Resource Category: Personal Finances

Reverse mortgages, how do they work?

Posted on March 29, 2018 by -

Reverse mortgages allow older people to access the equity they have built up in their homes. Repayment of the equity is deferred until the person sells the home or passes away.

How a reverse mortgage works

A reverse mortgage is a form of loan that allows you to turn some of your home’s equity (the value of your home minus the amount you still owe on your mortgage) into cash.  While a reverse mortgage can be a good source of cheap credit, it is important to remember that at the end of the day, it’s a loan like any other. That means you’ll pay interest on the loan and it does, eventually need to be repaid. 

The interest rate can be either fixed (stays the same over time) or variable (it’s subject to change at the lender’s discretion). Borrowers often view reverse mortgages as preferable to other forms of credit as their interest rates tend to be on the low side, although this isn’t always the case.

Unlike a home equity line of credit, a reverse mortgage does not need to be repaid until the borrower moves, is no longer able to meet the requirements of their mortgage, or passes away. A reverse mortgage can be paid out to you in a lump sum, in regular installments, as a line of credit (on an as needed basis), or some combination thereof.

The 3 Types of reverse mortgages

Single-purpose reverse mortgages are offered by local governments and are intended for low-income homeowners.  They must be used for a specific purpose outlined by the lender (i.e. necessary home repairs). 

Federally-insured reverse mortgages, or Home Equity Conversion Mortgages (HECMs), are provided by the federal government. These are the most common type of reverse mortgage, and have no income requirements or strings attached to their use (you can use a HECM for anything you want, like a new car or a child’s wedding). 

Proprietary reverse mortgages are offered by private lenders, and offer higher levels of credit than the other types of equity loans discussed, but also generally carry higher interest rates. These are not recommended for low-income borrowers or those with a modestly valued home, as they have a history of predatory practices towards financially vulnerable clients.

As with any loan, it’s important to consider whether an increase in debt is absolutely necessary. Reverse mortgages may be preferable to more expensive forms of credit, but you should evaluate all of your options before signing up.

The downsides of having a reverse mortgage

Inability to refinance and murky terms. Reverse mortgage documents can be confusing to read so before entering into a loan agreement, make sure you fully understand the terms of the said agreement. Unfavorable terms can include: 

  • Inability to renegotiate terms or refinance, which means borrowers could be stuck paying a high interest rate (which makes the loan hard to pay off). 
  • An adjustable rate that increases quickly that often catches borrowers unaware.

High interest rates and upfront costs. Interest rates on reverse mortgages can be 1.5% higher than regular home loans, and final costs could include lender fees, mortgage insurance premiums, finance charges and closing costs, all of which eat into the total amount available to you.

A strain on heirs. If you plan to leave your property to your heirs, they will have the option of paying the loan in full or 95% of the balance. If they can’t settle this debt with their own funds, the home must be sold in order to repay the lender. Also if you decide to sell the home you will have to repay the balance as soon as your house is sold.

Loss of equity in your home. Over time, the high accrued interest on your reverse mortgages may drain any remaining equity in your home. Moreover, some homeowners have found that lenders fail to keep accurate records, and there were obstacles when attempting to prevent foreclosure—such as slow response times (critical during foreclosure), receiving erroneous information or instructions, and general unresponsiveness. Before entering into an agreement, it would be wise to seek counsel of a trusted third party reverse mortgage professional or financial advisor.

 

Disability insurance, a great safety net

Posted on March 29, 2018 by -

Your ability to make a living is one of your most important assets. What happens if you’re injured and have to stop working for a period of time? Having disability insurance is one of the best ways to help make sure you have financial security.

How disability insurance works

If you suffer from an unexpected injury or illness that prevents you from working for an extended period of time, disability insurance can provide a critical source of income until you recover.

Traditionally, employers offered disability insurance to their employees automatically or as a voluntary benefit. But the employment landscape is changing and many people do not have an employer. What hasn’t changed is the need to have a disability policy in case you can’t work for a period of time, so you don’t have to dip into your savings.

What you need to know

Disability insurance works like any other insurance policy in that you pay regular premiums to guarantee that, when you need it most, you have the financial support you need to cover your expenses.

Premiums are generally equivalent to 1-3% of your annual income, and can pay out up to 60-80% of your income for the period in which you cannot work. The amount of time disability insurance will continue to pay out depends on the policy; most cover at least two years of disability, but more expensive policies can pay out for decades.

 

 

 

Why it’s a good idea to have a will

Posted on March 29, 2018 by -

Having a will is one of the most important financial and legal steps you can do for yourself and your loved ones. Not only will it spell out exactly how you’d like things to be handled once you pass on, it will make the process of your passing easier on your loved ones.

Getting Started

The steps to create a will are simple and include choosing an executor, appointing a guardian if you have dependents, and identifying your assets and property.

Choosing an executor and guardian

This is the person you designate to make sure your wishes are known concerning your property. It will also include naming a guardian for your dependents or your children.

Identifying your assets & property

Generally, most people leave the bulk of their assets and property to their spouses and children. If this is the case, it isn’t necessary to create a detailed list of all of your possessions. Of course, if you have special items you want to go to specific people, be sure and list them out.

Updating your will

Many people will put off drafting a will because they feel their financial situation may change before their passing. However, you can update your will as your circumstances change, so it’s really never too early to reach out to an estate attorney that can assist you with drafting one.

What if you pass without a will

If it’s unclear what you intended to do with your assets and property, the government may hold onto them for an extended period of time, which can result in litigation and stressful bureaucracy. By drafting a concise and comprehensive will in consultation with an estate attorney, you can dramatically ease this process.

 

 

 

 

Using your home equity–Things to consider

Posted on March 29, 2018 by -

The equity you have in your home can be one of the most important pieces of your retirement savings. Since it’s such a critical asset, borrowing against it should be considered carefully.

Taking out a home equity line of credit or a home equity loan can be a good way to access cheap credit or consolidate other debts, but it’s important to fully understand the associated costs and benefits. Both types of loans allow you to turn some of your home’s “equity” (the value of your home minus the amount you still owe on your mortgage) into cash. The less money you still owe the bank for your mortgage, the more equity you can turn into borrowable cash.

Many people take out home equity loans because the interest rates tend to be lower than for other forms of debt. However, home equity lines of credit and home equity loans differ sharply when it comes to interest rates and availability of credit.

Home equity line of credit (HELOC)

A home equity line of credit, or HELOC, functions like a credit card; meaning you can borrow when you want to, up to a defined limit. A HELOC also resembles a credit card in that the interest rate is “variable,” a term that should set off alarm bells when you’re considering a loan because it means your interest rate is subject to fluctuations and can suddenly increase.

A “variable” interest rate is one that fluctuates over time, unlike a “fixed” interest rate, which doesn’t fluctuate during the period of the loan. HELOC interest rates are considered to be variable and are usually determined by national financial “indicators” that have nothing to do with your financial history. 

The most commonly used indicator is the “U.S. Prime Rate,” which is adjusted over time. The prime rate is used by lenders to assess how much they should charge borrowers and is not related to your credit history. Lenders will also generally add their own rate on top of this. The unpredictability of these interest rates can make it harder for you to establish a consistent repayment plan, especially if you’re on a fixed income because you can’t simply set aside the same portion of your income every month.

A situation when a HELOC might make sense is for a home renovation. That way, you only draw the money when you need it to pay for materials or labor and aren’t paying interest on the total amount of the renovation for the entire duration of the project.

Home equity loan

A home equity loan is a one-time, lump-sum loan of a specific amount of cash that is to be paid back over a set amount of time. Home equity loans generally carry a fixed interest rate, so you can expect to pay the same amount every month. Home equity loan interest rates depend on a combination of your credit score and the housing market in which you live.

Another important factor when considering a home equity loan is how it will affect your credit score. Credit agencies treat HELOCs like credit cards, so a high balance can negatively affect your score. Home equity loans, however, are treated as “installment loans” (the same type of debt as mortgages or student loans) and do not affect your score.

Before you enter into a loan agreement for either type of credit, consider how they will affect your broader financial picture. 

A close look at Social Security

Posted on March 29, 2018 by -

Social Security is a critical source of income for many Americans in retirement. However, it’s not likely to cover all of your expenses. To make sure you have enough to live on, it’s a good idea to have other sources of retirement savings.

Understanding Social Security

Social Security was created as a mandatory, government-administered retirement and disability insurance fund for all Americans. Prior to its founding, retirees and the disabled relied exclusively on their own savings or the assistance of their families, exposing less-fortunate Americans to financial hardship. 

Social Security is funded through a tax on income that allocates money into the budget of the Social Security Administration, where it is then immediately paid out to citizens currently eligible for Social Security benefits. When the money produced by these taxes exceeds the amount needed to pay beneficiaries, the remainder goes into the “Social Security Trust Fund,” where it is invested to provide a fallback for years when participant revenues are not as high.

Who qualifies to receive Social Security benefits

The most common type of benefit received from Social Security is the retirement benefit. Individuals qualify for retirement benefits by earning “credits.” It normally takes 10 years working full-time to accumulate enough credits to qualify for this benefit; however, only those over 62 are eligible to receive it.

The amount an individual receives depends on when s/he chooses to start receiving benefits; payments will be higher the longer the individual waits to access them. Most Americans begin taking their benefits as soon as they turn 62. In fact, only 1.4% of men and 2.5% of women wait until they turn 70 to start taking benefits[1]. If a married person passes, the living spouse is eligible to receive the benefits of his/her partner in addition to his/her own. This is referred to as “survivor’s benefits.”

Individuals who have a physical ailment that is included on Social Security’s list of disabilities, who are at least 18 years of age, and have earned the required credits (around $52,000 in previous earned income), are eligible for Social Security disability benefits until they are able to return to work[2].

How you receive and pay taxes on Social Security payments

  • Social Security payments can be received through a direct deposit to your bank account or via a check sent to your home.
  • Distributions from your IRA don’t affect your Social Security disbursements. However, they can affect the amount of income taxes paid, which means that you may need to pay taxes on Social Security Benefit disbursements.
  • As of 2021, single filers with a combined income of less than $25,000 will not pay taxes on Social Security benefits. Those with a combined income between $25,000 and $34,000 will pay taxes on up to 50% of their benefits, and those making more than $34,000 will pay taxes on up to 85% of their benefits.
  • It works a bit differently for married couples who are filing jointly. If filing jointly, the couple must add together both incomes even if one isn’t receiving Social Security benefits. Couples with a combined income of less than $32,000 will not pay taxes on Social Security benefits. Those with a combined income between $32,000 and $44,000 will pay taxes on up to 50% of their benefits, and those making more than $44,000 will pay taxes on up to 85% of their benefits.

The future of Social Security

In theory, the Social Security program can fund itself indefinitely because the working generation is constantly producing enough money to support retirees and the disabled. However, as the retired population continues to grow exponentially relative to the size of the workforce, serious doubts about the program’s sustainability have emerged. While there are competing opinions on the extent of this problem, there is a consensus that future Social Security payments will not be enough to support coming generations of retirees unless there is significant reform.

Because retirement can create a vulnerable financial situation, investing in your retirement future is incredibly important. Social Security can be a helpful contribution to your retirement income, but it may not be enough to sustain your desired quality of life. You may want to view Social Security as an additional benefit and not a requirement when developing a retirement plan.

 

[1] https://www.fool.com/retirement/general/2015/02/22/the-average-american-takes-social-security-at-this.aspx
[2] https://www.ssa.gov/planners/disability/dqualify.html

Student loans feel like a weight

Posted on March 29, 2018 by -

Managing student loan debt can be challenging, but developing a repayment strategy based on your specific situation will ensure you build a secure financial future.

You are not alone!

Current estimates of American student loan debt put the total at over $1.3 trillion [1]. Doesn’t that sound like a lot of debt? That’s because it is. However, financing an education through student loans can also be an extremely valuable investment that qualifies people for high-paying, prestigious jobs that would otherwise be unattainable.

If you are feeling overwhelmed by student loan debt, here are some tactics to help you stay on top of your payments:

Things you can do: Actions you can take?

  • Make sure you understand your loan balances, terms and interest rates. 
  • Consider consolidating your loans if you have multiple or high interest loans.
  • Explore loan forgiveness. Some employment opportunities like teaching or public service offer the added incentive of loan forgiveness.
  • Make a budget and stick to it. Decrease your expenses wherever possible so you can both repay your loan and maybe even save a little money along the way.
  • If you can, pay extra on your student loans, as it will help pay down the debt faster.

Student loans are a unique form of debt that allow you to carry high debt levels with low minimum payments for a long period of time. However, just because you can stretch out the time frame for repayment doesn’t mean you should. The faster you can pay down your debt, the less interest on your loan will “compound,” and the less you will pay overall.

Use your IRA to pay off a loan

To be eligible to use an IRA distribution for higher education and get the 10% early withdrawal waived, expenses must be for yourself, your spouse, your child, or your grandchild. These funds can pay for books, tuition, and other qualifying higher education expenses, and students must be enrolled more than half-time at an eligible institution as defined by the Department of Education.

 

[1] https://www.forbes.com/sites/zackfriedman/2017/02/21/student-loan-debt-statistics-2017/#2c4774485dab

Do you receive a Form 1099? What you need to know

Posted on December 22, 2017 by -

Whether you’re 100% freelance or have a side-hustle, if you perform work as an independent contractor, you’ll receive an IRS Form 1099-MISC from your client.

Filing taxes

The most common reasons you’ll receive a Form 1099-MISC are if you’re self-employed or work as an independent contractor. The IRS refers to this as “non-employee compensation,” and you’ll need to file taxes for this income.

Deductions

One of the nice things about filing with a 1099-MISC is that you can claim deductions when you file your income taxes (i.e. Form 1040 Schedule C). The deductions must be for business expenses that the IRS considers necessary and ordinary in your field but can include: office space (or a portion of your rent or mortgage if you have a home office), cell phone charges, equipment like laptops and printers, and mileage on your car. When you file your income taxes, you will subtract these deductions from your gross income to arrive at your net profit for your work as an independent contractor.

Business in your home

If you are using a dedicated part of your home for your business activities, you should be able to claim this expense on your taxes. IRS Form 8829 helps you determine what you can and cannot claim. See a tax advisor for any questions about deductions that may apply to your taxes.

Self-employment taxes

Generally speaking, self-employment means that you will be paying your Social Security and Medicare taxes. For people who are paid as an employee, these taxes are normally taken out of their paycheck and the cost is shared with the employer. But when you’re self-employed, you need to pay the entire amount of these taxes when you file your income taxes.

 

Paying taxes as an independent contractor

Posted on December 22, 2017 by -

Congratulations! You set up your business, you attracted clients, you completed the work, and you got paid. Now, it’s time to pay your taxes. Here’s what you need to know about paying income taxes as an independent contractor.

In addition to paying federal and state income taxes, independent contractors, the self-employed, freelancers, and anyone who receives a 1099 are also responsible for paying self-employment income taxes, i.e, Social Security and Medicare taxes. Employers take these taxes out of employee earnings as part of payroll and split the cost with the employee. But since you are self-employed, you’ll need to pay for 100% of the cost yourself. 

Social Security taxes

Social Security taxes are 6.2% for both the employer and the employee, but since self-employed people are actually both, their Social Security tax rate is effectively 12.4%. So if you make $40,000, you’ll pay $4,960 in Social Security taxes. Social Security taxes apply only to the first $127,200 of income, so you don’t have to pay these taxes on any money earned above that level. For example, if you make $140,000 in a year, you pay only 12.4% of $127,200 ($15,772.80), with the remaining $12,800 untaxed by Social Security.

Medicare Taxes

Self-employed individuals also have to pay the Medicare tax rate for both employer and employee. Unlike Social Security, there is no income cap to Medicare taxes, so you’ll pay on all money you make, no matter how much it is.

Business Expenses

Make sure to keep track of your business expenses, since these can be deducted from your income.

Business expenses are directly tied to the operation of your business. They can include supplies, travel, office space, and other expenses.

In addition to business expenses, self-employed people can also receive deductions for things like health insurance, retirement accounts, and professional services such as accountants and lawyers.

When to Pay

Some self-employed individuals have to pay these taxes in quarterly installments over the course of the year, while others file just once a year. IRS Form 1040-ES can tell you if you need to file quarterly, as well as the quarterly due dates that must be met throughout the year to avoid penalties.

You can also use this form to file your taxes for income from self-employment, and it has vouchers you can use to send money to the IRS. You can also securely pay these taxes over the Internet through the Electronic Federal Tax Payment System (EFTPS). To file annually, you must complete Form 1040-C. All of these forms, and additional information on how to pay self-employment taxes, can be found on the Self-Employed Individuals Tax Center on the IRS website.

 

What if I want to take money out before I retire?

Posted on December 22, 2017 by -

It can be tempting to take money out of your retirement account for an unexpected expense. But tapping into your retirement savings before you actually retire can put your financial security at risk. Here’s how.

You may need to pay an additional 10% in taxes.

Icon is an Individual Retirement Account (IRA), tax-advantaged retirement savings account regulated by the IRS. By law you can take money out at any time. However, the amount you take out will be included in your taxable income, and you’ll have to pay an additional 10% tax if you’re under age 59 1/2. That tax penalty is in addition to your normal federal and state income taxes.

There are notable exceptions to this rule.

There are multiple cases when you are exempted from paying penalties for early withdrawals. To be exempt from paying that additional tax, you must qualify for one of the following and complete IRS Form 5329:

  • Medical expenses that will not be reimbursed
  • Permanent disability
  • Beneficiary disbursements
  • Qualified higher education costs
  • First home costs
  • IRS levy
  • Qualified reservist early distribution

If your distribution falls into one of these categories, talk to a tax professional and be sure to use IRS Form 5329. The IRS provides more details here.

Why do I have to pay a tax penalty on money?

You may be wondering why you must pay an early withdrawal penalty on money that is rightfully yours. Well, the IRS provides you with tax benefits associated with retirement plans. As part of the agreement to provide you with these tax benefits, the IRS wants to ensure you keep the money in your retirement account unless it is absolutely necessary to remove it.

The less money in your account, the less it grows

Not only do you reduce your savings in your retirement account by the amount you withdraw, but you also cause the savings you leave in to grow at a slower rate. Why? Compound interest. If the market grows at 8% per year, and you have $100,000 in your account, you earn $8,000 in interest that first year and $8,640 in interest the year after (without adding any additional money), because you’re earning interest on your interest. 

Conversely, let’s look at what happens if you take money out of your account in the second year. If you started the year with $108,000 ($100,000 + $8,000 interest), and take out $10,000, you’re left with $98,000. On which you’ll earn $7,840 in interest. That’s almost $1,000 in fewer earnings in one year. Compound that over the life of your account and that equals a significant loss in savings.