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5 things financially reckless young people say

March 20, 2015

By Dan Rafter | Money Rates Columnist

Michael Chadwick has a simple message for 20-somethings: You can't have everything you want right away.

You can't live in the same kind of home your parents have. You can't motor around town in the same kind of car your parents drive. And you can't afford to follow your parents' example and take two vacations a year.

"Unfortunately, too many young people want the same things that it took their parents 10 or 20 years to get," says Chadwick, chief executive officer of Chadwick Financial Advisors in Unionville, Connecticut. "There is no more delayed gratification. And that's what can get young people into financial trouble."

Chadwick isn't alone in this theory. Financial advisers say that too many 20-somethings make serious financial mistakes in an effort to live a lifestyle that is beyond their means. Many, after all, are still paying off piles of student-loan debt. The financial mistakes that 20-somethings make can haunt them throughout their 30s, 40s and beyond.

Sometimes, these grave errors may follow a few simple words. Want to avoid the financial chaos that characterizes some people's youth? Then think very carefully about what you're doing when you find yourself making the five statements below.

1. "I can pay for it on my card."

Credit cards are important financial tools if used properly, especially for young consumers. Those who pay their credit-card bills on time every month are taking steps to build a solid credit score. But it's far too easy for 20-somethings to misuse their cards. They use plastic to purchase big-ticket items that they can't afford, from high-end flat-screen TVs to rooms full of furniture.

Soon they're staring up at a mountain of credit-card debt, which often comes with exorbitant interest rates.

"Running up credit-card debt is the biggest mistake I see young people make," says Melinda Kibler, certified financial planner with Fort Lauderdale, Florida-based Palisades Hudson Financial Group. "The interest rate is so high that it is extremely difficult to dig yourself out. It becomes a vicious cycle."

2. "I've got years to save for retirement."

Retirement seems a long way off for consumers in their 20s. But David Lyon, chief executive officer of Chicago's Main St. Advisor, says that young people need to start saving for retirement in their 20s. It's the easiest way for them to guarantee that they'll have enough money for a happy and satisfying retirement.

Too many people, though, don't save a dime for retirement in their 20s, Lyon says.

"When you're in your 20s, it's easy to convince yourself that you'll put money away for retirement when you start making a bigger salary," Lyon says. "But what happens is, as your salary increases so does your cost of living. You buy a bigger house. You get married. You have kids. So people keep pushing off their retirement savings."

Lyon says that young people should start saving at least a small amount of money each month for retirement as soon as they enter the workforce. That little bit of savings will grow, thanks to the magic of compound interest, into a solid nest egg.

3. "I deserve a few nice things."

There was a time when 20-somethings lived on Ramen noodles in cramped studio apartments as they saved for their first house or new car.

Too many 20-somethings today, though, skip this period of austerity, says Kelley Long, resident financial planner for El Segundo, California-based Financial Finesse and a spokesperson with the National CPA Financial Literacy Commission. Instead, they borrow huge amounts of money for homes and cars that they can't afford on their entry-level salaries.

"Young people too often borrow against their future earnings to elevate their lifestyle so that it matches the lifestyle they experienced when growing up," Long says. "They don't recognize that it took their parents 20, 30 years to get to where they are. The austerity days of 20-somethings seem to be coming to an end. Instant gratification is the crux of the problem."

4. "I don't make enough to save for emergencies."

Chadwick says that it is essential for young adults to build an emergency fund that they can tap if they get into a car accident, run into unexpected medical bills or experience some other financial calamity. A good rule of thumb is for young people to save at least six months of living expenses in an emergency fund.

But too many 20-somethings instead spend their extra $20 or $30 on items that they don't really need. Chadwick says that this is a problem that is only getting worse.

"There are far more things for people to spend their discretionary income on today," Chadwick says. "They can Uber their way home instead of taking public transportation. They can subscribe to Netflix. It's so easy to order in delivery food. This is all a burn on people's disposable incomes."

5. "I'll look into investments when my salary is better."

A good way to build up wealth is to invest in the stock market or in mutual funds. But many 20-somethings don't do this, Kibler says, thinking that they'll invest once they start earning a higher salary. But in doing so, these young adults are wasting valuable time.

And those 20-somethings who do invest, often invest too conservatively. They might set up their 401(k) plans so that they are sinking their dollars in only the safest of investment vehicles, Kibler says. That's a mistake: Young people have plenty of time to experiment with higher-risk but higher-reward investments.

"Don't be afraid to take risks when investing," Kibler says. "Without that growth it can be hard to save for retirement. You have to depend on the market even if it can be volatile. When you are young is the best time to put up with that."

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6 financial terms every 20-something should know

March 6, 2015

| Money Rates Columnist

Financial advisers, it seems, don't always agree. For instance, there seems to be some difference of opinion regarding when exactly young adults should be expected to understand and manage their own finances.

"If they are old enough to drink alcohol, get married and drive a car, they should also be old enough to learn to manage their finances," says Douglas Goldstein, CFP, investment adviser and author of "Rich as a King: How the Wisdom of Chess Can Make You a Grandmaster of Investing."

Meanwhile, Andrew Meadows, consumer and brand ambassador at Ubiquity Retirement + Savings, gives young adults a pass on financial self-sufficiency until they are done with their education and entering the workforce. "It's when you get your first real job," he says.

While Goldstein and Meadows may have slightly different opinions about when young adults should be financially independent, both agree 20-somethings need to be able to speak the language of money to be successful. Here are six financial terms every young adult should know before striking out on their own.

1. Overdraft protection

When you get a job, you'll likely need a checking account, if you don't already have one.

"The various aspects of banking can be a bit confusing and difficult to understand at the beginning," Goldstein says.

Overdraft protection is one example of a confusing bank product. It may sound like a benevolent service offered by banks, but it can actually cost you a lot of money. Overdraft protection doesn't protect you from overdrawing your account. Instead, it allows you to do so for a price.

For example, if you have a zero balance in your account and try to use your debit card, the bank will allow the charge to go through if you have overdraft protection. You are then charged a fee for the privilege. Without overdraft protection, your card will be declined. This can be embarrassing, but it may save you money in the end.

2. Compound interest

Ubiquity Retirement + Savings offers retirement accounts geared toward young business owners, so Meadows has had plenty of experience talking to those new to investments. While all investing concepts can be tricky to understand, he says millennials seem to have particular difficulty with the idea of compound interest.

"It seems unreal," Meadows says of the online graphs and calculators that show how a small amount invested now can turn into a big number by retirement age. The reason young adults may have trouble believing the numbers is because they don't understand compound interest, which lets you earn interest on interest.

In other words, a 10 percent annual return on a $100 investment will give you $110 at the end of year one. In year two, you earn interest on your $100 initial investment plus the $10 interest, for a total of $121 in year two. In this example, by the end of 10 years, your investment will have grown to more than 2.5 times your original investment without your depositing another cent.

"It's not magical," Meadows says. "It's a mathematical fact."

3. Defined contribution plan

When you accept your first real job, it will hopefully come with some sort of retirement benefit. Typically, that may be either a defined contribution plan or a defined benefit plan. You may also hear the term deferred compensation used in conjunction with both of these. "We thrive on confusing terminology," Meadows says of the retirement industry.

A defined contribution plan means your employer will put a certain amount of your salary into a retirement account for you, usually a 401(k) plan.

4. Defined benefit plan

The second type of retirement plan you could get, if you're lucky, is a defined benefit plan. These are commonly referred to as a traditional pension plan.

With these plans, your employer says they will pay you a specific (i.e., defined) amount after you retire. The amount is often paid monthly and is calculated as a percentage of the income you earned during your final years with your employer.

5. Asset allocation

Those who end up with a 401(k) at work or open their own individual retirement account (IRA) will need to contend with something called asset allocation. This term simply means deciding how best to invest the money you put in the account.

When it comes to asset allocation, there are several theories regarding how best to split money between stocks, bonds and cash options. However, Meadows says young adults shouldn't worry too much about asset allocation up front.

"Don't over-analyze," he says. "The best advice is to just start saving period."

6. FICA

Retirement benefits aren't the only thing that can confuse new workers. They may also find the array of withholdings from their paycheck to be baffling.

One of the largest numbers you might see taken off your income is FICA. An abbreviation for the Federal Insurance Contributions Act, FICA levies a 15.3 percent tax to pay for Social Security and Medicare benefits.

Of that amount, 2.9 percent goes toward Medicare while 12.4 percent is earmarked for Social Security. In 2015, the Social Security portion is assessed on only the first $118,500 you earn for the year. For payroll workers, the FICA tax is split between workers and their employers.

Embracing financial adulthood

Those are a few of the financial terms you should know before heading out into the workforce. If they are new to you, you're probably in good company.

"Many kids graduate high school without being able to read a bank statement, and that's pretty sad," Goldstein says.

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5 overlooked tax deductions for families

February 19, 2015

By Dan Rafter | Money Rates Columnist

No one looks forward to April 15. For busy families, preparing a tax return can prove stressful -- not to mention costly. But part of the problem is that too many families fail to take all the deductions to which they are entitled.

"What I take for granted, many filers don't have any clue about," says Peter Baum, partner with the Harrison, New York, office of accounting firm O'Connor Davies, LLP. "A finance person might understand all the deductions available. The average person, no."

The deductions noted below may save your family some dollars this tax season. Remember though, you only want to itemize your deductions if your deductions total more than the IRS' standard deduction. For married taxpayers filing jointly, the standard deduction for the 2014 tax year is $12,400.

1. Medical expenses

Eric Green, a tax attorney in the New Haven, Connecticut, office of law firm Green & Sklarz, says that families might be able to reduce their tax burden by claiming medical expenses. But there are some caveats.

Medical expenses are tax deductible only if they total more than 10 percent of a family's adjusted gross income for the year. This means that for most families, medical costs would have to be fairly significant to generate enough expense to qualify for a deduction. But if someone in the family lost a job, dramatically reducing the family's income, it is possible that medical expenses could reach that 10 percent threshold.

If they do, it's important for families to claim these expenses. They can shave a significant amount of money off the taxes they owe.

Timing is key though, Green says. This is advice that families should heed this year in preparation for next tax season. If you have a medical bill for a late-in-the-year procedure, you might want to pay it before Jan. 1, even if the bill isn't due that soon. That way, you can claim it on your taxes the following April 15.

"Timing plays a role in so many tax decisions," Green says. "It's about accelerating your expenses in a given year and deferring your income for that same year. That's one way to maximize your deductions. You can do this with your medical expenses."

2. Job-search costs

Were you or your spouse looking for a job this year? The expenses involved in hunting for that job can be deducted as miscellaneous expenses if you itemize your deductions, says Michael Atias, tax director at Irvine, California-based financial education company Online Trading Academy.

Again though, there are some rules. First, your total miscellaneous expenses, including the expenses you incurred looking for a job, must be more than 2 percent of your adjusted gross income for you to deduct them.

If your miscellaneous expenses hit this threshold, you can deduct transportation expenses that you paid while searching for a job, including 56 cents a mile for driving your own car plus any parking fees or tolls that you paid, Atias says. You can also deduct food and lodging expenses if you have to spend an overnight stay while searching for your next job. Cab fares, employment agency fees and the costs of printing resumes are all deductible too.

You don't even have to have been successful in your attempts to find work.

"Qualifying expenses can be written off even if you didn't land a new job," Atias says.

3. State sales taxes

Some states don't have income taxes. But this doesn't mean that the residents there are out of luck when it comes to deductions. If you live in a state with no income tax, you can instead write off all the state sales tax that you paid during the year, says Baum.

This can pay off if you've made a big purchase during the year. If you bought a boat or car, those deducted sales tax dollars can have a big impact on your tax bill.

If you live in a state with low income taxes, you might still consider deducting your sales taxes instead of your income taxes to help boost those itemized deductions. Remember, you can only deduct state income taxes or sales taxes, not both.

4. Profitable hobbies

Cal Brown, adviser with Savant Capital Wealth Management in McLean, Virginia, says that if you already spend money on a hobby, you might be able to reduce your taxes by turning that hobby into a business. For instance, Brown plays guitar. During some years, he gave private lessons out of his home. He was then able to deduct the money he spent on guitar supplies on his taxes.

"I was spending money on strings, picks and other supplies anyway, so I turned my hobby into a business and deducted some of those expenses," Brown says.

A key guideline here is that you can only deduct purchases that are actually used for a business. Eventually, you also need to show a profit from your hobby-turned-business. If you don't show a profit in at least three of the prior five years, the IRS will classify your business as a hobby, and you won't be able to deduct any expenses associated with it.

5. Care for relatives

Do you provide a home or financial support for relatives who aren't your children? You might be able to claim a dependent exemption of $3,950 this year for any extra relative -- of the non-child variety, of course -- whom you support.

Again, you must meet certain requirements to earn an extra dependent exemption. First, the person you support must be a relative or a full-time member of your household and must be a citizen or resident of the United States or a resident of Canada or Mexico.

These relatives must not have filed a joint income tax return with anyone else and must receive more than half of their financial support from you. The relative must also have earned less than $3,950 in 2014.

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5 groups who need professional tax help

February 9, 2015

| Money Rates Columnist

Given how simple it is to file a basic return with tax preparation software, paying someone to prepare your taxes may seem as timely today as a flip phone or dial-up modem.

Not so fast, say some finance experts. While tax software works well in some situations, it can never fully replace a human touch -- particularly if your situation is a little different from the average taxpayer's.

Here are five types of taxpayer that financial advisers say should skip the software this year and find a tax professional instead.

1. The fresh starters

Doug E. Lockwood, CFP, branch president and wealth partner at Hefty Wealth Partners in Auburn, Indiana, says that whenever he runs across someone who has had a change in their circumstances, he recommends they ask themselves, "Is this a life-changing event?" If they answer is yes, then it's time to pay a visit to a tax professional.

While a whole host of situations can be considered life-changing, Lockwood provides a rundown of what he considers major events.

  • Marriage
  • Divorce
  • Disability
  • Retirement
  • Relocation
  • Self-employment
  • Children leaving for college

While these events don't necessarily make filing taxes more difficult, they represent a time ripe for mistakes. People may not realize their new situation makes them eligible for certain tax benefits or, alternately, they may try claiming credits or deductions for which they no longer qualify.

2. The tax-curious

Cory Schmelzer, CFP, owner of San Diego Wealth Management, agrees that life-changing events are a top reason to see an enrolled agent or other qualified tax professional. He says seeing a pro is about more than merely avoiding mistakes. It's also about strategizing and minimizing future tax obligations.

What's more, you don't have to wait until a life change to see a tax pro. Schmelzer recommends professional tax preparation for anyone who wants to explore their tax options and look at alternative scenarios.

"Doing your tax preparation needs to be something where you design and plan for the future," he says.

Although some taxpayers may be able to do their own tax planning, the complex nature of the tax code makes it difficult, and not particularly enjoyable, for most people. However, a good tax preparer should be adept at running several scenarios and recommending how best to minimize tax liability in both the short and long run.

3. The trustees

According to Lockwood, another group that should definitely get professional help is anyone filing a return for an estate or trust.

The law requires a separate tax return from these entities, as their money may be taxable. You could do that by trying to file a Form 1041 on your own, but many taxpayers find the form baffling. Save the headache and let a pro do the heavy lifting instead.

4. The diversified investors

This fourth group may be the one most likely to seek out professional help, and for good reason. Tax rules for investments and assets can be difficult to understand and often come with income phase-outs or other catches.

For example, Schmelzer says that real estate investors may be able to deduct passive losses from rental properties. However, the law is very specific about who is eligible for this deduction, and it isn't always clear to taxpayers. Rather than guess, those with rental properties may want to check in with a tax preparer.

Lockwood says individuals with stock options or those who may be subject to the alternative minimum tax should also get help.

"In complicated tax situations, a tax professional earns their weight in gold," he says.

5. The technologically or mathematically challenged

Finally, if you find your iPhone confusing and have the office tech support number on speed dial, you may want to opt out of doing your own taxes. The same goes for those who struggle to understand their W-2s and other tax documentation. While software can make filing easy, it's not going to catch your mistakes, particularly if you are inputting the wrong information.

"TurboTax is a program," says Lockwood. "You put bad data in, you get bad data out."

If you don't fit neatly into any of the above groups, Schmelzer recommends considering the cost of professional tax preparation against its value when deciding how to file your taxes this year.

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6 key facts on Social Security

February 2, 2015

By Dan Rafter | Money Rates Columnist

Here's a key number: 567. That's the number of possible ways to claim Social Security benefits, says Joshua Melberg, president of J.D. Melberg Financial in Tucson, Arizona.

That 567 figure applies to couples -- singles have it a bit simpler -- but it's still little wonder that so many people fail to maximize the money they receive from the Social Security Administration.

"The basic concept seems simple: You'll suffer a financial hit if you claim your Social Security benefits before you reach full retirement age and you'll get a reward if you turn on your benefits after full retirement age," Melberg says. "But there are different situations for different people. Waiting until you turn 70 to claim your benefits will provide the biggest monthly payment. But that doesn't mean it's the right move for everyone. Unfortunately, most people are leaving money on the table."

Here are six facts you need to know before you begin claiming your Social Security benefits. Understanding them can help you maximize the amount of money you receive from Social Security during your retirement years.

1. The Social Security Administration isn't going to run out of money

Andrew Weissman, senior vice president at RDM Financial Group in Westport, Connecticut, says that many people rush to take their Social Security benefits as early as they can because they believe that the government will run out of the money that they need to fund the program. Their theory? They better take the money when they can.

The truth, though, is less dire. Weissman says that if Congress doesn't do anything to overhaul Social Security -- such as boosting the amount of money that workers pay into the system or raising the retirement age -- the Social Security Administration by 2033 will only be able to pay out 75 percent of the payments that recipients are scheduled to receive.

This means that even in an implausible worst-case scenario, the recipients will still receive 75 percent of their benefits each month.

"You shouldn't use fear that the government will run out of money as an excuse to take your payments as early as possible," Weissman says. "People in Congress like to stay in Congress. They don't want to get voted out of office. It is extremely likely that they will do something before 2033 to make sure that they can fund Social Security payments."

2. Thirty-five is a magic number

The amount of money you'll receive each month depends on when you begin claiming your benefits. If you claim before your full retirement age, you'll receive less each month. If you wait until 70, you'll receive the largest monthly payment possible. That's common knowledge. But many recipients don't understand the math behind their benefits.

At its most basic, your monthly benefit is determined by a 35-year average of your covered wages, with each year's wages adjusted according to inflation. If you worked more than 35 years, though, the Social Security Administration will use your 35 highest-earning years to calculate your monthly benefits. On the negative side, the administration will average in zeroes for every year less than 35 that you worked, something that will drag down the size of your monthly benefits. If you want the maximum monthly benefit, you'll need to work at least 35 years.

3. Your decisions can impact how much your spouse receives after you die

Robin Brewton, chief operations officer of Overland Park, Kansas-based Social Security Solutions, says that the rules for survivor benefits -- the benefits that widows or widowers receive after their spouses die -- are some of the most misunderstood because they are so complicated.

But here's a basic tip: If you want to make sure the surviving spouse receives the maximum amount of benefits each month, the spouse earning the most money -- and the highest amount of Social Security benefits -- should delay claiming benefits until reaching the age of 70.

That's because the surviving spouse always has a choice: Survivors can choose to receive either their own monthly benefits or the full amount of their departed spouse's, whichever is higher. The surviving spouse will receive the highest amount of money, then, if the highest-earner in the marriage waits as long as possible to claim benefits.

"I have seen so many widows who are in poverty late in life," Brewton says. "They thought they had enough, but then late in life their retirement savings start to run out. One way to not let this happen is to make sure that surviving spouses receive the highest monthly benefits possible."

4. Staying married for less than a decade can hurt you

You might want to get divorced. But if you've already been married eight or nine years, it may make financial sense to wait until 10 years to make end of your marriage final. That's because if you've been married at least 10 years, you can claim either your benefits or an amount equal to half of what your former spouse earned, whichever is higher.

But if you've only been married for nine years and 11 months? You don't get that option.

Of course, if you remarry, this option disappears. In fact, you won't be able to claim your new spouse's benefits, either, until you've been married for at least one year.

5. You won't lose your benefits if you keep working

Laurie Samay, client service associate with Scarsdale, New York-based Palisades Hudson Financial Group, says that many people think that they can't work and receive Social Security benefits at the same time. This isn't true, though the issue is a bit complicated.

If you are collecting benefits while under your full retirement age and still working, the government will withhold $1 in benefits for every $2 you earn past a certain yearly limit. For 2015, that annual limit was $15,720. If you begin collecting your benefits at full retirement age and continue to work, the government will withhold $1 of benefits for every $3 you earn past a higher threshold amount. In 2015, the withholding would start once you earn more than $41,880.

And, as Samay points out, you're not really losing those withheld benefits. Once you reach full retirement age, the government will increase your monthly benefits to make up for those that it withheld.

"So it's nothing to worry about," Samay says. "If you want to keep working in retirement, you can. Those benefits are just being deferred. They're not being taken away."

6. Waiting really can pay off, unless ...

Many people automatically begin claiming their Social Security benefits at full retirement age because it's so easy. They also don't think that the difference between claiming at, say, age 66 and 70 amounts to much money.

This is where they are wrong. For every year you wait to claim Social Security benefits, your yearly benefit will jump by about 8 percent until you reach age 70. So by waiting from age 66 to age 70 to claim your benefits, you can increase your eventual monthly payments by roughly one-third.

The caveat? If you're in poor health and may not make it much past retirement age, claiming your benefits sooner rather than later may still be the best choice for maximizing your overall payout.

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