Financial Planning

Selling Your Home? Don’t Get Blindsided by Capital Gains Tax

Over the past few years, property values have soared. Homeowners around the country and in the most desirable New York Tri-State areas have experienced the thrill of competitive offers. Even if you had no plans to sell, watching your neighbors cash in, checking Zillow, or fielding unsolicited inquiries from aggressive buyers and agents may have piqued your interest.

But a word of caution: the excitement of navigating a real estate market in an era where homes fetch record prices can leave you vulnerable to emotional whims. While it’s possible that selling your home could be a lucrative opportunity, it’s prudent to consider every potential drawback before making a move.

When sellers are eager to access the proceeds of substantial equity returns, there’s one big ‘gotcha’ in particular that often escapes their attention: capital gains tax. The exhilaration of a high-value sale is undeniable, but don’t forget that the IRS will expect their share. You may be thinking, ‘So what if I have to give up a percentage of a windfall I wasn’t expecting?’ But knowing the rules and planning for them means you may be able to avoid paying more than necessary.

While the potential of paying capital gains tax shouldn’t prevent you from selling your home, it would be smart to become familiar with its intricacies. If you empower yourself with the knowledge of what to expect, you may be able to save some money and leverage your financial wins to your benefit.

Here’s what you should know to avoid being blindsided by an unexpected tax bill.

What Are Capital Gains Taxes?

Capital gains taxes are the taxes you must pay on the income you make from profit on an investment. If you sell your house for more than you paid, you can guarantee the IRS will want a cut. But the amount due depends on more than a simple calculation; it depends on your taxable income, filing status, and how long you owned the home (or other investment) before selling it.

To further complicate matters, every capital gains scenario is different.

Short-term capital gains, applicable if you held the property for a year or less, mirror your regular income tax rate and are dictated by your tax bracket. In this case, if possible, the ideal strategic move would be to sidestep short-term gains.

Long-term capital gains, on the other hand, offer more favorable taxation. Owning the property for over a year qualifies you to pay the long-term capital gains rate of 0%, 15%, or 20%, depending on your income and filing status.

It’s also important to note that in addition to capital gains tax, you may also have to pay state income tax on the profits, depending on your state’s tax laws.

Do You Qualify for a Capital Gains Exclusion?

Thanks to specific IRS exclusions, you can sometimes avoid excessive capital gains tax when selling your main residence. If you’re single, you can exclude up to $250,000 of capital gains from your taxes when selling a home. For married couples filing jointly, this exclusion doubles to $500,000. Keep in mind, though, that you can only use this exemption once every two years.

Understanding and leveraging capital gain exclusions can significantly boost the financial rewards of selling your property. It’s a tax-saving strategy that allows you to pocket a significant portion of your home sale profits without excessive burden.

Unfortunately, the exclusion doesn’t apply to every situation.

Unlocking the capital gains exclusion hinges on meeting all of these requirements:

First and foremost, your house must have been your primary residence.
You owned the property for more than two years
You lived in the home for at least two years in the five-year period before the property is sold
The property wasn’t obtained through a 1031 exchange (i.e., ‘like-kind exchange’) transaction.
In the past two years, you haven’t utilized the capital gains exclusion for any other residential property.

Familiarizing yourself with these qualifiers is essential, as they delineate the scope of the exclusion and influence your ability to leverage its benefits during the sale of your property.

Understanding Capital Gains Scenarios

To help you better understand how various capital gains situations can play out, here are a few “real-life” examples. These stories showcase how a nuanced understanding of these intricacies can wield remarkable financial impacts on each seller’s life.

Scenario #1: Small Business Owner Avoids Capital Gains After Renting Out Her Condo

Courtney, who owns a successful small business, purchases a new condo for $300,000. She lives in it for a year and decides that she would like to move to a different neighborhood. Instead of selling her condo, she finds a couple to rent it. After three years, the couple moves out, and Courtney returns to her condo. She lives there for another year and decides to sell it. She sells it for $500,000 – a $200,000 profit. Because Courtney lived in the condo as her primary residence in two out of the last five years, and the profit did not exceed the $250,000 exclusion amount, no capital gains tax is due.

Let’s consider an alternate ending to Courtney’s story. Instead of moving back in after the tenants move out, Courtney decides to sell. At this point, she would have owned the condo for four years but only lived in it as her primary residence for one year. Because she did not meet all the exclusion requirements, but did at least own the home for over one year, she would have to pay long-term capital gains on her $200,000 profit. Depending on her tax bracket, this would cost her between $10,000 and $40,000—cash that she could have kept if she had lived in the home for one more year before selling.

Scenario #2: Grandparents’ Exclusion Nets 35% Tax Savings

Mario and Lisa are an older couple who have lived in their home for over 40 years. The neighborhood has changed dramatically, and they want to be closer to their children and grandchildren, so they decide to sell. They originally purchased their home for $80,000, now worth $1,500,000.

The total profit on the home sale is $1,420,000. As a married couple who files their taxes jointly, they qualify for the $500,000 exclusion. They will owe long-term capital gains only on $920,000 ($1,420,000 – $500,000), a more than 35% savings.

Scenario #3: Married Couple Makes a Costly and Preventable Capital Gains Misstep

Joseph and Olive are a young married couple living in the city and making a good living. During the pandemic, they decided they wanted to get out of the city for more space. They end up selling their condo, which they purchased for $300,000 five years ago, for $600,000. They do not owe any capital gains tax because the profit of $300,000 is under the $500,000 exclusion threshold. They find a home in the suburbs near the city for $550,000.

After nine months of living in their new home, they realize that the suburbs aren’t for them and want to return to the city. Because their neighborhood is so desirable, they are told they can sell their home for $700,000, $150,000 more than they paid less than a year ago. They decide to list, and the house sells almost immediately. Joseph and Olive think that no taxes will be owed because they lived in it, AND their profit is under the $500,000 threshold.

However, they cannot use the exclusion on this sale because they used it on the condo within the last two years. Not only that, they also owned the property for under one year, so they will have to pay short-term capital gains instead of long-term. The $150,000 will be taxed at their ordinary income tax rate on top of their other joint income of $300,000. Adding the $150,000 to their joint income would place them in the 28% federal tax bracket, meaning they would owe about $42,000 in taxes on their profits.

Let’s look at some alternatives Joseph and Olive could have taken. For starters, if they waited just three months to sell the home, they would have paid long-term capital gains rates (15%) on the $150,000 profit for a tax of “only” $22,500. This alone would have saved them $19,500 over the short-term capital gains tax.

If they could wait an additional 15 months to sell the home, they would have qualified for the exclusion again and paid no capital gains tax.

Of course, neither of these alternatives take into consideration whether the real estate market would have allowed them to sell their home for the same amount months later, but having all the facts about capital gains taxes can only help when deciding if and when to sell.

Scenario #4: Savvy Real Estate Investor Carefully Considers His Options

Jon is a contractor who flips houses on the side. He finds a great deal on a property in an up-and-coming neighborhood. He purchases the property for $350,000 and puts about $100,000 of work into it over six months. The property is now valued at $700,000; this would mean a profit of $250,000 ($700,000 – $450,000). Here are two possible outcomes for Jon’s sale:

Ending A: Jon sells the property for $700,000 and owes short-term capital gains on the $250,000 profit. He does not qualify for any exclusion because it is an investment property.

Ending B: Jon finds a tenant to rent the property for a year. The rent he receives covers his monthly costs (mortgage, taxes, etc.). After the tenant moves out, Jon would have owned the property for 18 months. He would now pay long-term capital gains on the profit of $250,000. Jon may also have the opportunity to utilize a 1031 exchange and invest the proceeds of this sale into another like-kind property without paying capital gains tax, thus deferring the taxes to a later date.

(A 1031 exchange is a swap of one real estate investment for another that allows for capital gains to be deferred. There are certain rules and requirements that one must meet to qualify, including owning the property for at least one year, so it is best to discuss this with your tax, financial and legal advisors prior to engaging in this type of transaction.)

By holding the property just a little longer, Jon can save thousands of dollars in capital gains taxes. He also may be able to defer taxes further. As with our young married couple, Jon also needs to consider whether he could still sell for $700,000 if he waits another year or if it makes more sense to sell while the market is hot.

Scenario #5: Advanced Tax Savings Strategy for Sophisticated Investors

James and Keith are a wealthy couple with many different investments in their portfolio. They own several investment properties and would like to sell one that they can get a great price on due to rezoning in the area. They sell the property and make a profit of $500,000. Since these are investment properties, the exclusion does not apply, so they will pay long-term capital gains on the profit.

However, since the stock market is having a rough year, they look at their stock portfolio and notice a large unrealized loss of $400,000 in one of their stocks. They sell the stock, take a long-term loss of $400,000, and reinvest the proceeds into a different stock within the same industry inside their portfolio.

Now, here is where it gets fun. They can use the $400,000 loss to offset the $500,000 gain from the property sale, meaning they have a net capital gain of $100,000! So now they owe long-term capital gains on $100,000 instead of $500,000.

Additional Capital Gains Strategies to Consider

All of this may seem overwhelming, but you don’t have to memorize the details; you simply must know every action must be carefully considered. Don’t underestimate the nuances of capital gains and all the varied possible outcomes. Before parting with a property that has appreciated, it’s imperative to factor in all relevant considerations.

One often underestimated strategy to reduce capital gains is elevating your home’s cost basis through documented home improvements and repairs.

By boosting your recorded costs, you reduce your profit and minimize the capital gains tax liability. Consider Mario and Lisa’s scenario from earlier. Had they diligently tracked receipts for their home’s upkeep and enhancements over the past four decades, they could have augmented their cost basis by a substantial $200,000, significantly mitigating their tax liability upon sale.

Another essential presale exercise, particularly for those in their later years, is contemplating your legacy.

Analyze your asset portfolio to determine what you’ll pass down to your heirs. In the realm of taxation, real estate can be a valuable asset to bequeath. The reason lies in the step-up in cost basis that heirs receive upon inheriting the property.

Again, think of Mario and Lisa. What if they opted not to sell their home, choosing instead to leave it to their children? Upon their death, the home’s fair market value is appraised at $1,500,000. When their children eventually sell it for the same amount, they owe zero capital gains tax because there’s been no profit in their possession ($1,500,000 cost basis – $1,500,000 sale = $0). This is because the children will receive a step up in cost basis when they inherit the home after their parents pass.

Learn the Rules and Play with Caution

Understanding the dynamics of capital gains can be a game-changer. Capital gains tax rules can have a substantial impact on your wealth management. A comprehensive grasp of the intricacies empowers confident and strategic navigation of real estate transactions. Exploring various options, implementing tax savings strategies, and avoiding costly mistakes can make a significant difference.

When it comes to making complex financial decisions, it’s crucial it is to have expert guidance. That’s why we encourage you to seek the insights and support of our experienced financial planners and other qualified professionals like CPAs and tax and estate attorneys. Let us be your compass, guiding you on a successful and informed financial journey. Contact Strata Capital today, and let us help make your complex decisions simple.

Strata Capital is a wealth management firm serving corporate executives, professionals, and entrepreneurs in the New York Tri-State Area, focusing on corporate benefits and executive compensation. Co-founded by David D’Albero and Carmine Coppola, the firm specializes in making the complex simple to ensure clients feel confident in their financial decisions. They can be reached by phone at (212) 367-2855, via email at carmine@stratacapital.co, or by visiting their website at stratacapital.co.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

The information contained above is for illustrative, educational, and informational purposes only and does not constitute investment advice and it should not be relied on as such. It should not be considered a solicitation to buy or an offer to sell a security. It does not take into account any investor’s particular investment objectives, strategies, tax status or investment horizon. You should consult your attorney or tax advisor.

Cornerstone Planning Group, Inc., (“CSPG”) is an SEC-registered investment advisory firm. The information contained herein should not be construed as personalized investment advice and should not be considered as a solicitation for investment advisory service. The information (e.g., tax ) provided is believed to be accurate however CSPG does not guarantee or otherwise warrant such information. For more information regarding CSPG you can refer to the Investment Adviser Public Disclosure website (www.adviserinfo.sec.gov) and review our Form ADV Brochure and other disclosures.

Parents’ Guide to Financial Aid: Scholarships, Grants, and Student Loans

The cost of higher education has skyrocketed, leaving many families scrambling to figure out how to afford tuition. And while investing in a 529 plan to help fund your child’s education is always a good idea, even high-income earners may wonder how they will cover costs, especially in households with multiple children. Fortunately, there are options available for financial support, but learning what they are and how to pursue them requires research, time, and effort.

Finding help with college expenses can be challenging, but the potential payoff is well worth the effort. According to CollegeBoard, the average tuition and fees for a four-year public in-state university were $10,740 in 2021, $27,560 for out-of-state residents, and $38,070 for private nonprofit four-year institutions. This doesn’t include room and board, which averages upwards of nearly $18,000. (1)

Multiply those numbers by four years, and a bachelor’s degree now runs from approximately $109,000 to $223,000—and the cost continues to rise each year. Over the past 20 years, the data shows tuition and fees alone at public four-year institutions have increased by nearly 180%, dramatically outpacing inflation. (2)

Unfortunately, rising costs are placing higher education out of reach for many American young people. And in pursuit of achieving this aspect of the American Dream, some are finding themselves in student loan debt that exceeds their ability to pay it back without significant financial strain. This is why it’s important for parents to do what they can to help their college-bound children find help paying for college.

Grants

The best thing about a grant is that it typically doesn’t need to be repaid unless a student withdraws or fails to complete a service obligation. However, most grants, such as Federal Pell Grants or Federal Supplemental Educational Opportunity Grant (FSEOG), are only available to students with exceptional financial needs. Others are available to students who fit certain criteria, such as the Iraq and Afghanistan Service Grant for children in Gold Star Families. And some are for those who agree to a particular service obligation, such as the Teacher Education Assistance for College and Higher Education (TEACH) Grant.

While most grants tend to be need-based, you may also find merit-based grants for students who demonstrate a commitment to community service, high levels of academic achievement, or remarkable leadership skills. Conduct an internet search for education grants in your state, and you may find options that meet your student’s profile.

Scholarships

A scholarship is a type of financial aid designed to help students cover the cost of an undergraduate degree, awarded based on merit. Like grants, scholarships do not have to be repaid. Eligibility criteria are set by the scholarship granting organization, such as the college or university, state education departments, private businesses, foundations, charities, and clubs.

Some scholarships may be awarded based on academic merit, exceptional athletic achievement, artistic talent, community service accomplishments, leadership track record, or merit-based diversity and inclusion designations for historically marginalized groups. Other scholarships are awarded as prizes for events such as essay contests, beauty pageants, oratorical contests, or robotics competitions.

You can find information about scholarships through high school guidance counselors and the college financial aid office and by doing research for yourself. Search online, check with your employer and any clubs or organizations you are a member of, look into local opportunities, and ask around. You might be surprised by what you find.

Work-Study Jobs

The Federal Work-Study Program is a way for students with financial needs to earn money to help pay for education expenses by working a part-time job. Unlike Pell grants, the need criteria for work-study may accommodate some middle-income families. Work-study jobs are usually community service-oriented or related to the student’s intended course of study. For example, if the student majors in psychology, they may work for a mental health facility affiliated with the school, providing administrative support.

The idea is to allow students to learn and contribute to public interest while earning at least minimum wage. Jobs may be on-campus working for the university or off-campus working for a non-profit, civic organization, or public agency.

Aid for Military Families

If either parent is a veteran or active duty or the student is planning to join the military or is currently active-duty personnel, the federal government and various nonprofit organizations offer money to cover higher education expenses.

Reserve Officers’ Training Corps (ROTC) scholarships, through the U.S. Army ROTC, Navy ROTC, and Airforce ROTC, award full and partial scholarships with various stipulations based on merit. Through the GI Bill, The Department of Veterans Affairs also offers educational benefits for veterans, widows, and dependents at select schools and job training sites.

Organizations that offer scholarships to military families include the American Legion, AMVETS (American Veterans), Paralyzed Veterans of America, and Veterans of Foreign Wars, as well as smaller nonprofits throughout the country.

Other Federal and State Aid

The federal government also offers a variety of additional financial aid programs, including educational vouchers for former foster youth, tax credits for higher education, community service awards through AmeriCorps, Department of Health and Human Services programs, the National Institutes of Health programs, and more.

State governments offer aid, such as discretionary grants awarded using a competitive process. Some states have generous higher education support programs, such as the CAL Grant for California-specific financial aid, the New York State Tuition Assistance Program (TAP), and the Georgia Hope Scholarship.

Student Loans

A student loan for college is money offered as part of the student’s financial aid package, and it must be paid back with interest. Federal student loans are funded by the government, and private student loans are made by another lender, such as a school, bank, credit union, or state agency. Types of federal loans for undergraduate students include Direct Subsidized and Unsubsidized Loans. Federal student loans for parents (which parents are responsible for paying back) are called Direct PLUS loans.

Federal student loans have terms and conditions set by law and come with benefits such as income-driven repayment plans and fixed interest rates. On the other hand, private loans come with terms and conditions set by the lender and tend to be more expensive than federal loans. In either case, the interest and fees are not cheap, and it’s a major commitment that should not be entered into lightly.

For many students, loans are a means to an end and a necessary evil that can’t be avoided. Gone are the days when a part-time job or even entry-level full-time job pays well enough to work one’s way through college, even with grants and scholarships.

But on average, a bachelor’s degree holder earns 75% more over a lifetime than someone with only a high school diploma. While going into significant debt can make other goals, such as purchasing a home, difficult, and the media often points to billionaire dropouts like Mark Zuckerberg and Bill Gates, the data still shows that education is the best route to earning more money and building wealth over a lifetime. (3)

How to Get Financial Aid

The most important step in gaining access to grants, scholarships, loans, work-study, and other aid is for the student to apply for it through the school’s financial aid office using the Free Application for Federal Student Aid (FAFSA®).

Before completing the form, you should use the Federal Student Aid Estimator to estimate how much the student may be able to receive and what your Expected Family Contribution (EFC) will be. From that point, you can start considering various options.

Whether your student will be pursuing loans, grants, scholarships, work-study, other aid, or all of the above, the sooner you get started, the better. Many types of aid are awarded on a first-come, first-served basis, so it pays to complete the FAFSA early. (It becomes available on October 1st of the year PRIOR to enrollment.) Waiting until the last minute can mean you miss out on funds and opportunities that would have been available to your family and can be a costly mistake.

https://research.collegeboard.org/trends/student-aid
https://educationdata.org/average-cost-of-college-by-year
https://www.cnbc.com/2021/10/13/more-education-doesnt-always-get-you-more-money-report-finds.html

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

This material was prepared by Crystal Marketing Solutions, LLC, and does not necessarily represent the views of the presenting party, nor their affiliates. This information has been derived from sources believed to be accurate and is intended merely for educational purposes, not as advice.

A Windfall of Opportunities: How to Make Smart Choices with Sudden Money

Receiving a financial windfall, whether it’s a surprise inheritance, a lottery win, or a legal settlement, can be both exciting and overwhelming. It’s natural to feel a rush of emotion and to want to spend the money right away, but it’s important to take a step back and think about how to be smart with your windfall.

Here are a few tips to consider if a financial windfall occurs:

Don’t Make Any Hasty Decisions

It’s important to take your time and think through your options before making any major financial moves. Avoid the temptation to make impulsive purchases or investments. It may be helpful to allow yourself a cooling-off period before making any major decisions to allow emotions to calm. This is especially important if your newfound wealth is the result of the death of a loved one, as grief may cloud your judgment. Give yourself time to adjust to the change in your financial situation and to think through your options before acting.

Pay Off Debt

If you have high-interest debt, such as credit cards or student loans, it may be a good idea to use some of your windfall to pay it off. With credit card debt in particular, the interest you are paying may be hindering your ability to pay for other things, but even for lower-interest debts, paying them off before spending in other areas often makes good money sense. And paying down debt will also improve your credit score.

Build Your Emergency Fund

If you don’t already have three to six months of income set aside in an emergency fund, now’s the time to get that taken care of. Having a fully funded emergency fund is important in the case of an unexpected event like a major home or car repair, medical problems, or job loss.

Max Out Your Retirement Accounts and Invest

Once you’ve taken care of debt and set aside money for a rainy day, saving some of your windfall for your future may be your next goal. Even if you’re close to retirement, the power of compound interest can still work to your advantage. You may decide to make it a priority to max out contributions to your retirement account and consider investing the rest for other long-term goals, like buying a home or paying for a child or grandchild’s college.

Beware of Lifestyle Creep and Impulse Buys

A financial windfall can tempt you to upgrade your lifestyle and spending habits, but it’s important to be mindful of overspending and to maintain a level of discipline. Even though your expenses may be lower now that some or all of your debts are paid off, you may be better served saving the excess towards a long-term goal than finding new ways to spend it. And while there’s nothing wrong with treating yourself with some of your windfall, you may want to pause before giving in to the temptation to make large, expensive purchases (or even a lot of little ones) that aren’t true needs. A budget can help you keep track of your spending and ensure that you’re using your windfall in a way that aligns with your goals.

Give Back

If you’re feeling grateful for your windfall, consider giving back to your community or supporting a cause that is important to you. Or, you could put some aside for a child or grandchild to help them buy their first car or home. This can be a fulfilling way to use your money and make a positive impact.

Seek Professional Advice

It’s often suggested to seek professional advice when you come into a large sum of money. Depending on your circumstances, consider working with a tax professional to understand the tax implications and a lawyer to help navigate any related legal matters. Also, speaking with a financial advisor, such as our team, can help you make informed decisions about developing a plan for managing and investing the money.

Be Smart

By following these tips, you can be smart about your windfall and use it to help improve your financial future. The main idea should be to have a well-thought-out plan, make smart financial decisions, be mindful of the long term, and seek professional advice.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

When Should I Engage a Financial Advisor?

Financial planning is a professional service that’s often misunderstood. Some people assume wealth management is only for the wealthy or that advisors are only out to sell them something. But a fiduciary advisor helps you make the most of the money you have—they coach you through financial decisions that fall in line with your goals.

As financial planners, it’s our job to understand what you want to accomplish; educate you about potential roadblocks, setbacks, and opportunities to build your wealth; and help you achieve your financial goals in the most effective way possible. In short, a good advisor helps you optimize your financial world so it supports the life you want to live—and we do it all by putting your needs and desires above our own.

That said, not all financial advisors are created equal. Some advisors aren’t required (and/or don’t have the desire) to give advice that’s solely in your best interest. Depending on the organization they work for, licenses they hold, or what their planning ideology is, some advisors may suggest strategies or products because they receive higher compensation for them or have proprietary product requirements from their employer to recommend them—this means the product could be “suitable” or appropriate for you, but not necessarily in your best interest.

That’s why it’s incredibly important to do your research before engaging a financial advisor. Ask your friends, family, or colleagues for recommendations and find out if the advisor they work with is a fiduciary. If they are, it’s important to clarify whether the advisor is a fiduciary solely for the account they are managing or if they are required to give fiduciary advice regarding your entire financial situation. (You can also visit BrokerCheck.com to see if the advisor has any disclosures on their licensing.) Advisors working in a fiduciary capacity are required to serve your best interest, so you can trust their recommendations will be genuine and beneficial. (And yes, we at Strata operate in a fiduciary capacity!)

So, working with the right kind of advisor can be highly beneficial—but how do you know if you’re ready to engage a financial planner in the first place? Here are some indications you should hire a professional to help manage your wealth:

You have an ambitious financial goal (like buying a second home) and you’re unsure how it will affect your finances.
Your children are about to start college and you’re trying to determine the best way to fund their education.
You’re thinking about retiring in a few years.
You just experienced a significant liquidity event (e.g., your company was bought out, you received an inheritance, you sold property, or your stock options vested).
You feel uncertain about a specific financial decision or your finances in general.
You want a practical plan to prepare for the future and you’re not sure where to start.

If any of these scenarios sound like you, you’d likely benefit from talking to a financial planner. That said, we know people sometimes still have doubts about whether working with a professional is necessary, so we want to address those concerns. Here are some common questions people have about hiring a financial advisor.

What do financial advisors do, exactly?

Essentially, we help you achieve your financial goals. For some, that’s early retirement; others may want to buy a second or even a third home. We start by getting to know you as a person; then we discuss your hopes and objectives. From there, we review every aspect of your finances and look for ways we can improve your strategies or help protect you from unnecessary risks. Whatever your financial dreams are, it’s our job to show you what steps you can take to achieve them.

Can’t I just do financial planning myself?

Yes, but consider this: most people only retire once, but we as advisors have “retired” dozens of times. We’ve walked multiple clients through multiple scenarios, and we’ve seen what works and what doesn’t. A 2019 Vanguard whitepaper says an investor could increase their net returns by 3 percent by working with an advisor. And Vanguard isn’t the only one—Russell Investments estimates that the value gained in working with a dedicated financial partner could mean as much as a 3.75 percent increase in returns.

So you can take a DIY approach, but you likely won’t reap the same benefits you would when working with an advisor. Just like you can go to court and represent yourself in matters of the law, you can manage your wealth without the help of a professional—but you’ll lower your chances of getting your desired outcome. When you engage the help of someone who specializes in wealth management, you’re more likely to achieve your goals and enjoy the process.

Many people also don’t realize the time they can save when working with an advisor. Engaging a professional allows you to focus on things that matter to you, rather than worry about financial details.

I work in finance for a living—why would I need help managing my own money?

More than half of our clients work for a financial institution, and they value our guidance. One reason is that not all financial professions are the same—just like you wouldn’t go to a podiatrist for heart surgery, an accountant or financial analyst won’t necessarily understand all the intricacies involved in personal (or business) wealth management.

For example, here’s something people–even those adept in financial concepts–often misunderstand: life insurance is not always completely tax free. Life insurance benefits are exempt from income tax, but not from state or federal estate tax. Depending on where you live, if you purchase a life insurance policy under your name rather than having your trust purchase the policy, you may subject your estate to estate taxes because the death benefits would be included in the calculation of your estate—potentially putting you over the limit for estate tax exemptions. If you live in a state like Massachusetts or Oregon, where the state estate tax exclusion is a mere $1 million, this could potentially affect your heirs.

Something else to know is that many people who work in finance are subject to restrictions or pre-approval when making investments. But if you sign over your investment discretion to an advisor, you can avoid that compliance hassle and benefit from the knowledge of someone who specializes in professional money management.

Am I too young to work with an advisor?

If you’re worried an advisor won’t agree to work with you (some do have minimum net worth or assets-under-management requirements), know that there’s an advisor out there for everyone—the key is finding someone you feel comfortable talking to and sharing the details of your life with.

Beyond that, “young” is a great time to start financial planning because you have so much time to save for your goals. And the more time you spend in the market, the less that you need to save.

For example, if you start saving $5,500 a year beginning at age 25 and continue until you’re 65, you’ll end up with $1,174,852 after those 40 years (assuming a 7% net rate of return). If you start saving the same amount at age 35 and get the same return, you’ll only earn $555,901.

Remember, you don’t get time back. We’ve met too many people who reach retirement and regret they didn’t start planning sooner. The best time to start planning is now, because the earlier you visualize your goals, and the earlier you take those goals to a financial planner, the better chance you’ll have of accomplishing them.

Is there ever a time someone shouldn’t work with an advisor?

If you feel overwhelmed by all the financial decisions you have to make, worry you might be missing something, or simply want greater confidence about your future, talk to an advisor. In our experience, this is the number one reason people seek financial guidance. Not only can an advisor help you clarify and prioritize your goals, but they can also show you the impact of financial decisions before you make them, so you don’t end up further from your goals.

That said, for a financial planner’s advice to be effective, you’ll need to keep an open mind and be willing to change—so if you’re not ready to make adjustments, it might be best to wait.

If you have more questions about what it’s like to work with a financial planner, please don’t hesitate to contact us. In the meantime, you can learn about various financial topics on our blog.

¹ https://advisors.vanguard.com/iwe/pdf/ISGQVAA.pdf

²https://www.thebalance.com/should-you-hire-a-financial-advisor-4120717

³https://money.usnews.com/money/retirement/aging/articles/states-with-estate-and-inheritance-taxes#:~:text=State%20Estate%20Tax%20Thresholds&text=Massachusetts%20and%20Oregon%20have%20the,million%20and%20%245.9%20million%2C%20respectively.

Optimizing Your Benefits During a Job Transition: Part II

Starting a new job is exciting—it usually means opportunity for growth, often in more ways than one. One of the challenges of transitioning jobs, though, is determining how to maximize your benefits—both those from your previous job and those at your new place of employment.

There are lots of factors to consider when reviewing your benefits, which is why we recommend talking with your advisor during the process. Someone who knows your long-term goals and values can help you see the bigger picture and decide what’s best when it comes to keeping old plans or leveraging new ones.

For now, let’s review some potential benefit options when transitioning jobs—specifically, what you can do with a 401(k), a pension, stocks, and other investment opportunities.

401(k), 403(b) or other ERISA plan

If you leave a company where you have a 401(k) or other employer-sponsored retirement plan, you can do one of three things with the money in your account:

Leave the balance in your previous employer’s plan
Transfer the balance into your new employer-sponsored plan (if you have one)
Transfer the money into an IRA, where you’ll have diverse investment options like stocks, bonds, ETFs, mutual funds, annuities, CDs, and more

One thing to note about company contributions is that some or all of the money your employer contributed may not be yours if you leave the company. Companies often have vesting schedules tied to their contributions, so the money they add to your account isn’t considered fully “yours” until you’ve been with the company for a certain period of time. So if you leave before the end of the vesting period, they’re entitled to take some or all of their contributions back.

The most common arrangements are three-year cliff vesting (where an employee is fully vested after three years) and gradual vesting (where an employee gains more benefits over a period of time), typically between two to six years.

So, if you worked at a company with a three-year cliff vest and decided to move on after four years, you’d be able to keep all their contributions. But if that same company had a five-year equal percentage graded vesting schedule, you would only be able to keep 80 percent of their contributions when you leave.

Pensions

The two most common pension plans companies offer are defined benefit plans and cash balance plans, and depending on which one you had (or have), you’ll have different options when you move to a new company.

Cash Balance

Cash balance plans allow you to keep your pension plan as-is or roll over your account balance into an IRA. If you’re considering transferring the balance, there are a couple steps you should take first:

Request an analysis that shows the estimated value of your plan at the age you plan to retire. (So if you’re 55 and want to retire at 65, request an estimate of what the value would be in ten years.)
Once you have this value, you can compare those estimated returns to what you might earn if you invested in different vehicles through an IRA. Then you can decide whether it makes sense to keep your plan as-is or transfer it to an IRA.

Whichever way you’re leaning, we recommend reviewing your options with an advisor to determine which strategy will best support your overall goals.

Defined Benefit

Unfortunately, there aren’t any rollover options with defined benefit plans, so you simply have to focus on managing your current plan as effectively as possible. We suggest keeping a record of this plan year-over-year and requesting an estimate of what your monthly payment will be when you retire. Ask your company or plan provider when you can start withdrawing income from your account—some plans specify an age when you have to take distributions (e.g., 65) but others let you take them whenever.

Stock Options

If your current company offers stock compensation, you’ll likely have a few different options when you leave the company. It’s important to reference your specific plan documents before you make any decisions, since the rules regarding stocks vary from company to company. Generally speaking, though, employees have up to 90 days after termination to exercise their vested stock options; after that, unvested options are typically forfeited.

Stocks are one of the more complicated benefits to navigate when leaving a job. Every company has different rules, and your options might vary depending on how long you’ve been at the company. If you have the flexibility, it might make sense to delay your departure until all your stock options are fully vested. There are many factors to consider, which is why we recommend discussing your options with a financial planner who’s well versed in this area.

Restricted Stock Options

Just like other stock options, restricted stock and restricted stock units (aka RSUs) can get tricky when you leave a company. Typically, an employee can keep the vested portion of their restricted stock or RSUs when they leave a company, but they’ll have to forfeit any unvested shares. Again, it’s vital that you reference your plan documents because the rules vary from company to company. From there, you’ll want to talk to a financial professional about the best way to leverage your particular benefits.

Have Questions?

There are lots of things to consider when you change jobs, and navigating your benefit plans can be complicated. That’s why no matter what benefits you have, it’s best to lean on a financial professional so they can help you make the best decisions for your unique needs. If you’re changing jobs and have questions about your finances, we’d love to help—our goal is to help you protect everything you’ve worked for and make the most of your new opportunities.

Optimizing Your Benefits During a Job Transition: Part I

Starting a new job is often as stressful as it is exciting—not only are you learning new systems and developing relationships, but you also have to reevaluate your financial situation—specifically whether and how to leverage your employee benefits. If you’ve changed jobs recently or plan to soon, you’ve probably asked yourself:

Should I take advantage of my new employer’s insurance plan or search for other options? Should I consider my spouse’s plan?

Can I keep my current plan?

How do I know if I have enough coverage?

If you’re looking for answers to these questions, we’re here to help! In this blog, we’ll discuss your options for changing benefit plans and the factors you should consider to make the most of what’s offered to you. And of course, we’re always happy to answer additional questions you have—just give us a call or send us an email!

For now, let’s review a few types of benefits and what you need to know about each when leaving a company or changing jobs…

Health Insurance Coverage

When you transfer to a new company, make sure to review the health insurance plan it offers and compare it to what you had at your previous job—if it provides less coverage or comes with much higher premiums, you may want to consider an independent plan or supplemental coverage. If you’re married and your spouse’s employer offers a health plan, you should also consider the cost of joining his or her plan and the coverage you would receive.

With any employer-offered plan, remember to check whether your preferred physicians are in network—if not, you might want to seek an independent plan.

Health Savings Account (HSA)

A Health Savings Account is almost like an IRA for medical expenses, and it can be funded by you, your employer, or both. HSAs are only available to individuals with high-deductible health insurance plans, but the good thing about these tax-advantaged accounts is that they belong to you, not your employer, so you have several options when you transfer jobs:

HSA Transfer: If your new employer offers an HSA, you can transfer your current HSA funds into the new account. Your new employer will need to provide the paperwork to complete this transfer.
HSA Rollover: Similar to a 401(k) rollover, with an HSA rollover, you’re issued a check for your HSA balance, and you have 60 days to deposit the funds into your new HSA account. Just note that if you don’t deposit the funds within the 60 days, those funds will be taxed and you’ll be penalized.
Maintain Current HSA: You can also keep the funds in your current HSA. But if your previous employer has been paying administrative costs, you will now be responsible for those costs.

Flexible Savings Account (FSA)

Unlike an HSA, an FSA is owned by your employer, and you don’t need to be enrolled in a specific health plan to be eligible for it. If you have an FSA at your current job, your best option when you leave or change jobs is to check your account balance and try to spend the remaining funds before your last day at the company. These accounts can’t be transferred from one company to another, nor can they be owned by an individual, so the money remains with the employer if you don’t spend it before you leave.

Group Life Insurance

If you have a group life insurance policy with your current employer, you should check and see whether your benefit is portable or if it can be converted to an individual policy. Here’s how those options work:

Porting Your Policy

If your policy is portable, that means you can continue your current group policy as an individual. However, your rates will likely be higher than your original premium because group plans often calculate rates based on generic health classifications. That means that under a group plan, you might be classified under a rate that applies to a generic unisex smoker (which could elicit a high premium)— even if you’re a young, fit female who would typically pay lower life insurance premiums.

Converting Your Policy

Most group plans are term life insurance policies, but you might be eligible to convert your plan to a permanent individual policy. This offers more comprehensive coverage, but it will likely increase your premiums.

Other Options

You should also explore any benefits your new employer offers for life insurance. Most companies offer a low-cost term policy that applies while you’re employed at the company. These premiums typically increase every five years.

Depending on what your new company offers and what you need, it might make sense to enroll in a completely new policy independent from your employer. Choosing an individual life insurance plan would mean you don’t have to rely on your employer (or your employment, for that matter) to protect your family in the event of your death. This option can also be very cost effective because you can lock in your rates.

Evaluating the advantages and disadvantages of each plan can be overwhelming, but it’s important to review the details of the policies available to you. That’s why it’s a good idea to discuss your options with a professional—your advisor should help you understand what each plan offers and how they could affect your overall goals.

Group Disability Insurance

Unlike group life insurance policies, group disability policies (both short- and long-term), are generally not portable. So when you transfer jobs, you’ll want to see if your new employer offers disability coverage and exactly what the plan covers. If your new employer doesn’t offer a disability plan, you should consider purchasing your own, especially if you’re the sole (or majority) provider of your family’s income. If they do offer a plan, you’ll want to review how much of the premium the company pays and whether you have the option to supplement your coverage by paying out of pocket.

For example, your employer might offer to pay for a long-term disability plan that covers just 40 percent of your salary*; but they might allow you to buy an additional 20 percent of coverage for which you pay the premium—giving you a total of 60 percent income coverage if you were to become disabled.

You could also consider purchasing an individual policy to supplement what you have through your employer—this is one of the best ways to maximize disability benefits. That said, there are lots of long-term disability plans available and multiple ways to customize them, so it’s wise to discuss your options with your advisor. They’ll help you sort out the details and determine what options best support your goals.

*It’s important to note—any portion of a benefit from a plan that is paid for by your employer is taxable. If you pay the full premium, the full benefit is tax-free. If you pay a portion of the premium, whatever percentage of the premium you pay is the percentage of your benefit that will be tax free.