The Jacobs Financial Group

Richard’s Rebuttal February 2010

• In December 2009, I wrote, “High growth opportunities will still be found in emerging markets especially in Brazil, China and Vietnam, but it will likely be very volatile in 2010 – hold on to your hat”. I still believe this to be true especially for Brazil. But the harsh downdraft in the past few weeks was particularly brutal for emerging markets. Be prudent.

• According to Martin Sullivan on Tax.com the rich pay higher taxes than the super-rich. Those earning $1 million to $1.5 million a year pay (2007) an effective rate of 24.1%, while those earning more than $10 million a year pay 19.4%. The reason is because the super-rich have more capital gains income which is taxed at 15%. The 19.4% effective tax rate is nearly the same as those with income in $500 thousand to $1 million range. I guess the super-rich have much better lobbyists – who says Congress can’t be bought.

• I have always questioned the need for lower tax rates on capital gains income. I could never understand the rational for the lower rates. During the Reagan era (Tax Reform Act of 1986) all income, including capital gains, was taxed at the same rate. Ironically, that 1986 tax legislation decreased the highest rate from 50% to 28% and the lowest rate increased from 11% to 15%. This would be the only time in the history of the U.S. income tax (which dates back to the passage of the Revenue Act of 1862) that the top rate was reduced and the bottom rate increased at the same time.

• Most middle class investors have most of their money invested within a 401k or an IRA, which interestingly at retirement are mostly long term capital gains. Yet, withdrawals are taxed at normal income tax rates not at the capital gains rates – Go Figure!!

• At full retirement age individuals are permitted to have unlimited earned income without reduction of Social Security benefits yet that earned income is still subject to FICA and Medicare taxes – Really!! At some point you would have thought a retired individual has paid enough into the government retirement plan. Since many baby boomers are going to need some earned income in retirement, some changes might be in order.

• Laurence J. Kotlikoff, a professor of economics at Boston College University, has suggested that if Americans had to publicly disclose their tax return filed with the IRS, there would be far greater income tax reporting transparency (personal information such as Social Security numbers would be safeguarded). Sounds radical. Actually at various times in our history, individual and business tax returns were part of the public record. Maybe it is time again for full disclosure.

• Factoid – According to the New York Times, China at the end of 2000 had a $28 billion trade surplus. During the same time period the U.S. had $422 billion trade deficit. In 2008, China had a $267 billion trade surplus an increase of 841%. In the U.S. during 2008 the trade deficit increased to $842 billion or 102%. One begins to wonder how much longer that can continue.

The opinions stated in this column are the sole responsibility of Richard Jacobs and should not be contrued as investment advice.

Should You Be a Borrower or Lender? The Return of the Personal Loan

As lending requirements stay relatively tight for most consumers, the chance of borrowing outside the banking system from family or friends can be attractive. After all, it’s rare to see a parent or sibling demand a credit check or other lengthy documentation.

On the other hand, it could be one of the most dangerous financial transactions you ever make simply because money can drive a wedge between relatives in even the closest of families.

There are good and bad aspects to private loans. The good news first:

• Terms can be significantly friendlier than a borrower would qualify for in the open market. For example, the rate charged on the loan can be higher than the lender would receive in a deposit account but lower than the borrower would pay a commercial lender.
• They can require little or no collateral.
• It’s a way to keep money in the family.
• It’s a way for a borrower to be able to buy a home, a car or other critical assets even if they have a poor credit rating.
• There’s no loss of tax benefits to the borrower or lender if an agreement in the case of a mortgage loan is structured and reported properly.

Now the bad news:

• Unclear agreements can lead to missed payments or default.
• If the borrower dies suddenly, the lender’s investment may be lost if the agreement isn’t structured correctly. A properly executed promissory note is still an obligation of the estate, and may continue to be paid to an heir or other person or entity based on the terms as agreed.
• Jealous relatives could say they weren’t treated fairly.
• Disagreements between borrower and lender could kill an important relationship.

The best arrangements are formal – written in proper legal language, notarized and recorded in the county where the property resides. A financial advisor can talk to both parties about what such loans – particularly large loans for real estate or tuition – can mean for their respective finances. It also makes sense for both parties to visit their respective tax professionals to make sure they know the correct ways to document the loan transaction over time for tax purposes.

A detailed document prepared with the help of an attorney or a certified public accountant can also lay out specific scenarios if either the borrower or the lender has to break or alter their agreement. Such trained experts can talk you through the benefits and pitfalls of a private loan arrangement as it affects your particular situation (either as lender or borrower) and specific laws and requirements in your state you have to follow if both borrower and lender are going to derive tax advantages from the agreement.

You should be aware that the IRS governs these interest rates and provides an annually updated table that you can get at http://www.irs.gov/app/picklist/list/federalRates.html – these rates are Applicable Federal Tax Rates (AFR). You can also forgive a portion of the loan each year up the annual gift exclusion which is $13,000 this year.

Generally, any private loan transaction should include a promissory note that establishes how the debt will be repaid. That’s true for business loans or loans for most types of property. In the case of a business loan, it makes sense for the potential borrower to get specific advice on how lenders in their business will be treated not only in terms of repayment, but default. These agreements are particularly important for tax purposes as well.

In the case of a loan made for real estate, a mortgage or “deed of trust” statement (depending on the state you live in) or an agreement specific to the type of loan that binds the property as collateral for the promissory note will be necessary. It basically says that if you don’t fulfill all the terms in the agreement the lender has the right to foreclose or repossess the property.

Even if a friend or relative makes an offer of help, it’s proper for the borrower to take the initiative to structure the arrangement in a way that’s responsible and beneficial to both. If a relative is drawing income from the loan, special provisions should be made for prepayment and other contingencies.

The most important thing to remember and plan for? When two people who are close to each other enter into such an arrangement, the most valuable thing really isn’t the money. It’s the relationship.

January 2010 — This column is produced and is provided by The Jacobs Financial Group. (02-10)

Downsizing Isn’t All About Stuff: It Can Be a Smart Financial Move, Too

As people move into their 50s and 60s, priorities change. The hours spent on home improvements and the sheer time necessary to maintain a full-sized home seem to be a little more of a burden. As kids move on, there’s all that unneeded space.

Men and women tend to turn on the gas in the last 15-20 years of their working lives to make sure their retirement savings will be adequate to their needs. That’s why the idea of downsizing is a good one to start early. It’s also a good time for a financial check-up as well.

A financial professional may not be able to help you sort out what dishes and furniture to sell or give away, but he or she would make a good first stop in developing a complete downsizing strategy involving assets, investments, career and overall financial lifestyle planning. With life expectancies lengthening, many people 50-55 years of age could conceivably be at only the midpoint of their lives.

What is the chief advantage to downsizing? Handled correctly, it can save a lot of money. Selling a larger home – possibly one that still has a mortgage – in favor of a smaller house or condo that’s completely paid off can save potentially tens of thousands of dollars in interest payments over time while still building equity. The earlier the process starts, the better.

Here’s a checklist of considerations in downsizing your life:

Get advice first: As mentioned, downsizing should be a holistic process, a chance for a check-up of your overall finances while identifying things, expenses and habits in your life that you can jettison. A financial professional can give you a push by asking important questions that will get you to a better place financially. It’s helpful to set up a plan to extinguish debt in all of its forms and move on to a check-up of savings, investments and estate matters.

Downsize potential health issues: No matter what the final effect of health reform on pocketbook issues, your out-of-pocket and premium-based health costs over time will be cheaper if you take steps to better maintain your health. Make weight and other personal health maintenance issues a new priority as you move into your pre-retirement years.

Plan for a retire-career: You might be working for a company or organization that has a mandatory retirement age or you have a year in mind when it might finally be time to pack up and go. And there’s nothing wrong with a retirement devoted to travel and leisure activities. But if you think you won’t be able to afford to quit working completely or if doing nothing will eventually drive you nuts, consider getting some career counseling, personality testing and do some research now that will help you train for a new full- or part-time career for after you retire from your present job.

Start thinking about real estate and new places to live: Today’s retirees don’t necessarily have to move to predictable retirement destinations. Telecommuting allows many people to continue working lives and education from anywhere. For many people, the magic combination might involve cheaper real estate, desired weather and activities, travel options and access to good doctors and quality health care facilities. Decide what kind of home you could see yourself living comfortably in at age 70 or 80. This combination of factors might happen in a surprisingly large number of places based on individual preference. To get you thinking and hone your expectations, start with resources like U.S. News & World Report’s online “Best Places to Retire” selection tools.

Talk to your family: It’s really important to discuss not only your expectations for later in life with your family members, but it’s important to get their feedback on what they consider good ideas for you. There may come a day when you need to rely on others for help, and it would be a good idea to identify how realistic that is. Also, if you’re talking about downsizing certain assets or property that might have been in your family a long time, it’s important to discuss that with others who might be affected by that decision.

Start weeding: Physical downsizing isn’t something that’s done in a month. Give yourself a year to go through each room in your home and prioritize what you’re really going to need if you move to a smaller place. Make a list of what you hope to give to friends and family members and what you’ll donate or trash. Time will give you more opportunities to put good, usable items in the hands of people who could really use them. Develop a recordkeeping system that fits you so you won’t forget any decisions you’ve made along the way. Also, you might want to set up a separate area for family photos and other keepsakes that have high emotional value and set up a hopefully egalitarian system for who will get what either when you move or when you die.

Don’t start upsizing later: When you do move, chances are you will need to invest in some new household items or possibly furniture to match new surroundings. Try to avoid going overboard with this – that’s why thoughtful downsizing should prevent a lot of spending for stuff you’ve already chucked. Oh, and make a permanent life decision if possible not to start re-using credit cards or mortgage debt if you can possibly avoid it in your later years.

January 2010 — This column is produced and is provided by The Jacobs Financial Group. (02-10)

Divorce May End a Marriage, but Unchecked Credit Issues Just Might Last Forever

One of the most important aspects of planning for a post-divorce life is planning for your post-divorce credit history.

While Valentine’s Day should be focused on the happy side of love, it’s always important for smart individuals to be aware of the potential money pitfalls of love gone wrong. A divorced couple’s respective credit histories can still be destroyed if one or the other practices poor credit habits during or after the divorce. For example, a failure to remove one’s name from home mortgages, auto loans, credit card balances or home equity lines once a divorce is final can produce significant headaches if an ex-spouse loses a job, runs into medical problems or for any other reasons stops paying on time.

With the current state of the economy, pre- and post-divorce credit deserves even more focus from soon-to-be-single individuals. This is why it’s so important to link financial planning with the legal side of divorce planning. There are financial planners professionals, who specialize in divorce situations.

Here are some key points to consider if you are planning to divorce or if you are post-divorce and are unsure about how your ex-spouse is handling credit you once held jointly:

Enlist your own financial planner with your own attorney or mediator: You may have spent the lion’s share of your life making money decisions with your spouse, but when you split, it becomes all about protecting your best interests. While this doesn’t have to be an angry process, good planners with experience in divorce matters should be able to identify financial issues unique to your situation and guide you as you handle them. As mentioned, if your spouse is going to keep the house with the outstanding mortgage, you need to make sure appropriate actions (more on this below) are taken to make sure your credit isn’t damaged by their inability to pay later.

Demand inspection of each other’s credit reports: It’s very easy to lose sight of credit matters when other immediate issues surface in the breakup of a marriage. If kids and a divorcing spouse risk physical danger from the other spouse, for example, credit concerns may be in the picture, but certainly not as a first priority. However, before a divorce is finalized, it’s particularly important for both sides to review each other’s recent credit history because debt trouble can surface during a breakup and cause problems later. Good divorce attorneys and mediators can draw attention to this need, but couples are ultimately responsible for making this process happen. It’s best for divorcing couples to make time to pull copies of their credit reports and gather those for the same period from their estranged spouse and inspect both thoroughly (with the help of a planner or their attorney if possible). These respective credit snapshots can be used to make decisions that will protect their credit in the future.

If both sides haven’t already obtained their annual free credit reports from the three major credit agencies (TransUnion, Experian and Equifax), the place to go is www.AnnualCreditReport.com. Keep in mind that most “free” credit report services you see advertised on TV take your credit card number and find a way to charge you for your “free” credit information later – don’t fall for it.

Remove your ex-spouse’s name from your accounts immediately: If you are keeping certain credit card, auto or mortgage loan accounts, both of you should call each lender and follow their respective processes to remove your ex-spouse’s name from those accounts. You may need to coordinate with your ex on all written applications to make sure each account ends up where it needs to.

Consider refinancing the debts you keep once the divorce is final: Ex-spouses can run into debt trouble and creditors may come after the other ex-spouse for payment if that debt still exists with a history of both names as creditors. That’s why if they’re able, both spouses should immediately refinance the debt from mortgages, home equity loans, credit cards or any other consumer loans that they’re splitting up. This might be easier said than done given current tight lending requirement and each ex-spouse’s profile as solo borrowers, but again, this is why it’s particularly important to collect debt advice before the divorce is final.

Keep a continued watch on credit reports and scores going forward: For some couples, it might make sense to sign up for services that alert you to sudden negatives in your credit data, but above all, set a staggered schedule immediately to check your credit reports in the 2-3 years following your divorce to spot any erratic credit activity that an ex-spouse might cause. For example, some ex-spouses have been known to place their ex-spouses names on mortgage or credit applications they might not otherwise qualify for. A sharp eye on your credit history can help you identify fraud or other problems.

January 2010 — This column is produced and is provided by The Jacobs Financial Group. (02-09)

Love and Money: Is a Postnuptial Agreement Right for You and Your Spouse?

Valentine’s Day might not be the best time to focus on money, but some married couples are taking the unusual step of re-setting the clock on money issues both good and bad with a legal document called a postnuptial agreement.

A postnuptial agreement is a contract between spouses. It is similar to a prenuptial agreement except it is signed during marriage to protect assets in case of divorce or separation.

Prenuptial agreements get plenty of press when high-profile divorces happen, such as the media frenzy over golfer Tiger Woods and his marital troubles. But postnups can be seen more positively as a reset button to accommodate wealth that’s accumulated since the marriage or as a way to add transparency and correct past money behaviors that were tearing the marriage asunder. In some cases, this kind of “divorce planning” might actually create harmony in a relationship.

Under what circumstances are postnups written? Triggers could include:

• One partner — or both – handling money poorly. A postnup might be used to force full disclosure on both sides and establish a new system for managing money responsibly in the future.
• The building of a significant business or other acquisition of sizable assets. A postnup could be part of an overall financial and estate review for a couple that’s worked hard to start a business together or inherited wealth. They might want to set certain protections in place that weren’t in existence when the couple married or started the business.

Postnups can be expensive to arrange. Both sides generally need to engage separate legal counsel to review the legality of the document as well as coordinate with accountants and tax and estate attorneys. They may even delve significantly into business operations as well, requiring an examination of strategy of valuation and succession planning.

If you and your spouse are considering whether a postnuptial agreement is right for you, it makes sense to talk with a financial expert first. If the problem is money, it’s best to talk through options with an objective professional who handles financial planning for a living. It might be possible to work out those issues without a need for a document that will take significant expense to produce due to the need for attorneys as well as tax and estate professionals.

Some common questions to ask in preparation of a postnuptial agreement:

What problem are we trying to fix or what behavior are we trying to change? This is the central question when trying to remake a financial life. A financial professional can help a couple determine the root causes for the financial issues they’re facing and determine how much support they really need. A financial professional can help both sides come to the table with disclosure of debt, assets and other business, employment and investment issues of relevance.

What about our families? Minor and adult children are part of any new financial agreements you make during your marriage. If there’s a family business at stake, there needs to be a discussion about how a postnuptial agreement will affect a split of assets that might affect their future inheritance or career options. There may be alimony and other support arrangements already in place for ex-spouses and children from earlier marriages as well as elderly parents to support. All of these financial requirements need to be part of the discussion.

Is there debt? And if so, how much? If one or both sides in the marriage have been hiding this information, disclosure is part of the process. Both sides must be willing to reveal their savings, investments and debt figures – every dime. Both should start the process of talking about how that debt should be paid off – by the person who accrued it, or by both potential spouses. Couples also need to decide how they will handle debt going forward – jointly or separately.

Are there investments? Again, this might be a disclosure issue, particularly if one or both sides are hiding assets or simply have lost track of them. There might also be wide differences on how investments should be managed and even what types of investments are appropriate.

What about the business? If one or both spouses run their own companies or partnerships and there has never been a serious effort at succession or estate planning, all of these efforts need to be linked. If there is a fear that the marriage may fail, both sides may want to have a plan in place for disposition or purchase of the assets. This is particularly necessary if the goal is to keep the company in the hands of the founding family so those assets can be passed on to the next generation.

What about everyday expenses? If one or both sides believe that certain expenses are a burden, it’s time to talk about reallocating responsibilities. This might be as simple as consolidating bank accounts in both names so there’s transparency over everyday finances.

What about insurance? Life, health, home, and disability – all coverage that singles hold separately needs to be reviewed and consolidated to make sure that coverage is adequate going forward.

What about our estates? There should be separate wills and supporting documents on who will get what investments, personal and business assets with updated beneficiaries – particularly when children from first marriages are involved. This new look at finances might benefit from an examination of various trust agreements to protect and direct assets for future generations, particularly for blended families or families that might blend after a breakup. And no matter how young or old the couple, healthcare directives need to be made.

What about retirement? Retirement discussions go beyond money. Couples should decide how they want to live in retirement, whether they’ll continue to work and how they’ll deal with illness. This is a particularly important discussion if one spouse is significantly older than the other and may retire years ahead.

When done correctly, a postnuptial agreement can benefit both spouses. The very process of working on this arrangement can be a positive exercise for many couples. Whether or not the marriage ends in a divorce, couples can breathe easier knowing they can protect what they each own.

February 2010 — This column is produced and is provided by The Jacobs Financial Group. (02-10)