act of 2002 (H.R. 3009) provides special temporary COBRA election rules for individuals who lost their jobs due to trade-related reasons and are eligible for trade adjustment assistance.
How much should you expect to pay for COBRA coverage? If you continue your health insurance benefits through COBRA, your employer will no longer pay for any part of the premiums. Thus, you will be expected to pay the full cost of your coverage. You may also be charged a fee of up to 2 percent of this amount for administrative expenses. You may have to pay for a full year's coverage in one lump sum, although in some cases you are given the option of paying in monthly installments. COBRA may cost considerably more than you were paying for coverage before termination, but it is probably significantly less than you would pay for comparable individual coverage. Tip: Certain workers who lose their jobs due to trade-related reasons and are eligible for trade adjustment assistance under the Trade Act of 2002 may be eligible for a tax credit equal to 65 percent of the cost of COBRA coverage. Consult a tax professional for additional information. Tip: The American Recovery and Reinvestment Act of 2009 provides that, for involuntary terminations that occur on or after September 1, 2008 and before January 1, 2010, assistance-eligible individuals will only need to pay 35 percent of COBRA premiums for a period of up to nine months. The remaining 65 percent of COBRA premiums will be subsidized. The Department of Defense Appropriations Act, 2010 extends the subsidy to February 28, 2010. However, this premium subsidy may need to be repaid in some cases.
Will your COBRA coverage be the same insurance you had through your employer? COBRA coverage must be identical to the coverage that is provided to other employees and their dependents who have not experienced a qualifying event. You may, however, be given the option to waive certain types of coverage to reduce the cost of your premium. Example(s): Before she divorced her husband Willy, May B. Sick was covered under Willy's employer-sponsored health insurance plan. May was entitled to hospital expense, surgical expense, physicians' expense, major medical, and dental coverage. After her divorce, May must be offered identical coverage through COBRA. However, May could be given the option of dropping the dental coverage to lower her premium.
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What happens when your COBRA coverage expires? At the end of your COBRA coverage period, depending on the terms of your employer's group policy, you may have the right to convert your group coverage to an individual policy without taking a physical examination or answering medical questions. An individual policy obtained through COBRA will almost certainly cost more than a policy obtained on your own, and it may be somewhat limited in terms of coverage. However, if you are unable to obtain other medical insurance due to poor health, this can be a valuable option.
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Home Inventory Checklist If your personal property is ever stolen, damaged, or destroyed, you will have to file a homeowners insurance claim to receive proceeds under your homeowners policy. Use this handy checklist to document vital information about your belongings. Keep the list in a safe place to provide an accurate record of your possessions if you ever suffer a loss. • Include model and serial numbers, if available, in the description • Take photographs or videotapes of your possessions • Have valuable items and collectibles appraised
When Bought
Item and Description
Price Paid
LIVING ROOM/FAMILY ROOM
Carpet/rugs
Curtains/blinds/drapes Sofa/loveseat Chairs Desk Tables (coffee, end, etc.) Bookcases/books
Electronics (TV, stereo, etc.)
Wall hangings Musical instruments Collectibles (stamps, coins, artwork, etc.) Miscellaneous furnishings (mirrors, lamps, etc.) Other DINING ROOM
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Carpets/rugs
Curtains/blinds/drapes Buffet/china cabinet/hutch Table/serving table or cart
Chairs
China/silverware/crystal Tablecloths/napkins Wall hangings Miscellaneous furnishings (mirrors, lamps, etc.) Other BEDROOM
Carpet/rugs
Curtains/blinds/drapes Bed (frame, mattress, box springs) Bedding (sheets, blankets, etc.) Dressers/chests Tables (dressing, bedside, etc.) Desk/chairs
Bookcases/books
Electronics (TV, stereo, etc.) Wall hangings Clothing/jewelry/furs
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Miscellaneous furnishings (mirrors, lamps, etc.) Other HOME OFFICE/DEN/STUDY
Carpet/rugs
Curtains/blinds/drapes Desk Chairs Couch Tables
Bookcases/books
Electronics (computer, printer, scanner, fax, etc.) Wall hangings Miscellaneous furnishings (mirrors, lamps, etc.) Other BATHROOM
Curtains/blinds/drapes
Electrical appliances (hair dryer, shaver, etc.) Linens/shower curtains/bath accessories Wall hangings Miscellaneous furnishings (mirrors, lamps, etc.) Other KITCHEN
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Curtains/blinds/drapes
Table Chairs Refrigerator/freezer Stove/oven
Dishwasher
Small appliances (microwave, food processor, etc.) Pots/pans/dishes/bowls/glasses/utensils Washer/dryer Wall hangings Miscellaneous furnishings (mirrors, lamps, etc.) Other GARAGE/BASEMENT/ATTIC
Furnace/hot water tank/central air conditioner
Humidifier/dehumidifier Furniture/workbench Luggage/trunks/storage containers Lawnmower/snowblower Lawn and garden tools Carpentry tools Boats/trailers Sports or exercise equipment/bicycles/toys/games
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Miscellaneous furnishings (ladders, stools, etc.) Other PORCH/PATIO/DECK
Tables
Chairs/lounges Umbrella Outdoor cooking equipment Plants/planters Miscellaneous furnishings Other
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Buying a Home There's no doubt about it--owning a home is an exciting prospect. After all, you've always dreamed of having a place that you could truly call your own. But buying a home can be stressful, especially when you're buying one for the first time. Fortunately, knowing what to expect can make it a lot easier.
How much can you afford? According to a general rule of thumb, you can afford a house that costs two and a half times your annual salary. But determining how much you can afford to spend on a house is not quite so simple. Since most people finance their home purchases, buying a house usually means getting a mortgage. So, the amount you can afford to spend on a house is often tied to figuring out how large a mortgage you can afford. To figure this out, you'll need to take into account your gross monthly income, housing expenses, and any long-term debt. Try using one of the many real estate and personal finance websites to help you with the calculations.
Mortgage prequalification vs. preapproval Once you have an idea of how much of a mortgage you can afford, you'll want to shop around and compare the mortgage rates and terms that various lenders offer. When you find the right lender, find out how you can prequalify or get preapproval for a loan. Prequalifying gives you the lender's estimate of how much you can borrow and in many cases can be done over the phone, usually at no cost. Prequalification does not guarantee that the lender will grant you a loan, but it can give you a rough idea of where you stand. If you're really serious about buying, however, you'll probably want to get preapproved for a loan. Preapproval is when the lender, after verifying your income and performing a credit check, lets you know exactly how much you can borrow. This involves completing an application, revealing your financial information, and paying a fee. It's important to note that the mortgage you qualify for or are approved for is not always what you can actually afford. Before signing any loan paperwork, take an honest look at your lifestyle, standard of living, and spending habits to make sure that your mortgage payment won't be beyond your means.
Should you use a real estate agent or broker? A knowledgeable real estate agent or buyer's broker can guide you through the process of buying a home and make the process much easier. This assistance can be especially helpful to a first-time home buyer. In particular, an agent or broker can: • Help you determine your housing needs • Show you properties and neighborhoods in your price range • Suggest sources and techniques for financing • Prepare and present an offer to purchase • Act as an intermediary in negotiations • Recommend professionals whose services you may need (e.g., lawyers, mortgage brokers, title professionals, inspectors) • Provide insight into neighborhoods and market activity • Disclose positive and negative aspects of properties you're considering Keep in mind that if you enlist the services of an agent or broker, you'll want to find out how he or she is being
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compensated (i.e., flat fee or commission based on a percentage of the sale price). Many states require the agent or broker to disclose this information to you up front and in writing.
Choosing the right home Before you begin looking at houses, decide in advance the features that you want your home to have. Knowing what you want ahead of time will make the search for your dream home much easier. Here are some things to consider: • Price of home and potential for appreciation • Location or neighborhood • Quality of construction, age, and condition of the property • Style of home and lot size • Number of bedrooms and bathrooms • Quality of local schools • Crime level of the area • Property taxes • Proximity to shopping, schools, and work
Making the offer Once you find a house, you'll want to make an offer. Most home sale offers and counteroffers are made through an intermediary, such as a real estate agent. All terms and conditions of the offer, no matter how minute, should be put in writing to avoid future problems. Typically, your attorney or real estate agent will prepare an offer to purchase for you to sign. You'll also include a nominal down payment, such as $500. If the seller accepts the offer to purchase, he or she will sign the contract, which will then become a binding agreement between you and the seller. For this reason, it's a good idea to have your attorney review any offer to purchase before you sign.
Other details Once the seller has accepted your offer, you, your real estate agent, or the mortgage lender will get busy completing procedures and documents necessary to finalize the purchase. These include finalizing the mortgage loan, appraising the house, surveying the property, and getting homeowners insurance. Typically, you would have made your offer contingent upon the satisfactory completion of a home inspection, so now's the time to get this done as well.
The closing The closing meeting, also known as a title closing or settlement, can be a tedious process--but when it's over, the house is yours! To make sure the closing goes smoothly, some or all of the following people should be present: the seller and/or the seller's attorney, your attorney, the closing agent (a real estate attorney or the representative of a title company or mortgage lender), and both your real estate agent and the seller's. At the closing, you'll be required to sign the following paperwork: • Promissory note: This spells out the amount and repayment terms of your mortgage loan. • Mortgage: This gives the lender a lien against the property.
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• Truth-in-lending disclosure: This tells you exactly how much you will pay over the life of your mortgage, including the total amount of interest you'll pay. • HUD-1 settlement statement: This details the cash flows among the buyer, seller, lender, and other parties to the transaction. It also lists the amounts of all closing costs and who is responsible for paying these. In addition, you'll need to provide proof that you have insured the property. You'll also be required to pay certain costs and fees associated with obtaining the mortgage and closing the real estate transaction. On average, these total between 3 and 7 percent of your mortgage amount, so be sure to bring along your checkbook.
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Selling a Home According to the National Association of Realtors, people across the country are buying homes in record numbers. While this is good news if you're selling your home, you'll still need to work hard if you want to sell your home quickly and at the best possible price.
Timing is everything You can't always choose when to put your home on the market. You might need to buy another home to make room for a new baby that's on the way. Or, perhaps your employer is transferring you out of state. However, if you do have a say in the matter, you'll want to make sure that you're selling your house at the right time. Typically, you'll sell your home quicker and get a better price for it when the real estate market favors sellers (i.e., when homebuyers are plentiful and homes are scarce). The time of year you put your home on the market can also make a difference. Since many homebuyers prefer to move in the spring and summer, real estate markets usually heat up in late winter and early spring.
Preparing your home for the sale Before you put your house on the market, take some time to get it in top condition. Start by giving your home a thorough cleaning--you may even want to hire a professional cleaning service to do it for you. Next, move on to smaller maintenance projects such as fixing that leaky faucet in the kitchen or replacing the loose tiles in the bathroom. Certain contractors specialize in this part of the home maintenance market. However, be sure not to get too carried away. You'll want to hold off on any major home improvements (e.g., renovating the kitchen) since you probably wouldn't be able to recoup the money you put into the project, and prospective buyers might not share your taste in design. Focus instead on minor, cosmetic improvements, such as a fresh coat of paint and some landscaping.
Setting the right price When selling a home, it's important to set the right price. Your asking price shouldn't be so high that your house won't sell or so low that you'll miss out on some profit. If you use a real estate broker, he or she will do most of the work for you in determining the right price for your home. However, if you plan on selling your home without a broker or if you simply want to obtain some pricing information on your own, you should research the sale prices of comparable homes in your area. There are websites that offer this information for free. You may even want to hire a professional appraiser to help you determine your asking price.
Using a broker or doing it yourself The majority of home sellers enlist the services of a real estate broker to help them sell their home. Real estate brokers are particularly helpful if you don't have the time or the expertise to correctly price your home, market it, and bring in potential buyers. More importantly, a broker will focus on bringing in buyers who have already prequalified for a mortgage, which can save you time and money in the long run. However, this expertise comes at a price--6 percent of a home's sale price, on average. If you're looking to hire a broker to help you sell your home, here are some tips to help you get started: • Ask friends and relatives who have sold homes recently for recommendations • Find out the names of the brokers and agents who work in your area by searching classified advertisements in your local newspaper, homebuyers magazines, and the Internet • Ask other types of real estate professionals (e.g., lawyer, mortgage broker) for the names of brokers they work with
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While doing it yourself (commonly referred to as a FSBO, or "for sale by owner") will allow you to save on broker's fees and commissions, it requires more legwork on your part. You'll need to advertise that your home is for sale (e.g., lawn signs and advertisements in local newspapers), show it to prospective buyers (e.g., hold an open house), and deal with the buyer during negotiations. You'll also need to supply the necessary forms and/or contracts (although you can hire a real estate attorney to draw up this paperwork for you).
Negotiating the sale If you hire a broker, all offers and counteroffers are presented through your agent, so you'll probably be able to avoid any face-to-face negotiations with potential buyers. On the other hand, if you are selling your home on your own, you'll be in charge of the negotiating. Remember to be flexible during negotiations. However, don't jump to accept the first offer you get--especially if it is below your asking price.
The closing As a seller, you'll probably have very little to do at the closing. Your main responsibility will be to make sure that any agreed-upon repairs have been made and that the buyer is getting clear title to the home. However, you'll want to make sure all of the paperwork is in order, and if you hire an attorney, have him or her attend the closing with you.
Other things to consider • If you're buying another home and need to come up with a down payment on it before receiving the proceeds from the sale of your current home, ask your lender about a bridge loan, a short-term mortgage that is paid off once the sale of your home is complete. • If necessary, include a closing-on-sale contingency clause in your contract to buy your new home, which allows you to delay the closing on your new home for a certain period of time while you find a buyer for your current home. If you can't find a buyer within the allotted time frame, the purchase contract is canceled and any deposits are returned to you (unless you and the seller agree to extend the agreement). • Find out about the tax implications of selling your home. Most sellers can exclude from taxation some or all of the capital gains they realize (up to $250,000 for single filers and up to $500,000 for married couples filing jointly) if selling their primary residence. See IRS Publication 523, Selling Your Home, for details.
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Investment Planning: The Basics Why do so many people never obtain the financial independence that they desire? Often it's because they just don't take that first step--getting started. Besides procrastination, other excuses people make are that investing is too risky, too complicated, too time consuming, and only for the rich. The fact is, there's nothing complicated about common investing techniques, and it usually doesn't take much time to understand the basics. The biggest risk you face is not educating yourself about which investments may be able to help you achieve your financial goals and how to approach the investing process.
Saving versus investing Both saving and investing have a place in your finances. However, don't confuse the two. With savings, your principal typically remains constant and earns interest or dividends. Savings are kept in certificates of deposit (CDs), checking accounts, and savings accounts. By comparison, investments can go up or down in value and may or may not pay interest or dividends. Examples of investments include stocks, bonds, mutual funds, collectibles, precious metals, and real estate.
Why invest? You invest for the future, and the future is expensive. For example, college expenses are increasing more rapidly than the rate of overall inflation. And because people are living longer, retirement costs are often higher than many people expect. You have to take responsibility for your own finances, even if you need expert help to do so. Government programs such as Social Security will probably play a less significant role for you than they did for previous generations. Corporations are switching from guaranteed pensions to plans that require you to make contributions and choose investments. The better you manage your dollars, the more likely it is that you'll have the money to make the future what you want it to be. Because everyone has different goals and expectations, everyone has different reasons for investing. Understanding how to match those reasons with your investments is simply one aspect of managing your money to provide a comfortable life and financial security for you and your family.
What is the best way to invest? • Get in the habit of saving. Set aside a portion of your income regularly. • Invest in financial markets so your money can grow at a meaningful rate. • Don't put all your eggs in one basket. Though it doesn't guarantee a profit or ensure against the possibility of loss, having multiple types of investments may help reduce the impact of a loss on any single investment. • Focus on long-term potential rather than short-term price fluctuations. • Ask questions and become educated before making any investment. • Invest with your head, not with your stomach or heart. Avoid the urge to invest based on how you feel about an investment.
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Before you start Organize your finances to help manage your money more efficiently. Remember, investing is just one component of your overall financial plan. Get a clear picture of where you are today. What's your net worth? Compare your assets with your liabilities. Look at your cash flow. Be clear on where your income is going each month. List your expenses. You can typically identify enough expenses to account for at least 95 percent of your income. If not, go back and look again. You could use those lost dollars for investing. Are you drowning in credit card debt? If so, pay it off as quickly as possible before you start investing. Every dollar that you save in interest charges is one more dollar that you can invest for your future. Establish a solid financial base: Make sure you have an adequate emergency fund, sufficient insurance coverage, and a realistic budget. Also, take full advantage of benefits and retirement plans that your employer offers.
Understand the impact of time Take advantage of the power of compounding. Compounding is the earning of interest on interest, or the reinvestment of income. For instance, if you invest $1,000 and get a return of 8 percent, you will earn $80. By reinvesting the earnings and assuming the same rate of return, the following year you will earn $86.40 on your $1,080 investment. The following year, $1,166.40 will earn $93.31. (This hypothetical example is intended as an illustration and does not reflect the performance of a specific investment). Use the Rule of 72 to judge an investment's potential. Divide the projected return into 72. The answer is the number of years that it will take for the investment to double in value. For example, an investment that earns 8 percent per year will double in 9 years.
Consider working with a financial professional Whether you need a financial professional depends on your own comfort level. If you have the time and energy to educate yourself, you may not feel you need assistance. However, don't underestimate the value of the experience and knowledge that a financial professional can offer in helping you define your goals and objectives, creating a net worth statement and spending plan, determining the level and type of risk that's right for you, and working with you to create a comprehensive financial plan. For many, working with a professional is the single most important investment that they make.
Review your progress Financial management is an ongoing process. Keep good records and recalculate your net worth annually. This will help you for tax purposes, and show you how your investments are doing over time. Once you take that first step of getting started, you will be better able to manage your money to pay for today's needs and pursue tomorrow's goals.
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Health Insurance Made Simple Let's face it--in today's world, health insurance is a necessity. The cost of medical care is soaring higher every year, and it's becoming increasingly difficult (and in some cases, impossible) to pay medical costs out of pocket. Whether you already have health insurance or want to get it, here's some basic information to help you understand it.
Not part of a group? You may have to go it alone You may have group health insurance or be able to buy it through your employer. Group insurance is most commonly offered through employers. It is also offered through some civic groups and other organizations (e.g., auto clubs, chambers of commerce). A single policy covers the medical expenses of a group of people. All eligible members of the group can be covered by a group policy regardless of age or physical condition. The premium for group insurance is calculated based on characteristics of the group as a whole, such as average age and degree of occupational hazard. It's generally less expensive than individual insurance. If you can't join a group, consider buying individual insurance. Unlike group insurance, individual insurance is purchased directly from an insurance company or agent. When you apply, you are evaluated in terms of how much risk you present to the insurance company. Your risk potential will determine whether you qualify for insurance and how much it will cost, depending on state laws. You must pay the full premiums yourself.
Know what's out there The cost and range of protection that your health insurance provides will depend on your insurance provider and the particular policy you purchase. You may have comprehensive health insurance that involves several types of coverage, or basic coverage that includes hospital, surgical, and physicians' expenses. In addition, major medical coverage is necessary in the event of a catastrophic accident or illness. Many plans also cover prescriptions, mental health services, and other health-related activities (e.g., health-club memberships). When it comes to health insurance, HMO, PPO, and POS are more than just letters. You need to know the types of health plans available so that you can make an informed decision. You can obtain health insurance through traditional insurers like Blue Cross/Blue Shield, health maintenance organizations (HMOs), preferred provider organizations (PPOs), point of service (POS) plans, and exclusive provider organizations (EPOs). • Traditional insurers: These plans usually allow you flexibility regarding choice of doctors and other health-care providers. Some policies reimburse you for covered expenses, while others make payments directly to medical providers. You will pay a deductible and a percentage of each bill, known as coinsurance. • HMOs: Health maintenance organizations cover only medical treatment provided by physicians and facilities within their networks. You must choose a primary care physician, who will either approve or deny any requests to see a specialist. You usually pay a fixed monthly fee for health-care coverage, as well as small co-payments (e.g., $10 for each office visit and prescription). • PPOs: Preferred provider organizations do not require members to seek care from PPO physicians and hospitals, but there is usually strong financial incentive to do so (in terms of percentage of reimbursement). You usually pay a fixed monthly fee for health-care coverage, as well as small co-payments (e.g., $10 for each office visit and prescription). • POSs: Point of service plans combine characteristics of the HMO and PPO. You must choose a primary care physician to be responsible for all of your referrals within the POS network. Although you can choose to go outside the network with this type of plan, your health care will be covered at a lower level.
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• EPOs: Exclusive provider organizations are basically PPOs with one important difference: EPOs provide no coverage for non-network care.
Read your contract You should have a basic understanding of what your policy does and does not cover. This may help you prevent an unexpected medical bill from arriving in your mailbox, because you'll know ahead of time, for instance, whether or not liposuction is covered. You must read your policy carefully, particularly the section on limitations and exclusions. The specifics will vary from policy to policy. In general, though, most policies will at least mention the following: • Pre-existing conditions: An illness or injury that began or occurred before you obtained coverage under the policy. These conditions are often excluded from coverage for a time period, depending on state laws. • Nonduplication of benefits: Benefits will not be paid for amounts reimbursed by other insurance companies. Your health insurance policy should also address the following issues: • Deductible: The amount that you must pay before insurance coverage begins (usually an annual figure • • Coinsurance: The portion of each medical bill for which you are responsible • Co-payment: The fixed fee that you pay for each doctor visit or prescription • Family coverage: Many group plans allow you to cover your spouse and dependents for an increased premium • Out-of-pocket maximum: This provision is designed to limit your liability for medical expenses in the calendar year; you won't have to make coinsurance payments in excess of this figure • Benefit ceiling: The maximum lifetime payout under the insurance policy, usually at least $1 million
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The Fundamentals of Disability Insurance Disability insurance pays benefits when you are unable to earn a living because you are sick or injured. Most disability policies pay you a benefit that replaces a percentage of your earned income when you can't work.
Why would you need disability insurance? Your chances of being disabled for longer than three months are much greater than your chances of dying prematurely, due in part to medicine that has made many fatal illnesses treatable. (Source: 1985 Commissioner's Individual Disability Table A--most recent data available.) Although this is good news, it increases your need to protect your income with disability insurance. Consider what might happen if you suffered an injury or illness and couldn't work for days, months, or even years. If you're single, do you have other means of support? If you're married, you may be able to rely on your spouse for income, but you probably also have many financial obligations, such as supporting your children and paying your mortgage. Could your spouse's income support your whole family? In addition, remember that you don't have to be working in a hazardous position to need disability insurance. Accidents happen not only on the job but also at home, and illness can strike anyone. If you own a business, disability insurance can help protect you in several ways. First, you can purchase an individual policy that will protect your own income. You can also purchase key person insurance designed to protect you from the impact that losing an important employee would have on your business. Finally, you can purchase a disability insurance policy that will enable you to buy your partner's business interest in the event that he or she becomes disabled.
What do you need to know about disability insurance? Once you become disabled and apply for benefits, you have to wait for a certain amount of time after the onset of your disability before you receive benefits. If you are applying for benefits under a private insurance policy, this amount of time (known as the elimination period) ranges from 30 to 365 days, although the most common period is 90 days. Group insurance policies through your employer will generally have a waiting period of no more than 8 days for short-term policies that pay benefits for up to six months, and 90 days for long-term policies that pay benefits up to age 65. You can purchase private disability income insurance policies that offer lifetime coverage, but they are very expensive. Most people buy policies that pay benefits up until age 65; however, two- and five-year benefit periods are also available. Because many injuries or illnesses do not totally disable you, many policies will offer a rider that will pay you a partial benefit if you can work part time and earn some income.
Where can you get disability insurance? In general, disability insurance can be split into two types: private insurance (individual or group policies purchased from an insurance company), and government insurance (social insurance provided through state or federal governments). Private disability insurance refers to disability insurance that you purchase through an insurance company. Many types of private disability insurance exist, including individual disability income policies, group policies, group association policies, and riders attached to life insurance policies. Depending on the type of policy chosen, private disability policies usually offer more comprehensive benefits to insured individuals than social insurance. Individually owned disability income policies may offer the most coverage (at a greater cost), followed by group policies offered by an employer or association. Check with your employer or professional association to see if you are eligible to participate in a group plan. If not, contact your insurance broker to look into individual coverage. Workers' compensation and Social Security are two well-known government disability insurance programs. In
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addition, five states (California, Hawaii, New Jersey, New York, and Rhode Island) have mandatory disability insurance programs that provide disability benefits to residents. If you are a civil service worker, a military servicemember, or other federal, state, or local government employee, many disability programs are set up to benefit you. In general, however, government disability insurance programs are designed to provide limited benefits under restrictive terms, and you should not rely on them (as many people mistakenly do) as your main source of income if you are disabled.
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Opening the Door to Homeowners Insurance Your home is your castle, so the saying goes. And you're going to want to protect it. Homeowners insurance can give you just the protection you need. It provides coverage if your home is damaged or destroyed. It also covers your family's possessions and provides you with compensation for liability claims, medical expenses, and other expenditures that result from property damage and bodily injury suffered by others.
Why you need it You may need homeowners insurance because your mortgage lender requires it. But even if you own your home outright, you still need homeowners insurance to protect that which you can't afford to lose. It's really that simple. After all, you've spent years building up a solid financial foundation for you and your family. Without homeowners insurance, all of that hard work can go down the drain in a matter of minutes when, for example, a tornado devastates your house, a burglar robs and vandalizes your home, your dog bites and severely injures your neighbor, or your mail carrier slips on your front steps and breaks his leg.
Property coverage The main purpose of homeowners insurance is to protect your home and other structures, like a shed or detached garage. Your policy will cover not only the cost of the damage (the exact amount depends on your policy) but also your living expenses (up to a limit) while you wait for your home to be repaired. In addition to protecting your home, the typical homeowners policy covers your personal property, both on and off premises. Your personal property consists of the contents inside your home (e.g., furniture, appliances, clothing, jewelry) as well as outdoor items (e.g., sporting equipment, lawn tools). It's important to note that homeowners policies set specific dollar limits for certain types of personal property (e.g., jewelry, coins). Although policies vary, a typical homeowners policy provides coverage for damage to property caused by: • Fire and lightning • Windstorm and hail • Explosions • Theft or vandalism • Vehicles • Smoke • Falling objects • Weight of ice, snow, and sleet • Freezing of plumbing, heating, or air conditioning system • Riots But be aware that homeowners insurance does not cover a wide variety of perils (e.g., flood, earthquake damage). You may need to purchase an endorsement or separate insurance policy to ensure adequate coverage in these instances.
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• Replacement cost: This pays you the cost of replacing damaged property, with no deduction for depreciation, but with a maximum dollar amount • Actual cash value: This pays you an amount equal to the replacement value of damaged property minus a depreciation allowance Keep in mind that before an insurance company reimburses you for a loss, you'll need to satisfy a deductible.
Liability coverage In addition to insuring your property, the typical homeowners policy includes liability protection that provides coverage for damages caused by your negligence. Medical payments to third parties and your legal costs for any lawsuits brought against you are also included. Most homeowners policies provide a standard amount of liability coverage (usually $100,000) per accident.
Purchasing homeowners insurance Homeowners insurance policies are written individually, typically at the time you purchase a home or when you take out a mortgage on a home. For the most part, you'll want to purchase enough property coverage to cover the replacement cost of your home and its contents. The amount of liability coverage you'll need to purchase will depend on the assets you would like to protect (e.g., home, car, investments). The cost of homeowners insurance depends on the amount of your coverage, any endorsements you add to the policy, and policy deductibles. But since premiums for similar policies vary from company to company, it pays to shop around and compare rates.
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Renters Insurance If you rent a house or an apartment, you might think you don't need insurance because you don't own the building. After all, your landlord probably has coverage. But your landlord's insurance covers only the building, not the contents. Without insurance of your own, you could be left with nothing in the event of a fire or burglary. That's why you need renters insurance (HO-4), a special kind of homeowners insurance. It provides no coverage for the building itself. Instead, it covers your personal possessions and protects you against liability claims if you rent a house or apartment.
Property damage coverage Renters insurance policies cover only losses that result from any of 17 named perils. If your property is lost or damaged as a result of one of these perils, your insurance company will compensate you for your loss. The covered perils are: • Fire or lightning • Windstorm or hail • Explosion • Riot or civil disturbance • Aircraft • Vehicles • Smoke • Vandalism or malicious mischief • Theft • Broken glass • Volcanic eruption • Falling objects • Weight of ice, snow, or sleet • Accidental discharge or overflow of water • Sudden and accidental tearing apart • Freezing • Artificially generated electrical charge Keep in mind that most renters insurance policies specifically exclude certain perils (e.g., earthquakes, flooding). As a result, you may need to purchase a separate policy to insure your possessions against damage caused by these hazards. Property coverage levels typically start somewhere around $15,000 and go up from there. As you increase your
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coverage level, your premiums increase as well. An insurance professional can help you determine the amount of coverage that you need. Or, you can visit one of the many insurance websites for more information.
Replacement cost vs. actual cash value These may sound like highly technical terms, but they are actually very important in determining how much money you will get if you ever have to file a claim. When you get a quote from your insurance agent, make sure you know which type of coverage is being described. Actual cash value coverage reimburses you for only the amount that your property was worth at the time it was stolen, damaged, or destroyed. This means that if all of your clothes suffer smoke damage in a fire, your insurance company probably will pay as much as you could've made at a yard sale--not the $4,000 you spent over the last couple of years to create the perfect wardrobe. Replacement cost coverage, by comparison, reimburses you for the amount that it will cost to replace your property. If you bought a $400 television two years ago, you'll receive enough money to go out and buy another television just like the old one. You will probably have to replace the lost property with your own money and submit the receipt before you receive compensation. Nevertheless, replacement cost coverage typically pays significantly more than actual cash value coverage.
Liability coverage Renters insurance also provides liability coverage. A typical renters insurance policy covers you for accidents and injuries that occur in your home, as well as accidents outside of your home that are caused by you or your property. (This does not include automobile accidents.) This liability coverage includes legal defense costs, if you are taken to court over such an accident. Standard levels of liability coverage are $100,000, $300,000, and $500,000. The amount of liability coverage that you need depends on your individual circumstances.
What does it cost? The cost of renters insurance varies greatly depending on where you live, the construction of the building, your deductible, and how much insurance coverage you need. But renters insurance is much less expensive than homeowners insurance. On average, you will pay somewhere between $100 and $300 annually for a basic policy providing about $30,000 worth of coverage for your property. Replacement cost coverage is somewhat more expensive than actual cash value coverage, but it is usually worth the extra money.
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Retirement Planning: The Basics You may have a very idealistic vision of retirement--doing all of the things that you never seem to have time to do now. But how do you pursue that vision? Social Security may be around when you retire, but the benefit that you get from Uncle Sam may not provide enough income for your retirement years. To make matters worse, few employers today offer a traditional company pension plan that guarantees you a specific income at retirement. On top of that, people are living longer and must find ways to fund those additional years of retirement. Such eye-opening facts mean that today, sound retirement planning is critical. But there's good news: Retirement planning is easier than it used to be, thanks to the many tools and resources available. Here are some basic steps to get you started.
Determine your retirement income needs It's common to discuss desired annual retirement income as a percentage of your current income. Depending on who you're talking to, that percentage could be anywhere from 60 to 90 percent, or even more. The appeal of this approach lies in its simplicity. The problem, however, is that it doesn't account for your specific situation. To determine your specific needs, you may want to estimate your annual retirement expenses. Use your current expenses as a starting point, but note that your expenses may change dramatically by the time you retire. If you're nearing retirement, the gap between your current expenses and your retirement expenses may be small. If retirement is many years away, the gap may be significant, and projecting your future expenses may be more difficult. Remember to take inflation into account. The average annual rate of inflation over the past 20 years has been approximately 3 percent. (Source: Consumer price index (CPI-U) data published annually by the U.S. Department of Labor, 2009.) And keep in mind that your annual expenses may fluctuate throughout retirement. For instance, if you own a home and are paying a mortgage, your expenses will drop if the mortgage is paid off by the time you retire. Other expenses, such as health-related expenses, may increase in your later retirement years. A realistic estimate of your expenses will tell you about how much yearly income you'll need to live comfortably.
Calculate the gap Once you have estimated your retirement income needs, take stock of your estimated future assets and income. These may come from Social Security, a retirement plan at work, a part-time job, and other sources. If estimates show that your future assets and income will fall short of what you need, the rest will have to come from additional personal retirement savings.
Figure out how much you'll need to save By the time you retire, you'll need a nest egg that will provide you with enough income to fill the gap left by your other income sources. But exactly how much is enough? The following questions may help you find the answer: • At what age do you plan to retire? The younger you retire, the longer your retirement will be, and the more money you'll need to carry you through it. • What is your life expectancy? The longer you live, the more years of retirement you'll have to fund. • What rate of growth can you expect from your savings now and during retirement? Be conservative when projecting rates of return. • Do you expect to dip into your principal? If so, you may deplete your savings faster than if you just live off investment earnings. Build in a cushion to guard against these risks.
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Build your retirement fund: Save, save, save When you know roughly how much money you'll need, your next goal is to save that amount. First, you'll have to map out a savings plan that works for you. Assume a conservative rate of return (e.g., 5 to 6 percent), and then determine approximately how much you'll need to save every year between now and your retirement to reach your goal. The next step is to put your savings plan into action. It's never too early to get started (ideally, begin saving in your 20s). To the extent possible, you may want to arrange to have certain amounts taken directly from your paycheck and automatically invested in accounts of your choice (e.g., 401(k) plans, payroll deduction savings). This arrangement reduces the risk of impulsive or unwise spending that will threaten your savings plan--out of sight, out of mind. If possible, save more than you think you'll need to provide a cushion.
Understand your investment options You need to understand the types of investments that are available, and decide which ones are right for you. If you don't have the time, energy, or inclination to do this yourself, hire a financial professional. He or she will explain the options that are available to you, and will assist you in selecting investments that are appropriate for your goals, risk tolerance, and time horizon.
Use the right savings tools The following are among the most common retirement savings tools, but others are also available. Employer-sponsored retirement plans that allow employee deferrals (like 401(k), 403(b), SIMPLE, and 457(b) plans) are powerful savings tools. Your contributions come out of your salary as pretax contributions (reducing your current taxable income) and any investment earnings are tax deferred until withdrawn. These plans often include employer-matching contributions and should be your first choice when it comes to saving for retirement. Both 401(k) and 403(b) plans can also allow after-tax Roth contributions. While Roth contributions don’t offer an immediate tax benefit, qualified distributions from your Roth account are federal income tax free. IRAs, like employer-sponsored retirement plans, feature tax deferral of earnings. If you are eligible, traditional IRAs may enable you to lower your current taxable income through deductible contributions. Withdrawals, however, are taxable as ordinary income (unless you've made nondeductible contributions, in which case a portion of the withdrawals will not be taxable). Roth IRAs don't permit tax-deductible contributions but allow you to make completely tax-free withdrawals under certain conditions. With both types, you can typically choose from a wide range of investments to fund your IRA. Annuities are generally funded with after-tax dollars, but their earnings are tax deferred (you pay tax on the portion of distributions that represents earnings). There is generally no annual limit on contributions to an annuity. A typical annuity provides income payments beginning at some future time, usually retirement. The payments may last for your life, for the joint life of you and a beneficiary, or for a specified number of years (guarantees are subject to the claims-paying ability of the issuing insurance company). Note: In addition to any income taxes owed, a 10 percent premature distribution penalty tax may apply to distributions made from employer-sponsored retirement plans, IRAs, and annuities prior to age 59½ (prior to age 55 for employer-sponsored retirement plans in some circumstances).
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Taking Advantage of Employer-Sponsored Retirement Plans Employer-sponsored qualified retirement plans such as 401(k)s are some of the most powerful retirement savings tools available. If your employer offers such a plan and you're not participating in it, you should be. Once you're participating in a plan, try to take full advantage of it.
Understand your employer-sponsored plan Before you can take advantage of your employer's plan, you need to understand how these plans work. Read everything you can about the plan and talk to your employer's benefits officer. You can also talk to a financial planner, a tax advisor, and other professionals. Recognize the key features that many employer-sponsored plans share: • Your employer automatically deducts your contributions from your paycheck. You may never even miss the money--out of sight, out of mind. • You decide what portion of your salary to contribute, up to the legal limit. And you can usually change your contribution amount on certain dates during the year. • With 401(k), 403(b), 457(b), SARSEPs, and SIMPLE plans, you contribute to the plan on a pretax basis. Your contributions come off the top of your salary before your employer withholds income taxes. • • Your 401(k) or 403(b) plan may let you make after-tax Roth contributions--there's no up-front tax benefit but qualified distributions are entirely tax free. • Your employer may match all or part of your contribution up to a certain level. You typically become vested in these employer dollars through years of service with the company. • Your funds grow tax deferred in the plan. You don't pay taxes on investment earnings until you withdraw your money from the plan. • You'll pay income taxes and possibly an early withdrawal penalty if you withdraw your money from the plan. • You may be able to borrow a portion of your vested balance (up to $50,000) at a reasonable interest rate. • Your creditors cannot reach your plan funds to satisfy your debts.
Contribute as much as possible The more you can save for retirement, the better your chances of retiring comfortably. If you can, max out your contribution up to the legal limit. If you need to free up money to do that, try to cut certain expenses. Why put your retirement dollars in your employer's plan instead of somewhere else? One reason is that your pretax contributions to your employer's plan lower your taxable income for the year. This means you save money in taxes when you contribute to the plan--a big advantage if you're in a high tax bracket. For example, if you earn $100,000 a year and contribute $10,000 to a 401(k) plan, you'll pay income taxes on $90,000 instead of $100,000. (Roth contributions don't lower your current taxable income but qualified distributions of your contributions and earnings--that is, distributions made after you satisfy a five-year holding period and reach age 59½, become disabled, or die--are tax free.)
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Another reason is the power of tax-deferred growth. Your investment earnings compound year after year and aren't taxable as long as they remain in the plan. Over the long term, this gives you the opportunity to build an impressive sum in your employer's plan. You should end up with a much larger balance than somebody who invests the same amount in taxable investments at the same rate of return. For example, you participate in your employer's tax-deferred plan (Account A). You also have a taxable investment account (Account B). Each account earns 8 percent per year. You're in the 28 percent tax bracket and contribute $10,000 to each account at the end of every year. You pay the yearly income taxes on Account B's earnings using funds from that same account. At the end of 30 years, Account A is worth $1,132,832, while Account B is worth only $757,970. That's a difference of over $370,000. (Note: This example is for illustrative purposes only and does not represent a specific investment.)
Capture the full employer match If you can't max out your 401(k) or other plan, you should at least try to contribute up to the limit your employer will match. Employer contributions are basically free money once you're vested in them (check with your employer to find out when vesting happens). By capturing the full benefit of your employer's match, you'll be surprised how much faster your balance grows. If you don't take advantage of your employer's generosity, you could be passing up a significant return on your money. For example, you earn $30,000 a year and work for an employer that has a matching 401(k) plan. The match is 50 cents on the dollar up to 6 percent of your salary. Each year, you contribute 6 percent of your salary ($1,800) to the plan and receive a matching contribution of $900 from your employer.
Evaluate your investment choices carefully Most employer-sponsored plans give you a selection of mutual funds or other investments to choose from. Make your choices carefully. The right investment mix for your employer's plan could be one of your keys to a comfortable retirement. That's because over the long term, varying rates of return can make a big difference in the size of your balance. Research the investments available to you. How have they performed over the long term? Have they held their own during down markets? How much risk will they expose you to? Which ones are best suited for long-term goals like retirement? You may also want to get advice from a financial professional (either your own, or one provided through your plan). He or she can help you pick the right investments based on your personal goals, your attitude toward risk, how long you have until retirement, and other factors. Your financial professional can also help you coordinate your plan investments with your overall investment portfolio. Finally, you may be able to change your investment allocations or move money between the plan's investments on specific dates during the year (e.g., at the start of every month or every quarter).
Know your options when you leave your employer When you leave your job, your vested balance in your former employer's retirement plan is yours to keep. You have several options at that point, including: • Taking a lump-sum distribution. This is often a bad idea, because you'll pay income taxes and possibly a penalty on the amount you withdraw. Plus, you're giving up continued tax-deferred growth. • Leaving your funds in the old plan, growing tax deferred (your old plan may not permit this if your balance is less than $5,000, or if you've reached the plan's normal retirement age--typically age 65). This may be a good idea if you're happy with the plan's investments or you need time to decide what to do with your money. • Rolling your funds over to an IRA or a new employer's plan if the plan accepts rollovers. This is often a smart move because there will be no income taxes or penalties if you do the rollover properly (your old
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plan will withhold 20 percent for income taxes if you receive the funds before rolling them over). Plus, your funds will keep growing tax deferred in the IRA or new plan.
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Deciding What to Do with Your 401(k) Plan When You Change Jobs When you change jobs, you need to decide what to do with the money in your 401(k) plan. Should you leave it where it is, or take it with you? Should you roll the money over into an IRA or into your new employer's retirement plan? As you consider your options, keep in mind that one of the greatest advantages of a 401(k) plan is that it allows you to save for retirement on a tax-deferred basis. When changing jobs, it's essential to consider the continued tax-deferral of these retirement funds, and, if possible, to avoid current taxes and penalties that can eat into the amount of money you've saved.
Take the money and run When you leave your current employer, you can withdraw your 401(k) funds in a lump sum. To do this, simply instruct your 401(k) plan administrator to cut you a check. Then you're free to do whatever you please with those funds. You can use them to meet expenses (e.g., medical bills, college tuition), put them toward a large purchase (e.g., a home or car), or invest them elsewhere. While cashing out is certainly tempting, it's almost never a good idea. Taking a lump sum distribution from your 401(k) can significantly reduce your retirement savings, and is generally not advisable unless you urgently need money and have no other alternatives. Not only will you miss out on the continued tax-deferral of your 401(k) funds, but you'll also face an immediate tax bite. First, you'll have to pay federal (and possibly state) income tax on the money you withdraw (except for the amount of any after-tax contributions you've made). If the amount is large enough, you could even be pushed into a higher tax bracket for the year. If you're under age 59½, you'll generally have to pay a 10 percent premature distribution penalty tax in addition to regular income tax, unless you qualify for an exception. (For instance, you're generally exempt from this penalty if you're 55 or older when you leave your job.) And, because your employer is also required to withhold 20 percent of your distribution for federal taxes, the amount of cash you get may be significantly less than you expect. Note: Because lump-sum distributions from 401(k) plans involve complex tax issues, especially for individuals born before 1936, consult a tax professional for more information. Note: If your 401(k) plan allows Roth contributions, qualified distributions of your Roth contributions and earnings will be free from federal income tax. However, no distributions will be qualified until 2011 at the earliest. If you receive a nonqualified distribution from a Roth 401(k) account only the earnings (not your original Roth contributions) will be subject to income tax and potential early distribution penalties.
Leave the funds where they are One option when you change jobs is simply to leave the funds in your old employer's 401(k) plan where they will continue to grow tax deferred. However, you may not always have this opportunity. If your vested 401(k) balance is $5,000 or less, your employer can require you to take your money out of the plan when you leave the company. (Your vested 401(k) balance consists of anything you've contributed to the plan, as well as any employer contributions you have the right to receive.) Leaving your money in your old employer's 401(k) plan may be a good idea if you're happy with the investment alternatives offered or you need time to explore other options. You may also want to leave the funds where they are temporarily if your new employer offers a 401(k) plan but requires new employees to work for the company for a certain length of time before allowing them to participate. When the waiting period is up, you can have the
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plan administrator of your old employer's 401(k) transfer your funds to your new employer's 401(k) (assuming the new plan accepts rollover contributions).
Transfer the funds directly to your new employer's retirement plan or to an IRA (a direct rollover) Just as you can always withdraw the funds from your 401(k) when you leave your job, you can always roll over your 401(k) funds to your new employer's retirement plan if the new plan allows it. You can also roll over your funds to a traditional IRA. You can either transfer the funds to a traditional IRA that you already have, or open a new IRA to receive the funds. There's no dollar limit on how much 401(k) money you can transfer to an IRA. You can also roll over ("convert") your 401(k) money to a Roth IRA. The taxable portion of your distribution from the 401(k) plan will be included in your income at the time of the rollover. (A special rule applies to 2010 conversions only--you can elect to include all of the resulting income on your 2010 federal tax return, or instead report half on your 2011 return, and half on your 2012 return.) If you've made Roth contributions to your 401(k) plan you can only roll those funds over into another Roth 401(k) plan or Roth 403(b) plan (if your new employer's plan accepts rollovers) or to a Roth IRA. Generally, the best way to roll over funds is to have your 401(k) plan directly transfer your funds to your new employer's retirement plan or to an IRA you've established. A direct rollover is simply a transfer of assets from the trustee or custodian of one retirement savings plan to the trustee or custodian of another (a "trustee-to-trustee transfer"). It's a seamless process that allows your retirement savings to remain tax deferred without interruption. Once you fill out the necessary paperwork, your 401(k) funds move directly to your new employer's retirement plan or to your IRA; the money never passes through your hands. And, if you directly roll over your 401(k) funds following federal rollover rules, no federal income tax will be withheld. Note: In some cases, your old plan may mail you a check made payable to the trustee or custodian of your employer-sponsored retirement plan or IRA. If that happens, don't be concerned. This is still considered to be a direct rollover. Bring or mail the check to the institution acting as trustee or custodian of your retirement plan or IRA.
Have the distribution check made out to you, then deposit the funds in your new employer's retirement plan or in an IRA (an indirect rollover) You can also roll over funds to an IRA or another employer-sponsored retirement plan (if that plan accepts rollover contributions) by having your 401(k) distribution check made out to you and depositing the funds to your new retirement savings vehicle yourself within 60 days. This is sometimes referred to as an indirect rollover. However, think twice before choosing this option. Because you effectively have use of this money until you redeposit it, your 401(k) plan is required to withhold 20 percent for federal income taxes on the taxable portion of your distribution (you get credit for this withholding when you file your federal income tax return for the year). Unless you make up this 20 percent with out-of-pocket funds when you make your rollover deposit, the 20 percent withheld will be considered a taxable distribution, subject to regular income tax and generally a 10 percent premature distribution penalty (if you're under age 59½). If you do choose to receive the funds through an indirect rollover, don't put off redepositing the funds. If you don't make your rollover deposit within 60 days, the entire amount will be considered a taxable distribution.
Which option is appropriate? Assuming that your new employer offers a retirement plan that will accept rollover contributions, is it better to roll over your traditional 401(k) funds to the new plan or to a traditional IRA? Each retirement savings vehicle has advantages and disadvantages. Here are some points to consider:
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• A traditional IRA can offer almost unlimited investment options; a 401(k) plan limits you to the investment options offered by the plan • A traditional IRA can be converted to a Roth IRA if you qualify • A 401(k) may offer a higher level of protection from creditors • A 401(k) may allow you to borrow against the value of your account, depending on plan rules • A 401(k) offers more flexibility if you want to contribute to the plan in the future Finally, no matter which option you choose, you may want to discuss your particular situation with a tax professional (as well as your plan administrator) before deciding what to do with the funds in your 401(k).
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Choosing a Beneficiary for Your IRA or 401(k) Selecting beneficiaries for retirement benefits is different from choosing beneficiaries for other assets such as life insurance. With retirement benefits, you need to know the impact of income tax and estate tax laws in order to select the right beneficiaries. Although taxes shouldn't be the sole determining factor in naming your beneficiaries, ignoring the impact of taxes could lead you to make an incorrect choice. In addition, if you're married, beneficiary designations may affect the size of minimum required distributions to you from your IRAs and retirement plans while you're alive.
Paying income tax on most retirement distributions Most inherited assets such as bank accounts, stocks, and real estate pass to your beneficiaries without income tax being due. However, that's not usually the case with 401(k) plans and IRAs. Beneficiaries pay ordinary income tax on distributions from 401(k) plans and traditional IRAs. With Roth IRAs and Roth 401(k)s, however, your beneficiaries can receive the benefits free from income tax if all of the tax requirements are met. That means you need to consider the impact of income taxes when designating beneficiaries for your 401(k) and IRA assets. For example, if one of your children inherits $100,000 cash from you and another child receives your 401(k) account worth $100,000, they aren't receiving the same amount. The reason is that all distributions from the 401(k) plan will be subject to income tax at ordinary income tax rates, while the cash isn't subject to income tax when it passes to your child upon your death. Similarly, if one of your children inherits your taxable traditional IRA and another child receives your income-tax-free Roth IRA, the bottom line is different for each of them.
Naming or changing beneficiaries When you open up an IRA or begin participating in a 401(k), you are given a form to complete in order to name your beneficiaries. Changes are made in the same way--you complete a new beneficiary designation form. A will or trust does not override your beneficiary designation form. However, spouses may have special rights under federal or state law. It's a good idea to review your beneficiary designation form at least every two to three years. Also, be sure to update your form to reflect changes in financial circumstances. Beneficiary designations are important estate planning documents. Seek legal advice as needed.
Designating primary and secondary beneficiaries When it comes to beneficiary designation forms, you want to avoid gaps. If you don't have a named beneficiary who survives you, your estate may end up as the beneficiary, which is not always the best result. Your primary beneficiary is your first choice to receive retirement benefits. You can name more than one person or entity as your primary beneficiary. If your primary beneficiary doesn't survive you or decides to decline the benefits (the tax term for this is a disclaimer), then your secondary (or "contingent") beneficiaries receive the benefits.
Having multiple beneficiaries You can name more than one beneficiary to share in the proceeds. You just need to specify the percentage each beneficiary will receive (the shares do not have to be equal). You should also state who will receive the proceeds
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should a beneficiary not survive you. In some cases, you'll want to designate a different beneficiary for each account or have one account divided into subaccounts (with a beneficiary for each subaccount). You'd do this to allow each beneficiary to use his or her own life expectancy in calculating required distributions after your death. This, in turn, can permit greater tax deferral (delay) and flexibility for your beneficiaries in paying income tax on distributions.
Avoiding gaps or naming your estate as a beneficiary There are two ways your retirement benefits could end up in your probate estate. Probate is the court process by which assets are transferred from someone who has died to the heirs or beneficiaries entitled to those assets. First, you might name your estate as the beneficiary. Second, if no named beneficiary survives you, your probate estate may end up as the beneficiary by default. If your probate estate is your beneficiary, several problems can arise. If your estate receives your retirement benefits, the opportunity to maximize tax deferral by spreading out distributions may be lost. In addition, probate can mean paying attorney's and executor's fees and delaying the distribution of benefits.
Naming your spouse as a beneficiary When it comes to taxes, your spouse is usually the best choice for a primary beneficiary. A spousal beneficiary has the greatest flexibility for delaying distributions that are subject to income tax. In addition to rolling over your 401(k) or IRA to his or her IRA, a surviving spouse can decide to treat your IRA as his or her own IRA. This can provide more tax and planning options. If your spouse is more than 10 years younger than you, then naming your spouse can also reduce the size of any required taxable distributions to you from retirement assets while you're alive. This can allow more assets to stay in the retirement account longer and delay the payment of income tax on distributions. Although naming a surviving spouse can produce the best income tax result, that isn't necessarily the case with death taxes. One possible downside to naming your spouse as the primary beneficiary is that it will increase the size of your spouse's estate for death tax purposes. That's because at your death, your spouse can inherit an unlimited amount of assets and defer federal death tax until both of you are deceased (note: special tax rules and requirements apply for a surviving spouse who is not a U.S. citizen). However, this may result in death tax or increased death tax when your spouse dies. If your spouse's taxable estate for federal tax purposes at his or her death exceeds the applicable exclusion amount (formerly known as the unified credit), then federal death tax may be due at his or her death. The applicable exclusion amount is $3.5 million in 2009 ($2 million in 2008).
Naming other individuals as beneficiaries You may have some limits on choosing beneficiaries other than your spouse. No matter where you live, federal law dictates that your surviving spouse be the primary beneficiary of your 401(k) plan benefit unless your spouse signs a timely, effective written waiver. And if you live in one of the community property states, your spouse may have rights related to your IRA regardless of whether he or she is named as the primary beneficiary. Keep in mind that a nonspouse beneficiary cannot roll over your 401(k) or IRA to his or her own IRA. However, a nonspouse beneficiary may be able to roll over all or part of your 401(k) benefits to an inherited IRA (plans are not required to offer this option until 2010).
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Naming a trust as a beneficiary You must follow special tax rules when naming a trust as a beneficiary, and there may be income tax complications. Seek legal advice before designating a trust as a beneficiary.
Naming a charity as a beneficiary In general, naming a charity as the primary beneficiary will not affect required distributions to you during your lifetime. However, after your death, having a charity named with other beneficiaries on the same asset could affect the tax-deferral possibilities of the noncharitable beneficiaries, depending on how soon after your death the charity receives its share of the benefits.
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Understanding Defined Benefit Plans You may be counting on funds from a defined benefit plan to help you achieve a comfortable retirement. Often referred to as traditional pension plans, defined benefit plans promise to pay you a specified amount at retirement. To help you understand the role a defined benefit plan might play in your retirement savings strategy, here's a look at some basic plan attributes. But since every employer's plan is a little different, you'll need to read the summary plan description, or SPD, provided by your company to find out the details of your own plan.
What are defined benefit plans? Defined benefit plans are qualified employer-sponsored retirement plans. Like other qualified plans, they offer tax incentives both to employers and to participating employees. For example, your employer can generally deduct contributions made to the plan. And you generally won't owe tax on those contributions until you begin receiving distributions from the plan (usually during retirement). However, these tax incentives come with strings attached--all qualified plans, including defined benefit plans, must comply with a complex set of rules under the Employee Retirement Income Security Act of 1974 (ERISA) and the Internal Revenue Code.
How do defined benefit plans work? A defined benefit plan guarantees you a certain benefit when you retire. How much you receive generally depends on factors such as your salary, age, and years of service with the company. Each year, pension actuaries calculate the future benefits that are projected to be paid from the plan, and ultimately determine what amount, if any, needs to be contributed to the plan to fund that projected benefit payout. Employers are normally the only contributors to the plan. But defined benefit plans can require that employees contribute to the plan, although it's uncommon. You may have to work for a specific number of years before you have a permanent right to any retirement benefit under a plan. This is generally referred to as "vesting." If you leave your job before you fully vest in an employer's defined benefit plan, you won't get full retirement benefits from the plan.
How are retirement benefits calculated? Retirement benefits under a defined benefit plan are based on a formula. This formula can provide for a set dollar amount for each year you work for the employer, or it can provide for a specified percentage of earnings. Many plans calculate an employee's retirement benefit by averaging the employee's earnings during the last few years of employment (or, alternatively, averaging an employee's earnings for his or her entire career), taking a specified percentage of the average, and then multiplying it by the employee's number of years of service. Note: Many defined benefit pension plan formulas also reduce pension benefits by a percentage of the amount of Social Security benefits you can expect to receive.
How will retirement benefits be paid? Many defined benefit plans allow you to choose how you want your benefits to be paid. Payment options commonly offered include: • A single life annuity: You receive a fixed monthly benefit until you die; after you die, no further payments are made to your survivors. • A qualified joint and survivor annuity: You receive a fixed monthly benefit until you die; after you die,
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your surviving spouse will continue to receive benefits (in an amount equal to at least 50 percent of your benefit) until his or her death. • A lump-sum payment: You receive the entire value of your plan in a lump sum; no further payments will be made to you or your survivors. Choosing the right payment option is important, because the option you choose can affect the amount of benefit you ultimately receive. You'll want to consider all of your options carefully, and compare the benefit payment amounts under each option. Because so much may hinge on this decision, you may want to discuss your options with a financial advisor.
What are some advantages offered by defined benefit plans? • Defined benefit plans can be a major source of retirement income. They're generally designed to replace a certain percentage (e.g., 70 percent) of your preretirement income when combined with Social Security. • Benefits do not hinge on the performance of underlying investments, so you know ahead of time how much you can expect to receive at retirement. • Most benefits are insured up to a certain annual maximum by the federal government through the Pension Benefit Guaranty Corporation (PBGC).
How do defined benefit plans differ from defined contribution plans? Though it's easy to do, don't confuse a defined benefit plan with another type of qualified retirement plan, the defined contribution plan (e.g., 401(k) plan, profit-sharing plan). As the name implies, a defined benefit plan focuses on the ultimate benefits paid out. Your employer promises to pay you a certain amount at retirement and is responsible for making sure that there are enough funds in the plan to eventually pay out this amount, even if plan investments don't perform well. In contrast, defined contribution plans focus primarily on current contributions made to the plan. Your plan specifies the contribution amount you're entitled to each year (contributions made by either you or your employer), but your employer is not obligated to pay you a specified amount at retirement. Instead, the amount you receive at retirement will depend on the investments you choose and how those investments perform. Some employers offer hybrid plans. Hybrid plans include defined benefit plans that have many of the characteristics of defined contribution plans. One of the most popular forms of a hybrid plan is the cash balance plan.
What are cash balance plans? Cash balance plans are defined benefit plans that in many ways resemble defined contribution plans. Like defined benefit plans, they are obligated to pay you a specified amount at retirement, and are insured by the federal government. But they also offer one of the most familiar features of a defined contribution plan: Retirement funds accumulate in an individual account (in this case, a hypothetical account). This allows you to easily track how much retirement benefit you have accrued. And your benefit is portable. If you leave your employer, you can generally opt to receive a lump-sum distribution of your vested account balance. These funds can be rolled over to an individual retirement account (IRA) or to your new employer's retirement plan.
What you should do now It's never too early to start planning for retirement. Your pension income, along with Social Security, personal savings, and investment income, can help you realize your dream of living well in retirement.
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Start by finding out how much you can expect to receive from your defined benefit plan when you retire. Your employer will send you this information every year. But read the fine print. Estimates often assume that you'll retire at age 65 with a single life annuity. Your monthly benefit could end up to be far less if you retire early or receive a joint and survivor annuity. Finally, remember that most defined benefit plans don't offer cost-of-living adjustments, so benefits that seem generous now may be worth a lot less in the future when inflation takes its toll. Here are some other things you can do to make the most of your defined benefit plan: • Read the summary plan description. It provides details about your company's pension plan and includes important information, such as vesting requirements and payment options. Address questions to your plan administrator if there's anything you don't understand. • Review your account information, making sure you know what benefits you are entitled to. Do this periodically, checking your Social Security number, date of birth, and the compensation used to calculate your benefits, since these are common sources of error. • Notify your plan administrator of any life changes that may affect your benefits (e.g., marriage, divorce, death of spouse). • Keep track of the pension information for each company you've worked for. Make sure you have copies of pension plan statements that accurately reflect the amount of benefits you're entitled to receive. • Watch out for changes. Employers are allowed to change and even terminate pension plans, but you will receive ample notice. The key is, read all notices you receive. • Assess the impact of changing jobs on your pension. Consider staying with one employer at least until you're vested. Keep in mind that the longer you stay with one employer, the more you're likely to receive at retirement.
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Evaluating a Job Offer If you're considering changing jobs, you're not alone. Today, few people stay with one employer until retirement. It's likely that at some point during your career, you'll be looking for a new job. You may be looking to make more money or seeking greater career opportunities. Or, you may be forced to look for new employment if your company restructures. Whatever the reason, you'll eventually be faced with an important decision: When you receive an offer, should you take it? You can find the job that's right for you by following a few sensible steps.
How does the salary offer stack up? What if the salary you've been offered is less than you expected? First, find out how frequently you can expect performance reviews and/or pay increases. Expect the company to increase your salary at least annually. To fully evaluate the salary being offered, compare it with the average pay of other professionals working in the same field. You can do this by talking to others who hold similar jobs, calling a recruiter (i.e., a headhunter), or doing research at your local library or on the Internet. The Bureau of Labor Statistics is a good source for this information.
Bonuses and other benefits Next, ask about bonuses, commissions, and profit-sharing plans that can increase your total income. Find out what benefits the company offers and how much of the cost you'll bear as an employee. Don't overlook the value of good employee benefits. They can add the equivalent of thousands of dollars to your base pay. Ask to look over the benefits package available to new employees. Also, find out what opportunities exist for you to move up in the company. This includes determining what the company's goals are and the type of employee that the company values.
Personal and professional consequences Will you be better off financially if you take the job? Will you work a lot of overtime, and is the scheduling somewhat flexible? Must you travel extensively? Consider the related costs of taking the job, including the cost of transportation, new clothes, a cell phone, increased day-care expenses, and the cost of your spouse leaving his or her job if you are required to relocate. Also, take a look at the company's work environment. You may be getting a good salary and great benefits, but you may still be unhappy if the work environment doesn't suit you. Try to meet the individuals you will be closely working with. It may also be helpful to find out something about the company's key executives and to read a copy of the mission statement.
Deciding whether to accept the job offer You've spent a lot of time and energy researching and evaluating a potential job, but the hardest part is yet to come: Now that you have received a job offer, you must decide whether to accept it. Review the information you've gathered. Think back to the interview, paying close attention to your feelings and intuition about the company, the position, and the people you came in contact with. Consider not only the salary and benefits you've been offered, but also the future opportunities you might expect with the company. How strong is the company financially, and is it part of a growing industry? Decide if you would be happy and excited working there. If you're having trouble making a decision, make a list of the pros and cons. It may soon become clear whether the positives outweigh the negatives, or vice versa.
Negotiating a better offer Sometimes you really want the job you've been offered, but you find the salary, benefits, or hours unfavorable. In this case, it's time to negotiate. You may be reluctant to negotiate because you fear that the company will rescind the offer or respond negatively. However, if you truly want the job but find the offer unacceptable, you may as well
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negotiate for a better offer rather than walk away from a great opportunity without trying. The first step in negotiating is to tell your potential employer specifically what it is that you want. State the amount of money you want or the exact hours you wish to work. Make it clear that if the company accepts your terms, you are willing and able to accept its offer immediately. What happens next? It's possible that the company will accept your counteroffer. Or, the company may reject it, because either company policy does not allow negotiation or the company is unwilling to move from its original offer. The company may make you a second offer, typically a compromise between its first offer and your counteroffer. In either case, the ball is back in your court. If you still can't decide whether to take the job, ask for a day or two to think about it. Take your time. Accepting a new job is a big step.
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Am I Having Enough Withheld? If you fail to estimate your federal income tax withholding properly, it may cost you in a variety of ways. If you receive an income tax refund, it essentially means that you provided the IRS with an interest-free loan during the year. By comparison, if you owe taxes when you file your return, you may have to scramble for cash at tax time--and possibly owe interest and penalties to the IRS as well. When determining the correct withholding amount for your salary or wages, your objective should be to have just enough taxes withheld to prevent you from incurring penalties when your tax return is due. (You may owe some money at the time you file your return, but it shouldn't be much.) You can accomplish this by reading and understanding IRS Publication 505 and 919, properly completing Form W-4 (and accompanying worksheets), and providing an updated Form W-4 to your employer when your circumstances change significantly.
Form W-4 helps you determine the proper withholding amount Two factors determine the amount of income tax that your employer withholds from your regular pay: the amount you earn and the information you provide on Form W-4. This form asks you for three pieces of information: • The number of withholding allowances you want to claim: You can claim up to the maximum number you're entitled to, claim less than you're entitled to, or claim zero. • Whether you want taxes to be withheld at the single or married rate: The married status, which is associated with a lower withholding rate, should generally be selected only by those taxpayers who are married and file a joint return. Other people (including those who are married and file separately) should generally have taxes withheld at the higher, single rate. • The additional amount (if any) you want withheld from your paycheck: This is optional; you can specify any additional amount of money you want withheld. When both spouses work and have taxes withheld at the married rate, they sometimes end up with insufficient taxes withheld. If this happens to you, remember that you can always choose to withhold at the single rate. In addition, you can determine the proper withholding amount by completing Form W-4's two-earner/two-job worksheet.
Complete the worksheets to claim the correct number of allowances To understand Form W-4, you must understand allowances. Think of allowances as cash in your pocket at the time that you receive your paycheck. The more allowances you claim, the less taxes are taken from your paycheck (and the more cash ends up in your pocket on payday). For example, you can maximize the amount withheld from your paycheck to ensure that you have enough tax withheld to cover your tax liability by claiming zero allowances. This will reduce the amount of cash you take home in your paycheck. The following factors determine your number of allowances: • The number of personal and dependency exemptions that you claim on your federal income tax return • The number of jobs that you work • The deductions, adjustments to income, and credits that you expect to take during the year • Your filing status • Whether your spouse works To claim the correct number of allowances, you should complete Form W-4's worksheets. These include a
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personal allowances worksheet, a deductions and adjustments worksheet, and a two-earner/two-job worksheet. IRS Publication 505 (Tax Withholding and Estimated Tax) explains these worksheets.
Check your withholding To avoid surprises at tax time, it's a good idea to periodically check your withholding. If you accurately complete all Form W-4 worksheets and don't have significant nonwage income (e.g., interest and dividends), it's likely that your employer will withhold an amount close to the tax you'll owe on your return. But in the following cases, accurate completion of the Form W-4 worksheets alone won't guarantee that you'll have the correct amount of tax withheld: • When you're married and both spouses work, or if either of you start or stop working • When you or your spouse are working more than one job • When you have significant nonwage income, such as interest, dividends, alimony, unemployment compensation, or self-employment income, or the amount of your nonwage income changes • When you'll owe other taxes on your return, such as self-employment tax or household employment tax • When you have a lifestyle change (e.g., marriage, divorce, birth or adoption of a child, new home, retirement) that affects the tax deductions or credits you may claim • When there are tax law changes that affect the amount of tax you'll owe In these cases, IRS Publication 919 (How Do I Adjust My Tax Withholding?) can help you compare the total tax that you'll withhold for the year with the tax that you expect to owe on your return. It can also help you determine any additional amount you may need to withhold from each paycheck to avoid owing taxes when you file your return. Alternatively, it may help you identify if you're having too much tax withheld. If you find that you need to make changes to your withholding, you can do so at any time simply by submitting a new Form W-4 to your employer.
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Qualifying for the Home Office Deduction Working from home can certainly provide you with personal benefits, such as a flexible schedule and more family time. But increasing numbers of people are discovering the tax advantages as well. It's no secret that you generally can't deduct certain personal expenses (e.g., homeowners insurance, utilities, and home repairs) on your federal income tax return. But if you're using part of your home as a home office, you may be able to write off part of these expenses. To qualify for the home office deduction, you must first understand the IRS requirements.
The home office deduction is really a group of deductions First of all, what is a home office? A home office is a room in your home, a portion of a room in your home, or a separate building next to your home (such as a converted garage or barn) that you use exclusively and regularly to conduct business activities. This definition is important, because you may be able to deduct part of your housing expenses (such as rent, utilities, and insurance) on your federal income tax return if you have a home office. This deduction (or group of deductions) is known as a home office deduction. To take the deduction, you'll need to file Form 8829 with the IRS. To even consider the home office deduction, though, your at-home business activities must involve a trade or business--a hobby won't do. Now let's consider the IRS requirements. To qualify for a home office deduction, you must meet two threshold tests--the place of business test, and the regular and exclusive use test.
The place of business test is somewhat flexible To pass this test, you must show that you use part of your home as: • The principal place of business for your trade or business, or • A place where you regularly meet with clients, customers, or patients In some cases, you can also meet the principal place of business requirement if you conduct substantial administrative and management tasks for your outside business at home and have no other fixed location where you conduct these activities. These tasks might include billing customers, keeping books and records, ordering supplies, setting up appointments, or writing reports. For example, assume you're a doctor at a local HMO who's been given examination space but no office space. You use a room in your home regularly and exclusively to correspond with insurance companies, bill patients, and read medical journals. You have no other fixed location for conducting these types of activities. In such a case, your space would likely pass the place of business test for a home office deduction. What if your home office is in a separate structure next to your home, like a shed or garage? In such a case, that needn't be your principal place of business. However, you must use that office regularly and exclusively in connection with your trade or business. Be sure you use this structure only for business purposes--you can't store your car there.
You must also meet the regular and exclusive use test In general, you must also pass the regular and exclusive use test before you can take a home office deduction (exceptions apply for taxpayers who run day-care facilities from home and for sellers who use part of their homes for storing inventory). As you might expect, this test requires you to show that you exclusively use a portion of your home for business purposes on a regular basis. For example, assume you set aside one room in your home as your home office. You also use this room as a
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playroom for your children. Here, you wouldn't meet the exclusive use test. Now assume that you use one room in your home exclusively for your side business of selling insurance. You engage in this business only occasionally. Because you don't use the office on a regular basis, you still won't qualify for the home office deduction.
Telecommuters might also qualify for the home office deduction If you telecommute or are an employee who works at home, you may also qualify for the home office deduction. You'd have to meet the above requirements. In addition, though, your home office must be for the convenience of the employer. In plain English, this means that your employer must ask you to work out of your home. The arrangement must serve your employer's business needs, not vice versa. The home office deduction for an employee who works at home is taken as a miscellaneous itemized deduction on Schedule A of Federal Form 1040. This deduction is subject to the 2 percent limit for miscellaneous itemized deductions.
If you qualify for the deduction, you can deduct all direct expenses and part of your indirect expenses You can deduct both your direct and indirect expenses regarding your home office. Direct expenses are costs that apply only to your home office. You can deduct these costs in full against your business income. Some examples include the cost of a business telephone line and the cost of painting your home office. However, no deduction is allowed for basic local telephone charges on the first line in your home, even if that line is used for the home office. Indirect expenses are costs that benefit your entire home. You can deduct only the business portion of your indirect expenses. Some examples of indirect costs include rent, deductible mortgage interest, real estate taxes, and homeowners insurance. The business percentage of your home is determined by dividing the area exclusively used for business by the total area of the home. For example, assume your home is 2,000 square feet and your home office is 200 square feet. Your business percentage is 10 percent (200 divided by 2,000). In such a case, if you rent your home, you can deduct 10 percent of your rent as part of your home office deduction. Even if you don't qualify for the home office deduction and are unable to deduct home-related expenses (e.g., homeowners insurance), you can still take a deduction for your regular business expenses, such as the purchase of file cabinets, business equipment, and supplies.
Some of your home office expenses may be limited If the gross income from your home office equals or exceeds your regular business expenses (including depreciation), all expenses for the business use of your home can be deducted. But if your gross income is less than your total business expenses, certain expense deductions for the business use of your home are limited. The deduction isn't lost forever, though. It's simply carried forward to the next year.
Can you spell "audit"? In the past, the IRS has closely scrutinized home office deductions. Although it has eased up a bit--perhaps because legitimate home offices are commonplace today--you can never be too careful. Here are some steps you can take to substantiate the existence of your home office: • Use your home address on your business cards, stationery, and advertisements • Install a separate telephone line for your business • Instruct clients or customers to visit your home office, and keep a log of those visits
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• Log the dates, hours spent, and type of work performed in your home office • Have business mail sent to your home
Having a home office can be a disadvantage when you sell your home Unless you're careful, deductions today can cost you money when you sell your home. Homeowners who meet all requirements can generally exclude from federal income tax up to $250,000 of capital gain (up to $500,000 if you're married and file a joint return) when a principal residence is sold. You may end up paying some taxes, though, if you have a home office. That's because when you sell your principal residence, an amount of capital gain equal to certain depreciation deductions you were entitled to (as a result of having your home office) won't qualify for the exclusion. Specifically, the exclusion won't cover an amount equal to depreciation deductions attributable to the business use of your home after May 6, 1997. Note: In addition, where the business portion of the home is separate from the dwelling unit (e.g., an office in a converted detached garage) any capital gain on the sale of the house has to be apportioned; only the part of the gain allocable to the residential portion is eligible for exclusion. For example, assume a self-employed accountant bought a home in 1998 and sells the home several years later at a $20,000 gain. Although the house was always used as his principal residence, the accountant used one room within the house as his business office. Over the years, the accountant claimed $2,000 of depreciation deductions for his office. Under IRS regulations, $18,000 of the capital gain will be tax free. Only the $2,000 of the gain equal to the depreciation deductions will be taxable. If the accountant's office had been located in a converted detached garage on his property, he would have to treat the sale as two separate transactions and pay tax on any gain allocable to the converted garage. Because this area is complex, you should consult a tax professional. Also, you might want to read IRS Publication 587, Business Use of Your Home.
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Comparing Auto Insurance Policies You've just bought a new car, and now you need to insure it. Or maybe you already have auto insurance, but you're looking to make a change. How do you cut through all the sales jargon and find a policy that suits you at a good price? Knowing how to compare policies is a big piece of the puzzle.
Compare similar policies Comparing auto insurance policies makes the most sense when the policies you're comparing are similar. The more similar they are, the more useful your research will be. Fortunately, the personal automobile policy is a fairly uniform contract that's used throughout the industry. This means that policy exclusions, limitations, and other provisions shouldn't vary significantly between policies. But you have some leeway when it comes to choosing your coverage. For example, collision coverage for your vehicle is optional in virtually every state. Medical payments (med pay) and uninsured motorist coverages may also be optional, depending on where you live. You can also choose the limits of your coverage in each area of auto insurance, though you can't have less than state law requires. Before you start comparing policies, ask yourself how much liability coverage you need to protect your home and other assets in case of an accident. If med pay is optional, do you need this type of coverage (and how much) if you have good health insurance? Do you need collision/other-than-collision (also known as comprehensive) coverage if you drive an older used car? Should you have the same limits of uninsured motorist coverage as liability coverage? The answers to these and other questions will allow you to determine your particular auto insurance needs. This is an important first step because you'll then be able to compare policies that provide the same types and amounts of coverage. It's best to have a qualified insurance professional help you make these decisions.
Compare premiums The premium is obviously important when you're comparing policies. After all, your main goal is to get the coverage you need at the lowest possible price. This is especially true when you're on a tight budget, though no one wants to pay more for coverage than necessary. You should get premium quotes from at least three reputable insurers and compare the results. Before giving you a quote, a company representative will ask you a series of questions about the coverage you're seeking and other matters. If you're working with an agent or broker, he or she will select the insurance companies and provide them with your information. Another option is to use an independent on-line quote service. The quotes you receive will depend on the types and amounts of coverage you want. There are also many other factors that a company may use to reach a quote, such as your age, your gender, your marital status, where you live, what type of car you drive, how much you drive, your driving record, the amount of your out-of-pocket deductibles, how many people will be covered, and any discounts you may qualify for. But even though different companies use similar variables to price coverage, don't expect their quotes to be the same or even close. Annual premiums for the same coverage can vary by hundreds of dollars among companies. That's because each company's rates are based on its own priorities, customers, and claims-paying history.
Don't stop there--price isn't everything If the quotes you get are for policies that provide basically the same coverage, the lowest-priced policy may very well offer the best value. However, that's not always the case. Sometimes a more expensive policy may actually be a better deal when you look at issues other than cost. Though auto insurance policies are standardized to a large extent, you should still compare the provisions and features of the policies you're considering. It's also important to learn as much as you can about the companies behind the policies. If you compare only premiums, you might end up regretting it down the road. Here are some good questions you should try to answer with the help of an insurance agent or broker:
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• How long has the company been selling auto insurance? • How do independent rating services (e.g., A. M. Best, Standard & Poor's, Weiss) rate the company based on financial stability and other factors? • What information can your state's insurance department give you about the company? Many states keep records of the number of consumer complaints made against a company. • What level of customer service can you expect from the company? For example, does the company have a reputation for paying claims in a timely manner? • How long do you have to file a claim after an accident, theft, or other covered loss? This is usually specified in the policy. • What steps do you have to follow throughout the claims process? For example, can you choose your own repair shop or do you have to use one chosen by the company? • Will the company cancel your policy if you miss a premium payment, or will it just send you a late notice? • Does the company offer the extra endorsements you're looking for (such as towing and labor or increased coverage for rental cars), and at what additional cost? • Does the company offer the same (or better) discounts as its competitors (discounts can also vary widely among insurers)?
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Why Buy Insurance? When you drop a quarter into a slot machine, you know that your chances of winning are pretty slim. But risking a quarter (or perhaps much more than a quarter) may be worth it to you if the potential payoff is great enough. Insurance is a lot like that. You pay premiums not because you expect to die today, get into a car accident next week, or lose your home in a fire next month, but because the peace of mind it offers and the financial protection it could provide are worth it. You don't have to bear the risk of financial loss alone. Insurance is all about risk and financial protection.
Do you feel lucky today? The concept of risk We all face risk--the possibility of injury, illness, death, or property destruction--each day. Although you can never eliminate risk, you can guard against financial loss by shifting part of your financial risk to a larger entity (your insurance company) that's in the business of dealing with that risk. In return for your payment of premiums, your insurance company agrees to pay you (and/or others) a certain amount of money for a specified loss. This loss may or may not occur, so both sides gamble. Still, the potential benefits of insurance may be well worth the cost.
You can limit or eliminate some of your risks with the right type of insurance Consider the possible losses associated with each risk you've identified. For example, assume you have a spouse, two minor children, a mortgage, and various debts and expenses. If you die within the next few years, how much money will your spouse need to pay off the debts, meet expenses, and perhaps even send the children to college? Or what if your 68-year-old spouse (or parent) suddenly suffers a stroke and requires around-the-clock care in a nursing home? How will you pay for it? Insurance coverage can protect you, your business, and/or your loved ones from the financial loss associated with your risks. There are many different types of insurance to consider. These include life, medical, disability, auto, and homeowners, to name just a few. Most types of insurance are optional, but some--like auto insurance--may be required by your state or lender. Even if a certain amount of insurance coverage is required, though, you may want to purchase additional coverage to protect your assets. And if you have an employer that provides you with one or more forms of insurance coverage, you may want to supplement this coverage with an individual policy. Explore your insurance options and try to quantify your potential losses. But because an insurance-needs analysis can be pretty complicated, it may be best to sit down with an insurance professional to figure out what types of insurance policies you should buy and how much coverage you actually need.
Weigh the price of insurance protection against the potential benefits Cost is always an important consideration. Even if you appreciate the importance of disability insurance, you may be unable to afford it. In addition, you should weigh the price of insurance protection against the potential benefits to you. For example, the chance that your dilapidated 10-year-old auto will be stolen is remote--and even if it is stolen, your financial loss would not be great, so theft coverage would be a waste of money.
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Choosing an Insurance Provider The sale of insurance products has undergone enormous change in the past 10 years. Before 1990, the only way to buy property and casualty insurance was through the insurance company's agent or an independent insurance broker. Gradually, over the last decade, states have allowed banks to enter the arena and sell insurance.
What are your options? Insurance companies sell their products through many venues. You can go directly to the insurance company that provides the coverage through the mail, telephone, Internet, or one of the company's agents. It is important to remember that these agents represent the insurance company, not the insurance buyer. If you choose, you can let an independent insurance broker (i.e., an independent contractor who represents one or more insurance companies) find a company for you. Or, you can shop for insurance at a bank that owns or has partnered with an insurance company and hires agents or brokers who will sell insurance from the bank lobby. If you prefer to have someone represent you who does not sell insurance but only gives advice, you can hire an insurance broker. An advisor is an independent contractor whose job is to determine your insurance needs and find an insurance company that is willing to provide the appropriate coverage at a good price. Advisors typically charge you a fee for this service. Here are some criteria to consider when you are deciding whether to go directly to a company or work through a company's agent, an independent broker, or a bank:
What is an insurance company's rating? To learn about a company's financial strength and claims-paying ability, you need to check out the company's rating. Five major rating services make a business of grading insurance companies. They are A. M. Best, Standard & Poor's, Moody's, Fitch, and Weiss. Though each organization has its own system for determining the grades, they all use similar criteria, such as the company's management stability, recent performance, and financial strength. To find out what an insurance company's rating is, go to one of the rating service's websites, or ask the agent or broker to provide you with the ratings. You may also want to call your state's insurance department for a history of customer complaints.
What level of service do you want? Make sure your insurance company, agent, or broker can give you the kind of service you value. Here are some service-related questions you can ask: • Does the agent or broker offer counsel about what kind of insurance you need? • Will the agent or broker review your policies with you annually to make sure your coverage is up-to-date? • When is someone available who can answer your insurance coverage questions? • If you have a problem with a claim or a bill, is someone available who can resolve the issue for you quickly? • Is it important that the provider's office be close to your home or workplace?
How much experience does your agent or broker have? Because insurance is a complicated subject, individuals who sell it should be qualified and knowledgeable, and
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not just licensed to sell. Be sure your insurance agent or broker has enough experience to give you the proper guidance in choosing your coverage. Otherwise, you could wind up buying inappropriate coverage or overpaying for coverage. Before buying insurance, find out how long the person you're dealing with has been in the business and in what capacity. Also, inquire if he or she has received any professional insurance designations, such as the Chartered Property and Casualty Underwriter designation. Ask if he or she has attended any recent courses and whether he or she keeps up with the constant changes in the insurance industry.
Are you getting the lowest-cost insurance? If you are getting quotes from more than one insurance company, be sure you compare apples to apples. Is the coverage the same for each company? Are the limits of coverage the same? Are there any exclusions in the policies?
Do your insurance needs require specialists? Many companies specialize in certain types of insurance. Many brokers specialize in the needs of certain professions or businesses. For example, an agency may specialize in writing insurance for general contractors, truckers, or small-business owners. Many insurance companies have specific niches in which they excel, such as homeowners policies for houses over 100 years old. Others specialize in providing contractors' bonds, directors' bonds, and officers' liability. To find out which companies' agents and brokers specialize in what types of insurance, contact your local insurance agents' and brokers' associations, look in the yellow pages, or check out the websites of different companies.
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Understanding Managed Care If it's been a while since you've shopped around for health insurance, you may find that things have changed since the last time you tackled this chore. Not long ago, you could go to any doctor or hospital, and you and your insurance company would each pay part of the bill. Now, most health insurance policies are some form of managed care, with controls to contain costs. Today, more than half of insured Americans are covered by a managed care plan--a plan that gives financial incentives to encourage you to use doctors who are part of the plan network. The better you understand managed care, the better you will be able to select the plan that best meets your needs and budget.
How do managed care plans work? Insurance companies negotiate discounts with medical providers who sign up to be part of the managed care plan's network. In exchange, the providers get an instant pool of patients. The plans generally limit your out-of-pocket expenses for covered care. They usually require (or encourage) that you seek care from a specific list of contracting doctors, hospitals, and other providers. If you go out of the plan's network for medical treatment, you have to pay higher out-of-pocket expenses. The goal of managed care is to provide health care that is: • Cost effective • In the best setting • Of the highest quality • Medically necessary • Offered by the most appropriate provider To increase the overall quality of care and reduce costs, many managed care plans require that you see a primary care doctor (family practitioner, internist, or pediatrician) before visiting a specialist. Your primary care doctor has the responsibility of knowing your complete medical history, making the initial diagnosis, and advising on further treatment.
Health maintenance organizations • Your primary care doctor is the gatekeeper who coordinates your health care and refers you to specialists • You must use specific health-care providers and facilities to be fully covered • You can go outside the network only if prior approval is given or for an emergency • Nonemergency and elective admissions to the hospital require prior approval • You can go for emergency care wherever and whenever you determine you need it, without prior approval • Some treatments and procedures require a second opinion • Preventive care programs are available to keep you well
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• Doctors are paid based on a capped or fixed-fee arrangement rather than payment for services given • You do not have to file claim forms with the insurance company • Screening tests for cancer and other chronic diseases are usually covered Health maintenance organizations (HMOs) are considered the most restrictive because they offer you the least amount of choices. However, they tend to have both the lowest out-of-pocket costs and the least paperwork, and they promote general wellness programs to keep you healthy.
Preferred provider organizations • Most preferred provider organizations (PPOs) do not require a referral from your primary care doctor to visit a specialist • You will have higher out-of-pocket costs if you use providers outside the network • Prior approval is required for hospitalization (except for an emergency) and some outpatient services • Some treatments and procedures require a second opinion • Emergency care doesn't require approval if you determine you need it • Preventive care is not always covered • Your doctors and hospitals are paid for services provided • Your medical provider files the claim forms PPOs are less restrictive than HMOs in your choice of health-care provider, but your out-of-pocket costs may be higher. The coverage provided for treatment and care is similar to an HMO.
Point of service plans • There are financial incentives, such as lower out-of-pocket costs, to use network providers • You can receive care from providers outside the network without prior approval • If you go outside the network, you'll be responsible for filing insurance claims • If your doctor refers you out of the network, the plan pays all or most of the bill • Premiums are higher than those for HMOs or PPOs Point of service (POS) plans are less restrictive than HMOs. They combine some features of HMOs and PPOs and have the highest out-of-pocket costs. So even though POS plans allow greater choice at the time the service is delivered, you'll pay more for your health care.
How do I select the plan that's right for me? There is no perfect plan--you'll have to do some give-and-take. Some questions to consider: • Do your current doctors participate in any plans? • Does it matter that you might be limited to your choice of doctors and hospitals?
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• What level of services do you really need? • Would getting referrals to specialists be a problem? • How much can you afford to spend? • Are you willing to file insurance claim forms? • What is the plan's rating on quality of care and member satisfaction?
What to ask before you buy After you decide what benefits are important, you will be in a better position to compare individual plans. Plans differ with regard to out-of-pocket costs, services provided, and how easy it is to get those services. Although no plan will pay for everything, some plans cover more than others. • Ask to see a network directory. Are your current doctors in it? • Are you willing to change doctors if necessary? • Are the doctors close to you accepting new patients? • Does the plan use a local hospital? • Who decides if you can go to the hospital? • What is the plan's policy on pre-existing conditions? • Is there a maximum lifetime benefit? • Are preventive care services offered? • What is the prescription drug policy? • Are there limits on medical tests? • What are the mental health benefits? • Does the plan pay for any special services you need? • How easily can you change primary care doctors? • Are therapies such as acupuncture or chiropractic services covered? • How easily can you get help over the telephone? Whatever plan you choose, you will become a partner with your doctor and insurance company. Keep in mind that managed care plans make more money when they keep you healthy and out of hospitals, reduce the amount of care you receive, and stay within the budget set for each member's total medical care. It will be your responsibility to schedule physical exams and take advantage of other preventive care programs. Make sure there is a good match between what you think you need and what is provided.
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Comparing Health Insurance Plans Perhaps you're starting a new job or trying to integrate employee benefits with your new spouse. Or maybe you're shopping for individual health insurance coverage. One of the challenges when comparing health plans is that many different types of plans are available, including indemnity plans, health maintenance organizations (HMOs), preferred provider organizations (PPOs), and point of service (POS) plans. If you are offered the chance to choose among different types of plans, you'll first have to decide which type best suits your needs. Then, you can begin comparing and evaluating policies.
Compare premiums The premium may be the first thing you look at when trying to choose a health plan. Individual coverage can be expensive because the insurer takes on more risk by covering just one person. However, if an individual policy is your only option, you should compare the premiums charged by several different insurers. Even though companies all use certain information to price a policy (e.g., your age and health), premiums may still vary widely among companies. You can eliminate policies that cost more than you can afford. Also, try to get some idea of how much premiums will increase as you age and as the cost of medical care rises. You should also look at cost when you're comparing group health plans. Even if two plans provide similar coverage, the group premiums may differ. That's because the premium in each case is based on facts about that particular group (e.g., average age). In addition, keep in mind that the employer or other group often pays all or part of the group premium. The less premium you have to pay, the more attractive the plan. Finally, find out how much it will cost to cover your family members under the plan.
Compare deductibles, co-payments, and coinsurance These costs often vary widely among health plans, and some plans may not impose them at all. This is something to look at closely when comparing plans, because these additional costs can greatly affect your total out-of-pocket cost. The deductible is the amount that you have to pay toward your medical expenses before your insurance company begins to cover you. The co-payment is the amount that you have to pay each time you visit a health-care provider or need a prescription. Finally, coinsurance is the percentage of your medical costs that you have to pay after you satisfy any deductible that applies (not including any co-payments you're required to make). Consider the following questions: • Will you have to satisfy an individual deductible, a family deductible, or both? What are the amounts? • Do you have to satisfy the deductible annually, or every time you are hospitalized? • Do different deductibles apply to different types of care? For example, you may have to pay a $500-per-year deductible for hospitalization, but only a $100-per-year deductible for doctors' visits. • How much is the co-payment when you see your doctor for routine care? When you see a specialist? When you are admitted to the hospital? When you pick up a prescription? • What percentage of your medical costs will you have to pay after you satisfy your deductible? A common coinsurance rate is 20 percent. • What is your out-of-pocket maximum? To limit your liability, you may no longer have to make coinsurance payments once your medical expenses for the year reach a certain level (e.g., your insurer pays 100 percent of your annual expenses over $10,000). • Do you have the flexibility to change the amount of your deductibles and/or co-payments? Choosing higher amounts may help you lower your premium.
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Compare coverage and features It's equally important to assess each plan's coverage and specific features. Here are some issues to think about: • What coverage exclusions apply? Specific types of illnesses, injuries, treatments, and procedures may not be covered at all under the plan. The plan should clearly state what these are. • What coverage limitations are you subject to? For example, some plans impose a waiting period before you can be covered for pre-existing conditions. Like exclusions, limitations should be spelled out in the plan. • Does the plan fully or only partially cover the following expenses: surgery, hospitalization, routine medical exams, diagnostic procedures, visits to a specialist, maternity care, immunizations, rehabilitation, and home health care? You'll find that the level of coverage often varies in each of these areas. • Does the plan impose a maximum benefit ceiling, and if so, what is it? This means that there is a lifetime cap on the benefits your insurer will pay out on your behalf. • How much freedom do you have in choosing your own doctors and health-care providers? For example, can you go outside your plan's network? Do you need referrals to see specialists? • Does the plan require you to get approval from the insurance company for coverage of certain types of care? For example, if you're terminally ill, certain types of experimental treatment may need to be approved by your insurer. • Does the plan offer any extras as part of the standard coverage? Some items that may be of interest to you are vision care, dental care, prescription drug coverage, and mental health coverage. • Does the plan offer family coverage, as many employer-sponsored plans do? This can be very important if you have a spouse and/or children in need of health coverage. • What optional riders and endorsements are available? Adding these features can allow you to tailor a plan to your individual needs. For the best results when comparing plans, you should balance coverage and features against cost. This will allow you to determine which plan gives you the best overall value for your money.
Compare insurance companies It's also a good idea to compare the insurance companies behind the plans--your satisfaction with a company may mean a lot over the long run. Here are some questions that may help you weed out insurers: • Does the insurer provide good customer service? You want to speak to a knowledgeable, polite customer service representative when you call your insurance company. Unfortunately, busy insurance companies may keep you on hold for a long time before you get through to a representative. Look for a company that has a toll-free number and longer-than-average customer service hours. • How does the insurer pay claims? Will the provider bill the insurance company directly, or will you be expected to pay the provider and then file a claim with your insurer? It may not matter much in terms of cost, but it's a lot more complicated if you have to fill out forms or pay upfront every time you seek health care. Also, check with your doctor to find out which insurers generally pay claims on time. • Is the insurer financially stable? Make sure that the insurer you choose is financially sound and will be able to pay its claims. You can get information on the financial stability of most insurers from your state's insurance department or from a firm that rates insurance companies (e.g., A. M. Best, Weiss,
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Moody's). • If you're comparing group plans, are your coworkers satisfied with the plan they've chosen? Do they have trouble getting their claims paid?
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Health Insurance and COBRA: Sometimes You Can Take It with You If you're like most Americans, you count on your employer for health insurance coverage. But what would happen to your health insurance if you suddenly stopped working or no longer qualified for benefits? No one can predict the future. It's possible that your company could lay you off or reduce your hours to part-time, your spouse could die, or your marriage could end in divorce. If something unexpected happened, you could be left without health benefits. And remember, buying private health insurance on your own can be pretty costly, especially if you're out of work. Fortunately, there's the Consolidated Omnibus Budget Reconciliation Act of 1986 (COBRA). COBRA can prove to be a real lifesaver for you and your family when your health coverage is jeopardized. You may also benefit from the Health Insurance Portability and Accountability Act of 1996 (HIPAA), which took some further steps toward health-care reform.
The Consolidated Omnibus Budget Reconciliation Act of 1986 (COBRA) may help you continue your health insurance coverage for a time COBRA is a federal law designed to protect employees and their dependents from losing health insurance coverage as a result of job loss or divorce. If you and your dependents are covered by an employer-sponsored health insurance plan, a provision of COBRA entitles you to continue coverage when you'd normally lose it. Most larger employers (20+ employees) are required to offer COBRA coverage. As an employee, you're entitled to COBRA coverage only if your employment has been terminated or if your hours have been reduced. However, your dependents may be eligible for COBRA benefits if they're no longer entitled to employer-sponsored benefits because of divorce, death, or certain other events. Unfortunately, you can't continue your health insurance coverage forever. You can continue your health insurance for 18 months under COBRA if your employment has been terminated or if your work hours have been reduced. If you're entitled to COBRA coverage for other qualifying reasons, you can continue your coverage for 36 months. • Divorce: If your former spouse maintained family health coverage through work (and works for a company with at least 20 employees), you may continue this group coverage for up to 36 months after the divorce or legal separation. You'll have to pay for this coverage, though. Your cost of continuing coverage cannot exceed 102 percent of the employer's cost for the insurance. COBRA coverage will terminate sooner than 36 months if you remarry or obtain coverage under another group health plan. • Company goes out of business: Unfortunately, you may be out of luck here. If your company goes out of business and no longer has a group health insurance policy in force, then COBRA coverage will not be available. (A possible exception involves union employees covered by a collective bargaining agreement.) Keep in mind that, whatever your circumstances, you'll have to pay the premium yourself for COBRA coverage--your employer is not required to pay any part of it. However, if you're eligible for COBRA coverage and don't have any other health insurance, you should probably accept it. Even though you'll pay a lot more for coverage than you did as an employee, it's probably less than you'll pay for individual coverage. You won't be subject to any health screenings, tests, or other pre-existing medical condition requirements when converting to a COBRA contract. Your COBRA benefits and coverage will be identical to those provided to similarly enrolled individuals. The American Recovery and Reinvestment Act of 2009 provides that, for involuntary terminations that occur on or after September 1, 2008 and before January 1, 2010, assistance-eligible individuals will only need to pay 35 percent of COBRA premiums for a period of up to nine months. The remaining 65 percent of COBRA premiums
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will be subsidized. However, this premium subsidy may need to be repaid in some cases.
The Health Insurance Portability and Accountability Act of 1996 expanded COBRA In 1996, HIPAA expanded certain COBRA provisions and created other health-care rights. In many ways, HIPAA took a significant step toward health-care reform in the United States. Some of its provisions may affect you. The major provisions of HIPAA: • Allow workers to move from one employer to another without fear of losing group health insurance • Require health insurance companies that serve small groups (2 to 50 employees) to accept every small employer that applies for coverage • Increase the tax deductibility of medical insurance premiums for the self-employed • Require health insurance plans to provide inpatient coverage for a mother and newborn infant for at least 48 hours after a normal birth or 96 hours after a cesarean section For example, assume you're pregnant and covered by a group health insurance plan at work. You decide to take a job at another firm. Under HIPAA, pregnancy cannot be considered a pre-existing condition for a woman who's changing jobs if she was previously covered by a group health insurance plan. So if you had insurance at your old job, you can't be denied health insurance coverage at your new job simply because you're pregnant. However, many companies require you to be employed for 30 days or more before you become eligible for coverage. If you are nearing the end of your pregnancy, and that requirement poses a problem for you, you may be eligible for coverage under COBRA through your former employer.
The American Recovery and Reinvestment Act of 2009 provides Cobra subsidy ARRA provided a government subsidy of 65 percent of the cost of COBRA coverage for employees (and their eligible family members) who lost their health insurance coverage due to involuntary termination of employment in 2009. This subsidy was to last for up to nine months. The Department of Defense Appropriations Act, 2010 extends the subsidy to February 28, 2010.
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My employer wants me to sign a noncompetition agreement. What is it? Is it legally binding? Question: My employer wants me to sign a noncompetition agreement. What is it? Is it legally binding?
Answer: A noncompetition agreement is an agreement between you and your employer stating that should you choose to leave the company, you will not go to work for a competitor or start a competing business within a specified geographic region for a specified period of time. Noncompetition agreements can be included within an employment agreement or may be a separate agreement. If you are offered a new job, the hiring company may make it a condition of employment that you sign a noncompetition agreement. In the past, noncompetition agreements were generally required only for executive-level positions. Now, they have become more widely used with employees who have access to critical information through job responsibilities, such as salespeople, or even those with access to information through social interactions with owners or high-level executives. It is legal in many states to require certain employees to sign noncompetition agreements. However, there are no general rules that apply to such agreements, and there have been situations where noncompetition agreements were deemed unenforceable by a court. Generally, an enforceable employment-related noncompetition agreement must be necessary to protect a legitimate business interest of the employer, must not violate the public interest, and must contain language that: • Limits the duration of the agreement • Limits the geographic area to which it applies • Details the scope of the prohibited activity Some states will not enforce noncompetition agreements in the employment context at all. Consult an attorney to determine whether, and to what extent, such agreements are enforceable in your state.
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If I work at home occasionally, am I entitled to a home office deduction? Question: If I work at home occasionally, am I entitled to a home office deduction?
Answer: To qualify for an income tax deduction for home office expenses, the IRS requires that you meet two tests--the place of business test and the exclusive and regular use test. To pass the place of business test, you must show that you use a portion of your home as: • The principal place for any trade or business you conduct, including administrative use. The IRS uses a two-part test to determine if a home office is a taxpayer's principal place of business. The test takes into account the relative importance of business activities performed at each business location and the amount of time spent conducting those activities at each place of business. • A place where you meet clients or customers in the normal course of business. • In the case of a separate structure that is not attached to your dwelling unit, you must show that you use it in connection with your trade or business (i.e., it needn't be your principal place of business). The exclusive and regular use test requires that you use that portion of your home both exclusively for business and on a regular basis. Depending on the nature of your work, your occasional home use is unlikely to qualify for a home office deduction since it is doubtful you would meet the first test (because occasional implies it isn't your principal place of business). You are also unlikely to satisfy the second test (because occasional implies that the use of your home isn't exclusive or regular). Because the rules are complicated, it might be wise to review IRS Publication 587, titled Business Use of Your Home, or consult a tax professional.
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Can I get disability insurance if I'm self-employed? Question: Can I get disability insurance if I'm self-employed?
Answer: Yes. In fact, if you're self-employed, disability insurance is even more important for you than for the average employee. If you are injured and are unable to work, you don't have the built-in luxury of paid sick leave to tide you over. So you'll want to take a serious look at your financial situation and decide whether your cash reserves are sufficient to carry you through an extended disability. If not, disability insurance is a good idea for you. At any age before 65, you are statistically more likely to suffer a disability of more than 90 days than to die unexpectedly.
If you purchase it, disability insurance could be the only thing that prevents you from losing things such as your home or your business. When you're unable to work for an extended period of time because of an injury or illness, disability insurance provides a financial safety net by paying you monthly benefits until you are able to return to work. Since your business is likely your only source of income, your disability insurance policy should have as short a waiting period as possible. Most disability policies offer waiting periods of 30 to 180 days after the onset of the disability. When applying for the insurance, you can choose a policy with the waiting period and benefit period you want. Keep in mind, however, that your premium will increase as the waiting period gets shorter and the benefit period gets longer. Being self-employed, you'll have to purchase this insurance on your own. The availability of coverage will depend on factors such as your occupation, whether you work from home, and whether you have any risky hobbies (e.g., motorcycle racing). Your insurance agent should be able to help you find a disability policy that meets your needs.
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If I leave my company, can I take my life insurance policy with me? Question: If I leave my company, can I take my life insurance policy with me?
Answer: If you leave your company, you can often continue your life insurance coverage with the same insurance company. The group life insurance contract under which you are insured may have a conversion privilege available to all employees who are insured under the employer's group plan. A conversion privilege will be subject to certain conditions described in the master contract. Typically, these conversion rates are more expensive than an individual policy you could buy on your own if you are healthy. You generally have 31 days from the day you leave your employer to submit an application. In most cases, you can apply for any kind of individual life insurance that the company offers. The insurance company generally will not include any supplemental coverages, such as disability insurance, that may have been included with your group life coverage. If you decide to convert to a permanent life insurance policy, the premium will be based on your current age and the same amount of insurance that your group policy provides. The premiums must be based on standard or regular rates. No medical exam is generally required. This is especially important if you are not in good health when you leave employment. Even if you don't take advantage of a conversion privilege when you leave your company, your group life coverage generally continues for 31 days after your last day of work. Check with your human resources manager or financial advisor.
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If I leave my job, will I lose my employer-sponsored health insurance? Question: If I leave my job, will I lose my employer-sponsored health insurance?
Answer: If you leave your job, voluntarily or otherwise, you may be able to continue your employer-sponsored health insurance under the federal Consolidated Omnibus Budget Reconciliation Act (COBRA) of 1985. Eligibility does come with some restrictions, however. Employers with 20 or more employees are required to offer continued health insurance for up to 18 months to employees who leave the company. The employer must make this offer in writing within 14 days of an employee's last working day. To qualify, you, the employee, must have been covered by the employer's health plan on the day before your employment status changed. There may also be state laws that affect your options. You should be aware that you are responsible for paying the premiums for COBRA, and the coverage is usually expensive. Your employer may also charge a fee, up to 2 percent of the monthly premium, for administrative costs. If COBRA is not applicable in your case, other options are available. For example, you may be able to convert your employer-sponsored health plan to an individual health plan. Although you may not have to pass a medical exam, a pre-existing condition could be excluded. Another option is to purchase a short-term health policy that covers your health costs on a temporary basis, usually two to six months. Short-term policies are generally not expensive, but you will not be covered for any pre-existing conditions. Insurance companies provide this coverage at reduced administrative costs and then pass the savings on to their customers. A fourth option is to continue your health coverage through a professional association that offers health insurance to its members at reduced rates. This is a particularly good option if you are self-employed.
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How can I get affordable health insurance if I'm self-employed? Question: How can I get affordable health insurance if I'm self-employed?
Answer: If you are self-employed, one of the best ways to obtain affordable health insurance is by enrolling in your spouse's employer-sponsored health plan. Group health coverage is often significantly less expensive than individual health insurance, and your spouse's employer may pay part of the cost. But if this is not an option for you, look into group health insurance sponsored by a local or national association. Many kinds of associations offer group health insurance, including national and industry groups, groups created specifically for small employers, and chambers of commerce. To be eligible for an association's insurance plan, you'll need to join the association, and possibly take a medical exam before you're accepted into the health plan. In some states, private insurance companies will provide health insurance to the self-employed. Check with your state's insurance department to find out which health insurance companies do business in your state. Although private insurance can be quite expensive, premiums will vary with each company, so it's best to shop around. If you're reasonably health and need only occasional health care, one way to reduce your premium cost is to purchase a high-deductible health plan. A qualified high-deductible plan may be paired with a health savings account that will enable you to save money for health-care expenses tax free. Because the cost is generally reasonable, buying short-term medical insurance may also be an option worth considering if you only need insurance for a brief period of time. Policies are effective for one to six months, and you can generally renew them once. However, not everyone will be insurable, and no coverage for pre-existing conditions is available. Ask your insurance agent to help you find health insurance. Your agent will be familiar with both the local markets and state regulations, and can guide you through the process of finding and applying for the proper coverage.
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If I have long-term disability insurance coverage through my employer, do I need my own policy, too? Question: If I have long-term disability insurance coverage through my employer, do I need my own policy, too?
Answer: First, how much disability insurance do you have through your employer, and what other financial resources do you have? Other resources might include your savings, property or assets you could sell, borrowed money, or your spouse's income. Now ask yourself if the combination of your employer-sponsored disability insurance and your other resources will be enough to pay your bills if you suddenly become disabled. Unless you're independently wealthy, chances are good that your personal financial resources won't carry you through a long-term disability. Also, the money you've saved is probably earmarked for goals other than disability--your retirement or your children's education, for example. You might have to deplete these accounts to pay your bills. Some employers do not offer long-term disability insurance. If your employer does, look closely at the policy. Review the monthly benefit and the length of the waiting and benefit periods. Is the monthly payment enough to pay your bills? The typical group policy covers 60 percent of your income, up to a maximum amount. Is income defined as your base salary, or does it include commissions and overtime? How long is the waiting period in your employer's disability policy? This is the length of time before any benefits are paid to you. Often, an employer's disability policy coordinates with the company's sick pay policy. You may have to use up all of your paid sick days before the disability policy begins to pay benefits. You need to plan on having cash available to cover any gaps in coverage. If you decide to supplement your employer-sponsored policy with one of your own, make sure the two policies coordinate in ways that work for you. For example, if you need to increase the monthly benefit, be sure your own policy will pay concurrently with your employer-sponsored policy.
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Should I contribute to my 401(k) plan at work? Answer: Yes. Unless you absolutely cannot afford to set aside any dollars whatsoever, you should contribute to your employer's 401(k) plan. A 401(k) plan is one of the most powerful tools you can use to save for your retirement. The first benefit is that your contributions to a 401(k) plan are not taxed as current income. They come right off the top of your salary before taxes are withheld. This reduces your taxable income, allowing you to pay less in taxes each year. You'll eventually pay taxes on amounts contributed when you withdraw money from the plan, but you may be in a lower tax bracket by then. You may even qualify for a partial tax credit for amounts contributed. Furthermore, money held in a 401(k) plan grows tax deferred. The investment earnings on plan assets are not taxed as long as they remain inside the plan. Only when you withdraw those earnings will you pay taxes on them (again, possibly at a lower rate). In the meantime, tax-deferred growth gives you the opportunity to build a substantial 401(k) balance over the long term, depending on investment performance. If you're lucky, your employer will match your contributions up to a certain level (e.g., 50 cents on the dollar up to 6 percent of your salary). You typically become vested in your employer's contributions and related earnings through years of service (the details depend on the plan). Employer contributions are also pretax and are basically free money (once you're vested), so you should try to take full advantage of them. If you fail to make contributions and receive no match, you are actually walking away from money your employer is offering to you. Another beneficial feature that many 401(k) plans offer is the ability to borrow against your vested balance at a reasonable interest rate. You can use a plan loan to pay off high-interest debts or meet other large expenses, like the purchase of a car. You typically won't be taxed or penalized on amounts you borrow as long as the loan is repaid within five years. Immediate repayment may be required, however, if you leave your employer. Loan payments are deducted from your paycheck with after-tax dollars. Finally, 401(k)s are a very convenient and reliable way to save. You decide what percentage of your salary to contribute, up to allowable limits. Your contributions are deducted automatically from your salary each pay period. Because the money never passes through your hands, there's no temptation to spend it or skip a contribution here and there. Most plans allow for contributions as small as 1 percent of your paycheck. Note: Your employer may also allow you to make after-tax "Roth" contributions to your 401(k) plan. Because your Roth contributions are after tax, those contributions are always tax free when paid out to you. But the main attraction of Roth 401(k) contributions is that the earnings on your contributions are also tax free if your distribution is "qualified." In general, a distribution is qualified if it is made more than five years after the year you make your first Roth 401(k) contribution, and you are either 59½ or disabled when you receive the payment.
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How can I plan for retirement if my employer doesn't offer retirement benefits? Question: How can I plan for retirement if my employer doesn't offer retirement benefits?
Answer: In many cases, your first step should be to open an IRA and contribute as much as allowable each year. Because of the potential for tax-deferred, compounded earnings, IRAs offer similar long-term growth opportunities as employer-sponsored plans. In addition, you may qualify for tax-deductible contributions or tax-free withdrawals, depending on whether you invest in a regular IRA or a Roth IRA. Another tax-advantaged option to consider is annuities. Generally purchased from a life insurance company, a typical annuity features the potential for tax-deferred growth and provides either fixed or variable payments beginning at some future time (usually retirement). Depending on the type of annuity, you may have several options in how you ultimately take distributions. Finally, don't forget about traditional investments (e.g., stocks, bonds, mutual funds). Most of these vehicles are taxable, but they can still help you over the long term. The specific types of investments you select will depend on your risk tolerance, time horizons, liquidity needs, and goals for retirement. A financial professional can help you construct a portfolio that makes sense for you.
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Can I still have a traditional IRA if I contribute to my 401(k) plan at work? Answer: Yes. Anyone with earned income who is under age 70½ can open and contribute to a traditional IRA. The contribution limit is $5,000 for 2009 and 2010, plus an additional "catch-up" contribution of $1,000 in 2009 and 2010 if you're 50 or older. However, you may not be able to deduct your IRA contributions if you're covered by a 401(k) plan at work. Whether or not you can deduct your IRA contributions depends on your filing status and annual income (adjusted gross income, or AGI). Specifically, for tax year 2010: If your filing status is:
Your IRA deduction is reduced if your AGI is between:
Your deduction is eliminated if your AGI is:
Single or head of household
$56,000-$66,000
$66,000 or more
Married filing jointly or qualifying widow(er)
$89,000-$109,000
$109,000 or more
Married filing separately
$0-$10,000
$10,000 or more
You may also qualify for a partial tax credit for amounts contributed to your traditional IRA or your 401(k) plan.
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What is vesting? Question: What is vesting?
Answer: Vesting occurs when you acquire ownership. Does your employer offer a retirement savings plan such as a 401(k), traditional pension, or profit-sharing plan? Did you receive a stock option grant as a year-end bonus? These employee benefits and others like them are often tied to a timeline known as a vesting schedule. The vesting schedule determines when you acquire full ownership of the benefit. For example, your employer grants you 10,000 stock options as a thank-you for a job well done, but it may not be time to go mansion shopping just yet. The options may not actually be yours until you're vested. If the options are subject to a vesting schedule, you don't actually own the right to exercise your options until some time in the future. Some stock option plans allow for immediate vesting, while others may delay vesting. Consider these three alternatives for a four-year vesting schedule: • 25 percent each year • 50 percent in years two and four • 100 percent in year four In addition, there are two commonly followed vesting schedules for employer-matching contributions to a 401(k) or other plan: • Cliff vesting: This provides no vested benefit until the third year. After three years of employment, you reach the "edge of the cliff," or vest 100 percent. • Graded vesting: This provides no vested benefit until year two. For each additional year that you remain with your employer, your benefits vest 20 percent each year. Under this schedule, you'll be 100 percent vested if you remain with your employer for six years. Keep in mind that if your employer follows the 100 percent in year-three vesting schedule, you'll need to stay with your employer for three years before you are vested. Of course, any personal contributions that you make to your employer's savings plan are automatically fully vested and remain yours no matter how long you stay with the employer. To find out about your employer's vesting schedule, check with your manager or human resources representative, or read your summary plan description.
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My company has a profit-sharing plan. How do these plans work? Answer: A profit-sharing plan is a defined contribution plan in which your employer has discretion to determine when and how much the company pays into the plan. The amount allocated to each individual account is usually based on the salary level of the participant (employee). Your employer's contributions to your account, and any investment earnings, accumulate on a tax-deferred basis--the IRS will tax these benefits as part of your regular income only when you begin receiving distributions from the plan, typically after you retire or terminate employment. Whether you can make withdrawals while you are still employed depends on the terms of your plan. For example, some plans permit withdrawals after you've attained at 59½, or after you've been a participant for some specified period of time (usually at least five years), or in the event of a financial hardship. (As an alternative to a taxable withdrawal, you may be able to borrow up to 50 percent of your vested account balance if your employer permits plan loans.) Be aware that if you take distributions before age 59½, they are subject to a 10 percent penalty tax unless an exception applies. The penalty tax does not apply to distributions you receive after you terminate employment, if your separation occurs during or after the year you reach age 55. The penalty tax also does not apply in the case of distributions made due to a qualifying disability, distributions that qualify as substantially equal periodic payments, amounts you roll over to an IRA or another employer plan, distributions up to the amount of unreimbursed medical expenses, distributions made under a qualified domestic relations order (QDRO), or distributions after your death. Each plan has a trustee who is generally responsible for managing the plan assets and for preparing various financial and tax documents. Other administrative duties are overseen by a plan administrator, who will frequently hire a third-party administrator to perform most administrative functions. Most plans contain a vesting schedule, often between three and six years, during which time an employee becomes fully vested in the plan. If you were to leave the company prior to full vesting and move your account elsewhere, you would forfeit all or a portion of the account's accumulated value. Profit-sharing plans are usually funded using mutual funds, variable annuities, or life insurance. In certain cases, you may have the authority to direct the investment of the assets in your profit-sharing account. The summary plan description, available to each eligible participant, spells out the details of your plan.
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I teach at a school that offers a 403(b) plan. Is this plan a good way to save for retirement? Answer: In general, yes. Also known as a tax-sheltered annuity, a 403(b) plan is an employer-sponsored plan designed for employees of certain tax-exempt organizations (e.g., hospitals, churches, charities, and public schools) to invest for their retirement. Typically, the employer purchases annuity contracts or sets up custodial accounts for eligible employees who choose to participate. A 403(b) plan is technically not a qualified plan, but it is said to mimic a qualified plan because it shares some of the same features. Like a 401(k) plan, a 403(b) plan enables you to make contributions to the plan on a pretax basis. These are known as salary-reduction contributions because they come from your salary before taxes are withheld, thus reducing your taxable income. For tax year 2010, you are allowed to defer up to $16,500 a year or 100 percent of your compensation, whichever is less, to the plan. In addition, if you're 50 or older, you can make an extra "catch-up" contribution of $5,500 in 2010. Employers will sometimes contribute to the plan as well, although employer contributions are not required and (if made) must vest before you are entitled to them. Earnings (e.g., dividends and interest) on your 403(b) plan investments accrue tax deferred. Only when you withdraw your funds from the plan do you pay income tax on contributions and earnings. If you wait until after you're retired to begin withdrawing, you'll probably be taxed at a lower rate. The combination of pretax contributions and tax-deferred growth creates the opportunity to build an impressive retirement fund with a 403(b) plan, depending on investment performance. You may even qualify for a partial tax credit for amounts contributed if your income is below a certain level. In addition, a 403(b) plan may allow you (under certain conditions) to withdraw money from the plan while still working for your employer. Beware of these "in-service" withdrawals, however. They may be subject to both regular income tax and (if you're under age 59½) a 10 percent early withdrawal penalty. A plan loan, if permitted, might be a better way to obtain the cash you need. Although some 403(b) plans have a limited number of investment choices, many of these plans have been offering a broader range of investments in recent years, including many well-known mutual funds. Note: Your employer may also allow you to make after-tax "Roth" contributions to your 403(b) plan. Because your Roth contributions are after tax, those contributions are always tax free when distributed to you. But the main attraction of Roth 403(b) contributions is that the earnings on your contributions are also tax free if your distribution is "qualified." In general, a distribution is qualified if it is made more than five years after the year you make your first Roth 403(b) contribution, and you are either 59½ or disabled when you receive the payment.
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Does the federal government insure pension benefits? Answer: The federal government insures certain pension benefits. Specifically, it insures defined benefit plans (but not other types of retirement plans) through the Pension Benefit Guaranty Corporation (PBGC), a federal agency created by ERISA. A defined benefit plan is a qualified employer pension plan that promises to pay a specific monthly benefit at retirement. Although the PBGC insures most defined benefit plans, it doesn't insure defined contribution plans. Defined contribution plan participants have individual accounts, and these plans don't promise to pay a specific dollar amount to participants. Examples of defined contribution plans include 401(k) plans and profit-sharing plans. To find out if your defined benefit plan is insured by the PBGC, ask your employer or plan administrator. In general, though, your defined benefit plan will be covered unless it meets an exception. Plans not covered include those belonging to professional service corporations (e.g., doctors and lawyers) with fewer than 26 employees, church groups, and state and local governments. If your employer's pension plan is to be terminated, you'll receive notification from your plan administrator and/or the PBGC. If the PBGC takes over the pension plan because your employer doesn't have enough money to pay benefits owed, the PBGC will review the plan's records and estimate what benefits each person will receive. The PBGC guarantees that you'll receive basic pension benefits up to a certain annual amount. This amount may be lower than what you would normally have received from your plan. For plans ending in 2010, the maximum annual amount is $54,000 (or $4,500 per month) for a worker who retires at age 65. (If you begin receiving payments before age 65 or if your pension includes benefits for a survivor or other beneficiary, the maximum amount is lower.) Types of benefits guaranteed include the following: • Pension benefits at normal retirement age • Most early retirement benefits • Disability benefits for disabilities that occurred before the plan was terminated • Certain benefits for survivors of plan participants For more information, see the Pension Benefit Guaranty Corporation's website at www.pbgc.gov.
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Will my group health insurance cover my partner, even though we're not married? Answer: In many cases, no. However, check with your employer. A growing number of employers are offering domestic partner benefits, including health insurance, to the unmarried partners of employees. If your employer does offer health benefits to your partner, but your partner is covered by other health insurance, you'll need to decide whether it's better to be covered under one plan or two. A major disadvantage of a domestic partner plan is that the health coverage your employer provides to you and your partner is taxable income to you. You'll need to compare both the cost of each plan and the coverages they offer, taking into account the additional income tax you'll pay if you opt to be covered by only one plan. You also need to realize that you will have to identify your partner and possibly sign a statement about the length of your relationship. Consider whether you are comfortable revealing that information.
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After my child is born, doesn't the law say I'm entitled to three months of leave? Question: My employer says that after my child is born, I have to come back to work in six weeks. But doesn't the law say that I'm entitled to three months of leave?
Answer: The law you're referring to is known as the Family and Medical Leave Act (FMLA). It entitles you to take up to 12 weeks of unpaid leave to care for your new child, but only if you work for a covered employer and meet certain eligibility criteria. Under this law, while you're on leave, your employer-sponsored health insurance benefits are protected, and your employer must return you to the same job or a similar job when you come back to work. You may be covered under the FMLA if: • You work for a private company that has 50 or more employees, or you work for a public school or agency that has less than 50 employees, and • You have worked at least 12 months (not necessarily consecutively) for that employer, and you have worked at least 1,250 hours during the 12 months immediately preceding your FMLA leave start date Even if you are covered by the FMLA, your employer can require you to use any vacation days, sick days, or personal days you've accumulated in place of unpaid leave time. For instance, if you've accumulated two weeks of vacation time, your employer can ask you to use those weeks first, before giving you an additional 10 weeks of unpaid leave. You're also required to give your employer at least 30 days' notice of your need for leave, or as much notice as possible, depending on the circumstances. You should also check the rules of your state, because some states have their own parental leave rules and may pay disability benefits to new mothers. However, if you're not covered by any law, there's not much you can do. Unless you can negotiate more leave time with your employer, you'll either have to go back to work after six weeks or face losing your job.
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Should my spouse and I integrate our health insurance benefits? Question: Should my spouse and I integrate our health insurance benefits?
Answer: When you and your spouse are making this decision, it may be useful for you to focus on three key areas: (1) the out-of-pocket cost of each plan, (2) the levels of service and coverage offered, and (3) the coverage offered to any dependent children, if applicable. Employers will sometimes pay some or all of their employees' health insurance premiums. If this is true in your case, there may be no reason to consider a change in your health insurance plans. If you pay the premiums yourself, however, compare the costs. Check into whether family coverage through one of the plans is less expensive than two single policies. If you have no children, two single policies are typically less expensive than one policy with family coverage. Many large group plans offer two-person coverage (an employee plus spouse, partner, or child) for less than the price of a family plan. However, insurance carriers will not allow you to bill two companies for the same medical service. Other important cost factors to consider are out-of-pocket deductibles and co-payments. Even if the premium you pay at your company is lower than that paid by your spouse, you may discover that your deductibles and co-payments for health problems and routine doctor's visits are substantially higher. Despite the higher premiums, you may decide that it is better to join a family plan through your spouse's employer because of its lower deductibles and co-payments. Be aware that the services and coverage that one plan provides, including the choice of doctors and hospitals, could outweigh the lower costs of the other. You might decide that your family is better off to pay higher premiums, deductibles, or co-payments while receiving specific services (such as rehabilitation, psychiatric therapy, or free eye exams) that the other plan does not offer.
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Do I have to pay U.S. taxes when I work abroad? Answer: If you are a U.S. citizen working abroad, you may be able to minimize what you owe in U.S. income tax if you qualify for the foreign income exclusion. If you qualify, you may exclude up to $91,500 in foreign income from U.S. income tax liability in 2010. If you are married, your spouse is allowed an additional $91,500 exclusion. To qualify, you and your spouse must satisfy the following requirements: • You must reside in a foreign country for an entire tax year or for at least 330 days during a 12-month period • Your salary must be paid by a company or agency in your country of residence or by a U.S. company operating in that country Also, only earned income--salaries, wages, and fringe benefits, plus allowances and expenses for housing--qualifies for the exclusion. Dividends, interest, capital gains, pension or retirement distributions, and alimony do not qualify. If you are a member of the U.S. military or other government service and are living abroad, your income is not considered foreign income. You'll have to pay taxes as if you were a taxpayer living in the United States. Even if you avoid U.S. income tax, you will likely pay some form of income tax to the country in which you reside and earn a salary. Should you fail to meet its residency requirements, or if you receive income above the allowable exclusion, you'll probably end up paying both foreign and U.S. income tax. If you do pay foreign income tax, you can apply for a separate U.S. tax credit (using Form 1116) in the amount of foreign income tax you are required to pay. You'll also owe U.S. Social Security taxes if your country of residence has no treaty to coordinate its social service coverage with the United States. However, if such a treaty is in force, you'll pay foreign social service taxes to your host nation and will not be required to pay U.S. Social Security taxes. In addition, you may be subject to estate and gift taxes if you transfer property, no matter where that property is located. If you maintain a house in the United States, you may owe state income tax and local property tax. For more information, consult a tax advisor or contact the IRS at (800) 829-3676 or www.irs.gov and request Publication 54, Tax Guide for U.S. Citizens and Resident Aliens Abroad.
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If I move, do I need to get new homeowners insurance, or can I transfer my existing policy? Question: If I move, do I need to get new homeowners insurance, or can I transfer my existing policy?
Answer: You'll have to purchase a separate homeowners policy for your new home. The reason you can't just transfer your existing policy is that your new home is different from your old home, so your coverage needs will be different, as well. And since it is actually the building that's insured, the construction and age of your new home will affect the premium you pay. In addition, your mortgage lender will require you to carry a certain amount of homeowners insurance coverage on your new home. The required amount may be different from the amount you had to carry under your old policy. Depending on where you're moving, you may be able to buy homeowners insurance for your new home from the same company that issued your old policy. If you're moving out of state, however, you may have to switch to a different insurance company. Check with your insurance agent if you're not sure. Either way, make sure you cancel the policy on your old home when the house is sold. You'll probably have to send the insurance company a letter stating that you want to cancel the old policy and when. But don't let your old policy lapse by simply not paying your premium. This could show up on your credit report and prevent you from getting affordable insurance (or any at all) on your new home.
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If my employer goes out of business and discontinues its health plan, am I still eligible for COBRA benefits? Question: If my employer goes out of business and discontinues its health insurance plan, am I still eligible for COBRA benefits?
Answer: Probably not. The Consolidated Omnibus Budget Reconciliation Act (COBRA) allows individuals who lose their jobs to continue group health-care coverage under their employer's plans. However, if your company goes out of business and no longer maintains a group health insurance policy, then no COBRA coverage is available because there is no group plan to attach it to. (There's an exception if you're a union employee covered by a collective bargaining agreement, if the agreement provides for a medical plan.) If you're not eligible for COBRA coverage, don't despair--you may still be able to obtain health insurance coverage. If you don't find a new job right away, you may be able to purchase low-cost or no-cost health insurance coverage through your state's unemployment office. When you do find a new job, your employer may provide health insurance. You may even be eligible for coverage through a family member's employer-sponsored health plan. Or, you might look into purchasing an individual health insurance plan.
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I'll be changing jobs, and I'm pregnant. Will I qualify for health insurance with my new employer? Question: I'll be changing jobs next month, and I'm pregnant. Will I qualify for health insurance coverage with my new employer?
Answer: That depends on several factors. If your new employer offers a group health insurance plan, the federal Health Insurance Portability and Accountability Act (HIPAA) may apply. This act prevents your new group health plan from treating your pregnancy as a pre-existing condition if you were covered by group health insurance through your previous employer. But read your new policy carefully. Although most health plans cover maternity care and pregnancy, your new plan is not required to do so if it doesn't normally offer such coverage. Unfortunately, you won't qualify for the protection offered by HIPAA if you had an individual (nongroup) health policy or if you had no health insurance at all. In either case, your pregnancy could be considered a pre-existing condition, and you may be subject to a waiting period under your new health plan. Even if your new employer's group plan includes pregnancy and maternity care, you may be subject to such a waiting period before you become eligible for coverage. So, if you need prenatal care during this period, you may need to pay for the doctor's visits out of your own pocket. Remember that you may need more care near the end of your term. You may be able to continue health coverage through your previous employer under the Consolidated Omnibus Budget Reconciliation Act, but you'll have to pay the full premiums yourself. Of course, your new company may not provide health insurance coverage. In this case, you can apply for an individual health insurance policy, but it will be difficult to find an insurer that will cover you at an affordable price due to your pregnancy. Therefore, before you take a new job, make sure that you understand the coverage and eligibility requirements of your new employer's health insurance plan. Plan carefully for the protection of your health and the health of your baby.
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A cell phone and laptop were inside my stolen briefcase. Will my company's insurance cover the loss? Question: A cell phone and laptop computer owned by my company were inside my briefcase when it was stolen. Will my company's insurance cover the loss?
Answer: Maybe. Many employers' business insurance policies cover laptops, cell phones, and other company-owned equipment that employees use off the business premises. But other companies may not insure such items, so you'll need to ask your employer to find out for sure. If your employer's insurance does cover the stolen items, you've probably got nothing to worry about. Otherwise, you should call your insurance agent to find out what coverage (if any) your own homeowners or renters insurance provides. Unfortunately, you may not like the answer you get from your agent. Standard homeowners and renters insurance policies typically do not cover laptops and other equipment that you use mainly for business purposes. Even if your policy does cover these items, the coverage is probably limited (e.g., $250), and an out-of-pocket deductible may apply. If you're lucky, though, you may have already purchased optional coverage (e.g., a business rider) designed to protect your business items under your homeowners or renters policy. Or maybe you even bought a separate insurance policy to cover your laptop or other equipment. If not, talk to your agent about whether you should buy one of these forms of additional protection for the future. After all, you'll probably end up using other company-owned business equipment at some point.
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I use my laptop computer for my home business. Is it covered under my homeowners policy? Question: I use my laptop computer for my home business. Is it covered under my homeowners policy?
Answer: Homeowners policies usually don't cover laptops used for business. Check with your insurer to find out what your other options are. You may need to purchase incidental business coverage, add a floater to your homeowners policy, or purchase a separate laptop policy.
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I'm looking for a job. How can I tell if an employer is offering a good insurance benefit package? Question: I'm looking for a job. How can I tell if an employer is offering a good insurance benefit package?
Answer: Ultimately, an employer is offering a good insurance benefit package if it's one that appeals to you and meets your needs. But here are some specific things you might look for. Perhaps the most important piece is the health insurance offered. You'll want coverage that adequately meets your medical needs. Hopefully, it will also allow you to continue seeing your current doctors and health-care providers. A complete package would offer dental, vision, and prescription drug coverage as well. And don't forget to find out how much you'll pay for health insurance--ideally, the employer will pay all or most of the premium cost for a single person. Most large employers offer some group life insurance coverage. A basic package would provide term insurance coverage on your life in an amount at least equal to your annual salary. A more generous package would provide coverage for your spouse, domestic partner, or children, and would allow you to purchase low-cost supplemental life insurance. If you get sick or injured and can't work, disability insurance replaces a portion of your income. Many employers offer short-term disability insurance that covers you for up to two years, but a good benefit package will also include long-term disability coverage. Again, the best package is one for which the employer pays all or most of the insurance premium. Finally, a good benefit package might also offer you the chance to buy other types of coverage (e.g., long-term care or auto insurance) at group rates.
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Do long-term disability insurance premiums depend on the nature of my job? Question: Do long-term disability insurance premiums depend on the nature of my job?
Answer: Yes. If you have long-term disability coverage through a group plan offered by your employer, your premium will be the same as the premium of everyone else who participates in that plan. But, the premiums for everyone will depend on the general risks of the industry in which the employees work. If you're buying an individual policy, your profession will also determine your premium. The difference is that many other personal factors will affect your premiums, such as your health, income, hobbies, and so on. Common sense (and statistical data) indicates that some jobs are more dangerous than others. Construction workers, police officers, firefighters, and miners are more likely to be injured on the job than are architects, artists, or sales professionals. If you work in a high-risk occupation, you may be denied individual disability coverage altogether. Or, you may be offered it only at a very high premium. The insurance company will group your job in a risk category based on your duties and the industry's claims experience with people in that occupation. All other factors being equal, the higher the claims rate by individuals in your profession, the higher your premiums for long-term disability insurance are going to be.
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I drive my own car on company business. Whose insurance pays for damages if I get into an accident? Question: I drive my own car on company business. Whose insurance will pay for damages if I get into an accident?
Answer: It depends. If you get into an accident with your own car while on company business, your own auto insurance policy will probably cover the damages first. Then, if your company has a commercial auto insurance policy, this policy should probably cover any remaining expenses. In some cases, the commercial policy might provide the first level of coverage, depending on the way it's structured. The first step is to find out whether your employer has a commercial auto insurance policy (it probably does if it requires employees to drive their own cars on company business). If so, find out which policy would kick in first in the event of an accident. If you're self-employed, you have a couple of options to protect against the financial risk of car accidents. First, you can increase the liability coverage under your own auto policy. Second, you can purchase your own commercial auto insurance policy. You might want to consider this option if you use your car primarily for business-related driving. For more information, contact several insurers and describe your situation.
See disclaimer on final page March 28, 2010