Financial Planning

The Real Cost of Dipping into Your 401(k) Early

If you’ve ever considered pulling money out of your 401(k) prematurely to cover more immediate financial needs or desires, you’re not alone. Individuals often find themselves contemplating early withdrawals as a quick solution, with the allure of immediate access to funds overshadowing longer-term concerns. But while tapping into your retirement accounts may seem like a convenience worth using to your advantage, ease of access frequently clouds judgment when it comes to the true cost.

What if you’re decades away from retirement and your career is progressing well, but you’re still renting and want to buy your first home? Using the money stashed in your 401(k) toward a downpayment can be tempting, but is this a sound choice? Maybe you’ve dreamed of starting your own business and have the skills to succeed; would bootstrapping with your 401(k) be a good idea? Or perhaps you’ve been laid off, your industry is in a lull, and your kids’ private school tuition is due soon. Should you turn to your 401(k)?

The answer is that it depends. Prematurely drawing on your 401(k) comes with fees, taxes, and the potential for significant gains to be lost over time.

Our aim is not to dissuade you outright, as it may be the most suitable course of action in your situation, but rather to provide clear insight into the potential financial impact of early 401(k) withdrawal. We encourage you to carefully analyze the numbers and assess your situation against the full range of implications for your retirement future.

By looking at the bigger picture and exploring possible alternatives, you can make an informed choice with confidence and foresight.

Real-World Dilema: Should Ben and Kate Tap into His 401(k) to Buy a Home?

Let’s explore a scenario that’s become increasingly common in the midst of soaring home prices and mortgage interest rates. Even homebuyers who have carefully planned and saved diligently may find themselves scrambling to bring more money than expected to the table to get the deal closed. Is overcoming this obstacle worth making an early 401(k) withdrawal?

Ben and Kate are 30 years old, newly married, and are in the process of buying a home. The market is competitive, so it turns out that they will need an additional $50,000 for a down payment and other closing costs. Beyond what they’ve already earmarked for the home purchase, their cash reserves have run dry, so they look to Ben’s 401(k). The balance is currently $125,000.

For Ben and Kate to net the $50,000 needed, they need to withdraw $72,000 from Ben’s 401(k). This is to account for a 10% premature withdrawal penalty ($7,200) and 20% in taxes ($14,400). 72,000 – 7,200 – 14,400 = $50,400. This penalty applies to those withdrawing from a retirement account (401(k), IRA, etc.) prior to reaching age 59 ½. While there are some exceptions, it’s important to consult with a financial advisor before making any withdrawals.

So you may be thinking, ‘Yes, it is unfortunate that they have to pull out more money to account for taxes and penalties. But in the grand scheme of things, it’s not that much. It’s better than continuing to rent, right?’ That is, until you start to consider the future value of the $72,000 withdrawal. Let’s walk through two scenarios to show you what this looks like.

In Scenario #1, represented by the green line, Ben and Kate decide not to pull the extra funds from Ben’s 401(k). In Scenario #2, Ben and Kate withdraw $72,000 from Ben’s 401(k) to cover the down payment. In both cases, the 401(k) has an annual average rate of return of 6.5%.

You can see the power of compounding returns in the graph. Scenario #1 has Ben’s 401(k) balance at over $1.1 million when he’s 65. But in Scenario #2, the account balance at 65 is just over $480,000.

The difference is a whopping $652,482!

By looking at the numbers, you can see that Ben’s $72,000 withdrawal can potentially become a $652,000 cost to his and Kate’s future. This is a number that can greatly impact when they retire and what kind of lifestyle they have in retirement.

Sometimes you have no choice but to withdraw from your retirement accounts, and that’s okay. If pulling the money out now offers the boost you need that allows you to raise your family in a great neighborhood, you might consider it a no-brainer. And if the alternative to using this available resource is foreclosure following an unexpected stretch of unemployment or foregoing an expensive medical treatment that’s not covered by insurance, your future retirement may not be your top priority.

However, in every situation, it is extremely important to understand how these decisions impact your long-term financial goals. Understanding the impact on your future self may sway your decision-making when considering a large premature 401(k) withdrawal.

Alternatives to Withdrawing Funds from Your 401(k)

Taxable Investment Accounts: There are no penalties for pulling money out of your brokerage account. One thing to look at is the unrealized gain on your positions. If you’ve held your positions for over a year, then you would pay long-term capital gains tax on the gains only, which is typically less than ordinary income tax.
Securities Backed Line of Credit (SBLOC): Let’s say you have a brokerage account but don’t want to sell your investments. Taking a line of credit against your investments could be a good alternative solution. Of course, you have to repay this loan, making it an added monthly expense, but this option usually works best as a short-term solution. For example, say that Kate had a $50,000 net bonus being paid out in 4 months. Taking out an SBLOC for the down payment and then using the bonus to pay off the line of credit could be a good option.
Borrowing from Family or “Early Inheritance”: Not everyone has this option, but for those who do, it can save you a ton of money. If you have a family member that you know is leaving you money when they pass, showing them the numbers we went through in the article may motivate them to give you some of your inheritance early.

The path you take depends on your specific finances and resources. You’re more likely to miss opportunities if you assume there’s only one way to go and allow your judgment to be clouded by emotions. Making rash moves can be costly.

Should You Tap into Your 401(k) Early?

The decision to withdraw funds from your 401(k) should never be taken lightly. By understanding the true cost of early withdrawals, including the fees, taxes, and long-term impact, you gain the power to make an informed choice. Rather than heedlessly opting for the easy solution, take the time to assess your needs, weigh the potential losses against gains, and explore alternatives. Remember, your 401(k) is a valuable tool in securing your financial future.

At Strata Capital, we specialize in providing insightful financial analysis and guidance to help you make well-informed choices that align with your long-term goals. Our team can run the numbers, assess the impact on your financial future, and work with you to explore alternatives that may be more favorable. We welcome the opportunity to provide you with financial direction to help you live your best life. Feel free to schedule your consultation here.

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.

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.

Strategic Cash Flow Planning: Make Your Money Work

Have short-term financial goals like vacations, tuition, or a home renovation? Keep your money from sitting idle in low-yield checking or savings accounts. In this video, Carmine Coppola explores the concept of strategic cash flow planning, a method that aims to optimize returns for short-term financial needs.

Strategic Cash Flow Planning: Make Your Money Work from Strata Capital on Vimeo.

Topics Discussed:

Short-term financial goals
Investment options for short-term needs
Real-world example

Transcript:

Today I want to touch up on a topic I like to call “strategic cash flow planning.” Essentially what that is, is it’s taking money you have set aside for your short-term financial goals such as tuition payments, vacation, or even maybe buying a boat, and maximizing return by taking little to no risk at all. Let me show you how we do that.

Look at Frank’s cash flow he needs for the next year. He has a family vacation in December, college tuition due in January, a new car in February, a big home renovation he plans on doing in March. He has his daughter’s wedding he needs to pay for an April, and new furniture for that renovated house in May. And in July he needs $100,000 for a private investment opportunity. All this totals to $570,000. Here’s what we can do to be strategic with Frank’s cash flow stream.

The first thing we need to do is decide on which investment vehicle to use. For Frank, we’re going to stick with US Treasuries because his cash flow needs are under one year. Other options may be CDs, money markets, or even structured products. Here’s a cash flow portfolio we designed for Frank. We set this up so the correct amount of money comes due when Frank needs it for a specific cash flow need. We do this in order to maximize the return on the entire portfolio. You’ll see here that for this portfolio, the yield is just over 5.4%. The total money that he’s going to invest will be about $570,000.

Here’s what the portfolio’s cash flow will look like over the next year. You’ll see that each Treasury will mature in the month that the money is needed. If you look closely, you’ll notice that the money coming due is slightly higher than the amount that Frank needed. For example, he said he needed $250,000 for his home renovation. When that Treasury matures in March he receives just over $258,000. Looks like Frank can splurge on those countertops after all.

The total amount of money that he’ll receive over the next year on this portfolio will be $589,881. If you recall, Frank said that he needed about $570,000 to fund his short-term goals over the next year. By being strategic in his cash flow and investing that $570,000 into this cash management portfolio, he was able to get back over the next year $589,881. So he’s able to gain almost an additional $19,000 for money that would have been sitting in a checking or savings account anyway. That’s how being strategic with your cash flow can really benefit you.

If you have money sitting in the bank or under your mattress, it’s really advisable to look into something like this just to maximize your return or even put in less money to achieve your goals. So if you guys have any questions, let us know. We’re here to help.

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.

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.

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.

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.

Long-Term Care: Understanding Your Options

As people live longer and longer, it becomes increasingly important to plan thoroughly for “life after work.” Most people know they’ll need to prepare financially for retirement, but they often overlook the possibility of paying for a long-term care event or misunderstand how this kind of care is funded.

At Strata, we look at our clients’ financial worlds through a holistic lens, meaning we consider an individual’s entire situation before we make recommendations. And in the many cases we’ve managed, we’ve learned one thing—there simply isn’t enough education or awareness about long-term care planning. So, in our next couple of blogs, we’re sharing some information about long-term care and how to best prepare for it.

What qualifies as Long-Term Care?

Long-term care, or LTC, is (as the name implies) a form of medical or assisted-living care administered over an extended period, generally referring to care of the elderly. And while it’s not top-of-mind for most people in their earning years, it’s an important scenario for everyone to consider and plan for, as more than two-thirds of individuals over the age of 65 will require long-term care at some point in their lives.

Many people associate the term “long-term care” with living in a nursing home or assisted-living facility, but long-term care can also mean having a professional care for you in your own home. Unfortunately, due to lack of planning or resources, not everyone has a choice in the kind of long-term care they receive. Home health care can cost anywhere from $56,000 to more than $200,000 annually if around-the-clock skilled nursing care is required, and the cost of assisted-living facilities in the New York City metro can range from $79,000 to $102,000 annually—which is why it’s important to prepare for these costs.

The Government & Long-Term Care Coverage

One common misconception about long-term care is that the government will pay for it, particularly if an individual is on Medicare—but that’s not exactly the case. Medicare will cover skilled care at a nursing facility after a three-day hospital stay. And even then, it only covers the full cost for the first 20 days; after that, it will cover a portion of the cost for up to 100 days—from there, it’s the individual’s responsibility to cover the cost.

Medicaid, on the other hand, is a program designed for low-income households, so there are specific income and asset requirements* an individual must meet to qualify for Medicaid. If an individual qualifies, Medicaid will cover the cost of long-term care only at approved facilities.

Another common misconception is that the government (or even LTC facilities themselves) will seize your assets to pay for your long-term care—but again, that’s not the case. Medicaid will only take responsibility for the cost of your care once you’ve spent your assets and your net worth has fallen below the threshold, making you eligible for benefits.

*Something to understand about Medicaid eligibility is the “Five-Year Look Back” policy. When determining an individual’s eligibility, Medicaid reviews their records from the previous five years. The purpose is to discover if a person might have gifted or transferred assets out of their name in order to purposefully impoverish themselves and therefore qualify for benefits.

Will My Health Insurance Cover Long-Term Care?

The short answer is no—typically, health insurance doesn’t cover this type of care. Fortunately, there are other ways you can prepare for these costs.

How Can I Prepare for LTC Costs?

There are two primary ways you can plan for long-term care costs: purchase a LTC insurance policy or self-insure. There are advantages and disadvantages to each, so it’s important to discuss your situation with a financial professional to determine the best option for you.

Self-Insured Long-Term Care

In this case, self-insuring simply means setting aside funds you can use later for long-term care. That said, for this strategy to be effective, there are several factors to consider and address:

The cost of long-term care is rising year over year, so you’ll need to ensure your savings keep pace—this usually means implementing some sort of investment strategy.
There are multiple ways to save money for LTC costs—in a retirement fund, in cash, etc.—and you’ll want to determine what kind of vessel is most advantageous for your situation.
If you’re married, there might be legal complications down the road unless you work with an attorney to ensure your assets end up in the right hands—for example, if the assets are in your name and you pass away before your spouse, you want to make sure your spouse has access to those funds you set aside for long-term care.

Self-insuring isn’t for everyone; for this strategy to be beneficial, you must have the means to set aside cash for long-term care, and even then, doing so could potentially diminish your retirement lifestyle. There’s also the possibility you could bankrupt your spouse if you end up needing more money than you planned for LTC, or if you need it sooner than anticipated.

Policies to Cover Long-Term Care

The primary reason most people purchase a LTC policy is so they can receive the kind of care they want, rather than be left with fewer or less attractive options. There are several types of LTC policies, so it’s important to understand the features and benefits when choosing one.

Traditional LTC is the type of policy most people are familiar with, and it allows for the most flexibility when designing your benefits.

Hybrid Life & LTC policies are designed for individuals who have a LTC and life insurance need. With this kind of policy, you can leverage your death benefit to pay for LTC costs, but if you pass away without needing long-term care, your death benefit is passed on to your beneficiaries.

If you decide to self-insure, you might consider Asset-Backed LTC coverage; this strategy allows you to leverage your current assets for LTC purposes. That means if you set aside $100,000 in a savings account, you could then reposition that cash into this type of insurance policy. It would then enhance your savings (so your $100,000 might be worth $400,000) for the purposes of long-term care. This kind of insurance policy also offers a death benefit, a return-of-premium feature, and can grow at a fixed rate to help your savings keep pace with inflation.

Legal Work, Gifting Strategies, and Asset Transfers

Some people opt to set up trusts or start a gifting strategy to transfer assets out of their name. Though this can be an effective strategy for some, it’s important to remember that you will lose control of and access to those funds. One of the most common strategies used by elder-care attorneys is to transfer the primary residence to an irrevocable trust; this can be an effective strategy if you plan to live the rest of your life in that home. Transferring liquid assets requires more planning, as you must make sure you won’t require those funds later to supplement your lifestyle or expenses. It’s also difficult to predict when you will need care, and you must consider the Five-Year Look Back for this strategy to work seamlessly. This strategy is typically used in conjunction with one of the others mentioned above.

Start Today

When it comes to long-term care planning, there is no one-size-fits-all solution. Each person’s situation is different, so it’s best to have an open mind and consider all your options. One thing is true for everyone, though—the earlier you start planning, the better. That’s why we recommend meeting with a financial professional as soon as possible to discuss the best strategy for you. We’ll review your options with you, identify potential risks, and help you find the solution that best fits your needs and goals. If you’d like to talk with one of our planning professionals, we’d love to help—you can schedule a consultation with us here.