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All your ex-es may live in Texas as the country song says but do you really want your hard-earned money to follow?  And you may be a generous sort but would you rather have your wealth pass on to your family or Uncle Sam?  More examples of smart people doing dumb things when it comes to estate and legacy planning.

What do you think of when someone says “estate plan?”

If you think that it’s only for “old” people or those with lots of money, then think again.  If you have someone or something you care about, then you need a plan regardless of age or the amount of money involved.

Honey, I forgot the kids …

Think of Ana Nicole Smith and her infant daughter.  Think about the King of Pop, Michael Jackson. Take away the money and there is still the drama about custody and guardianship for the children that could have been avoided with a proper plan.  And this sort of thing happens daily with families of much lesser means but the same need for care of a loved one.

There is an old saying:  Those who fail to plan, plan to fail.

What Estate Planning Really Means to You and Your Family

The easiest definition of estate planning is controlling how and who gets what you have when you pass away or become disabled.

As estate attorneys in the Esperti Petersen Model define it:

Estate planning provides the ability to:

  • Give what I have
  • To whom I want
  • When I want
  • The way I want.

Legacy planning takes it a step further and provides for the transfer of wisdom, memories and experiences along with the material wealth.

Most estate attorneys and financial advisers start from the point of view about the money and taxes.  Most clients are categorized into three groups:

  1. Individuals
  2. Married with assets above the federal estate tax exemption (now through December 31, 2010 at $3.5M)
  3. Married with assets below the federal estate tax exemption.

But a more client-focused and value-oriented planning approach to estate and financial planning begins with conversations about what is important to the client.  Only then will a client understand the context of a plan as well as why there may be need for changes to keep it current and aligned with the goals expressed by the client.

Too often, I hear that “I’m all set” because “I took care of it” or drafted a will when their college senior was about 2 years old.

In an increasingly complex world with changing state and federal tax codes, fluctuating asset values and a litigious culture, it is even more important to create a plan and routinely review it.  (If you were traveling on a highway cross-country, you wouldn’t simply turn on cruise control and take a nap, would you? I hope not. Even if you have good insurance, are you sure who’s going to get the proceeds?)

17 Major Mistakes

There are more than 17 significant common  mistakes that people make regarding estate planning.  These include failing to coordinate the financial plan, improperly structuring life insurance policies, choosing the wrong executor, improperly gifting assets, failure to properly create and fund trusts and the list goes on.

We could talk about Qualified Personal Residence Trusts, Installment Sales to Defective Grantor Trusts, Family Limited Partnerships and Credit Shelter Trusts.

But that’s all legalese.  It’s sort of like asking someone for the time and they tell you how to build a watch.  That doesn’t matter to you as much as knowing the time.  There are lots of tools in the tool kit of a qualified estate and financial planner.  You probably don’t care about which tool to use as long as the right tool recommended by a professional does the job.

What happens when you deal with real people? (1)

Jack and Jill and a Boy Named Dale

Jack recently turned 32.  He and Jill have been married for nearly three years. Dale was born nearly 13 months ago.  When not at work as UPS delivery driver, he enjoyed getting his heart pumping by cycling with a local riding club.  During a weekend ride as the group of cyclists were descending a hill quickly, a car being driven by a dentist who was late for a client appointment overtook the riders thinking that he had enough time and distance to safely clear the group.  He abruptly turned right onto the street where his office is located.

Unfortunately, the other car coming from the opposite direction to the stop sign on the street the dentist was driving onto was being driven by a young driver who was distracted by her incoming text message which lead her to cross over her lane.  When the dentist’s car hit her at the corner, it caused the cyclists to swerve in confusion.

In the resulting melee, Jack went down hard breaking his collarbone and vertebrae in his lower back leaving him without the ability to walk more than a short distance and unable to lift more than a couple of pounds.

Richard and Anne and the Day that Changed Everything

Richard and Anne lived in an old colonial overlooking the river in a quaint New England town.  Richard had a successful position with Cantor Fitzgerald, one of the world’s premier bond trading shops located in the World Trade Center of New York City.  While Anne managed the home front and their two rambunctious boys age 7 and 4, Richard would commute by plane to meet clients or for meetings at the corporate offices in New York.

By all accounts, they had an ideal life.  They had family and close ties to the community.  Their weekends were filled with home improvement projects on their home or one of the three investment properties they rented out.

Their world was turned upside down a little after 9 AM on September 11, 2001 when Richard’s plane was flown into one of the World Trade Center towers.

Paul and His Long Lost Love

Paul had been married to Bertie for more than 5 years when Bertie asked for a divorce in 1967 fed up by Paul’s late night carousing. After a couple of years of the single life, Paul found Carol, a long lost love from high school days.

Flirtations became something more and Paul and Carol got married and lived a nice life together.

After more than 30 years of working at his job with the state, he decided to retire. But before he turned in his papers, Paul died suddenly from a heart attack.

Although the loss of Paul, her long time love, was devastating, the news that followed was even worse.  It seems that Paul had never quite gotten around to fixing the beneficiary listed on his pension so the estate of his ex-wife Bertie, long since dead, would be going to Bertie’s younger, sole-surviving sister from Texas leaving Carol without an income source for her retirement.

Sal and Pauline

The romance that would result in seven children, thirteen grandchildren and 4 great-grandchildren began when Sal and Pauline met at a USO dance at Fort Devens in 1943. Before shipping overseas with his Army unit, they got married.  More than sixty years later, they enjoyed the retirement years shuttling between family visits and weekly dances at the local senior center.

Then Sal noticed that Pauline started forgetting things.  With that many kids and grand kids, it wasn’t hard to imagine forgetting all their birthdays but soon she started forgetting to eat and dress.

Eventually, her doctor gave Sal the hard news that Pauline had Alzheimer’s and despite his best efforts she would need professional care.

After Sal and his sons brought Pauline to the nursing home, the reality hit home.  Despite their frugal lifestyle, Sal and Pauline had a sizeable nest egg and home.  After the first 120 days in the nursing home, Sal would need to start writing checks in the amount of $7,500 each month for Pauline’s care.  A lifetime of hard work and saving was being threatened.  What could he do?  Was there any other way?

Lots of Things Can Happen

Divorce.  Disability. Law Suits. Remarriage. Car Accidents. Business Partners.

If you think that these things can’t happen to you, think again.  Seek out the help of a good planning team that can coordinate these pieces.  While no one can predict what may happen, putting together a proper plan will help you and those you love with picking up the pieces after a personal loss or tragedy.  

Value-Oriented Estate Plan Foundation

(1) Note:  All names have been changed and situations presented are a compilation of various facts.

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Whatever your retirement dreams, they can still be made a reality.  It just depends on how you plan and manage your resources. On any journey it helps to have an idea where you’re going, how you plan to travel and what you want to do when you get there.

If this sounds like a vacation, well, it should. Most people invest more time planning a vacation than something like retirement.  And if you think of retirement as the Next Act in your life and approach it properly, you won’t be so easily bored or run out of money to continue the journey or get lost and make poor money decisions along the way.

It’s How You Manage It That Counts

How much you need really depends on the lifestyle you expect to have.  And it’s not necessarily true that your expenses drop in retirement. Assuming you have an idea of what your annual expenses might be in today’s dollars, you now have a target to shoot for in your planning and investing.

Add up the income from the sources you expect in retirement.  This can include Social Security benefits (the system is solvent for at least 25 years), any pensions (if you’re lucky to have such an employer-sponsored plan) and any income from jobs or that new career.

Endowment Spending: Pretend You’re Like Harvard or Yale

Consider adopting the same approach that keeps large organizations and endowments running.  They plan on being around a long time so they target a spending rate that allows the organization to sustain itself.

1. Figure Out Your Gap:  Take your budget, subtract the expected income sources and use the result as your target for your withdrawals. Keep this number at no more than 4%-5% of your total investment portfolio.

2. Use a Blended Approach: Each year look at increasing or decreasing your withdrawals based on 90% of the prior year rate and 10% on the investment portfolio’s performance.  If it goes up, you get a raise.  If investment values go down, you have to tighten your belt.  This works well in times of inflation to help you maintain your lifestyle.

3. Stay Invested:  You may feel tempted to bail from the stock market.  But despite the roller coaster we’ve had, it is still prudent to have a portion allocated to equities.  Considering that people are living longer, you may want to use this rule of thumb for your allocation to stocks: 128 minus your age.

If you think that the stock market is scary because it is prone to periods of wild swings, consider the risk that inflation will have on your buying power.  Bonds and CDs alone historically do not keep pace with inflation and only investments in equities have demonstrated this capability.

But invest smart. While asset allocation makes sense, you don’t have to be wedded to “buy-and-hold” and accept being bounced around like a yo-yo.  Your core allocation can be supplemented with more tactical or defensive investments.  And you can change up the mix of equities to dampen the roller coaster effects.  Consider including equities from large companies that pay dividends.  And add asset classes that are not tied to the ups and downs of the major market indexes.  These alternatives will change over time but the defensive ring around your core should be reevaluated from time to time to add things like commodities (oil, agriculture products), commodity producers (mining companies), distribution companies (pipelines), convertible bonds and managed futures.

4. Invest for Income: Don’t rely simply on bonds which have their own set of risks compared to stocks. (Think credit default risk or the impact of higher interest rates on your bond’s fixed income coupon).

Mix up your bond holdings to take advantage of the different characteristics that different types of bonds have. To protect against the negative impact of higher interest rates, consider corporate floating rate notes or a mutual fund that includes them.  By adding Hi-Yield bonds to the mix you’ll also provide some protection against eventual higher interest rates. While called junk bonds for a reason, they may not be as risky as one might think at first glance. Add Treasury Inflation Protected Securities (TIPS) that are backed by the full faith and credit of the US government.  Add in the bonds from emerging countries.  While there is currency risk, many of these countries do not have the same structural deficit or economic issues that the US and developed countries have.  Many learned their lessons from the debt crises of the late 1990s and did not invest in the exotic bonds created by financial engineers on Wall Street.

Include dividend-paying stocks or stock mutual funds in your mix.  Large foreign firms are great sources of dividends. Unlike the US, there are more companies in Europe that tend to pay out dividends. And they pay out monthly instead of quarterly like here in the US.  Balance this out with hybrid investments like convertible bonds that pay interest and offer upside appreciation.

5. Build a Safety Net: To sleep well at night use a bucket approach dipping into the investment bucket to refill the reserve that should have 2 years of expenses in near cash investments: savings, laddered CDs and fixed annuities.

Yes, I did say annuities.  This safety net is supported by three legs so you’re not putting all your eggs into annuities much less all into an annuity of a certain term. For many this may be a dirty word.  But the best way to sleep well at night is to know that your “must have” expenses are covered.  You can get relatively low cost fixed annuities without all the bells, whistles and complexity of other types of annuities.  (While tempting, I would tend to pass on “bonus” annuities because of the long schedule of surrender charges). You can stagger their terms (1-year, 2-year, 3-year and 5-year) just like CDs.  To minimize exposure to any one insurer, you should also consider spreading them around to more than one well-rated insurance carrier.

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Remember leisure suits? Remember bell bottoms? How about skinny ties?

Fashion sense changes. And so has money sense over the last couple of decades. But like the old song title: Everything Old Is New Again.

Over the past couple of decades we loaded up on debt, used our homes as piggy banks and became part of the “ownership” society investing more in real estate, mutual funds, stocks and our 401(k)s.

Like a pendulum, things change and old fashions that fell out of favor seem to come back into style.

Unfortunately, some of those fashions when it comes to money should never have been forgotten.

1.) Live Below Your Means: Easier said than done especially if living in a high tax or high cost state. But it’s worth remembering mom’s advice on this one.

2.) Skip the McMansion: They cost too much to heat, furnish and maintain. And they don’t produce any income for you (unless you consider taking on roommates). And who are you gonna get to buy the McMansion anyway when you want to downsize?

3.) Protect Your Credit: Use it sparingly and only if you can pay it off soon. Consider using a snowball method to get yourself out of debt (focusing on a credit card balance and then as that one gets paid off redirecting your payments to the next balance). And keep your credit score high by not closing out accounts. Use them every once in a while to keep them active. This will help maintain your credit score and allow you to qualify for better terms.

4.) Pensions Are A Thing of the Past: Secure your retirement income by saving in whatever tax-efficient options are available to you. This includes your 401k and IRA. Add a Roth IRA to stay diversified regarding future income taxes. Consider a lifetime income annuity – no frills, no bells and whistles, low expenses, laddered and divided among different insurers to reduce your risk.

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Investing Mistake #1: Treating Investments Like a Part-Time Job and Not a Business.

“When a man tells you that he got rich through hard work, ask him: Whose?” Don Marquis

While you may be investing for a child’s education, a vacation home or retirement, the common ingredient for success really is the process, approach and mindset you bring to making investing a success.  Take it seriously and you get serious results.  If you are fearful, your results will reflect it.  If you are a daredevil, your results may reflect that, too.

All your personal goals are important, aren’t they? You’ve worked hard for your money, didn’t you?  So why not find a better way to make your money work smart for you?

Why Mindset Can Really Harm You

Too often, investors simply think that what and how they save won’t really matter.  They don’t have enough money to make it worth it and they don’t have the time to really focus on the whole investing game. I know, life gets in the way when you’re doing other things and making other plans.

Thinking of this made me remember visiting an underground cave with my friends John and Lisa on a trip through the Blue Mountains. We entered the caves on a tour and saw all these fantastic, awe-inspiring formations created by the centuries of slow drips of water and mineral from the cave ceilings.  The stalactites and stalagmites formed bridges and statues of animals and even formations reminiscent of the craftsmanship used to build the cathedrals of Medieval Europe.  Small, incremental and consistent efforts produced such grand results.  If it can happen in nature, why not for something like a college savings account?

Too often, investors simply throw up their hands and take the easy road.  They do nothing, make no changes and for fear of making a mistake or because they don’t know who to trust, they avoid working with a professional.

They may hear the media report that a monkey throwing darts at a list of mutual funds or stocks may have beaten a professional money manager. Another favorite topic in the financial press is how most money managers do not bear their index.  But on the other hand, other stories will focus on the fantastic results of quick trigger investment schemes of the day-trader variety.

Let’s face it:  How well your investments perform from day to day will not likely make a big difference in your lifestyle now.  But how well you plan and invest may determine if, how and when you can retire, build a legacy to pass on and do all the things that are on your personal “bucket list.”

Two Categories of Investors

So investors will fall into two categories:  Those who focus exclusively on performance and those who focus on process.

Most investors, despite repeated warnings in small print at the end of the ads,  will focus on past performance as reported by the popular press and websites.  So despite the daily constraints on time because of family and work, these same folks will pick up an occasional financial newspaper or magazine or troll some financial websites and pick up a few ideas. They’ll see a Top 10 list of investments from last quarter or last year and then buy them because they performed well over some arbitrary time frame.

The Part-Time Investor in Action

Those who are more well-to-do or successful or affluent are either too busy making money to focus their time on investing or they believe that they have the skills to handle things on their own because they are successful in their careers.

I’m reminded of a woman I met on several occasions to discuss a way to bring some order to her investments.  She was a single mom raising a teen and worked in a fast-paced, deadline sensitive business.  Whenever we spoke, we were regularly interrupted by ringing phones and a buzzing pager.  Although she barely had time for lunch, much less research basic investment concepts, she ultimately decided that she would go it alone and master an online trading strategy to buy and sell stocks and options.

If you’re a successful surgeon or restaurateur or engineer or banker, do you really think that the same skill set that got you to the top of your profession, will also mean you can invest the time needed to properly manage and protect your wealth – not just your investments, but the whole set of tax, asset protection, retirement strategy planning, credit and cash management concepts?

Highly successful people may have achieved enviable incomes but can tend to be haphazard or casual about investing and integrating a financial plan.  Often, they may think that their incomes are secure, their career path certain, and they have skill and time to handle things on their own.

In reality, most may not really know what it takes to get to their goal.  For a 49-year old executive with a good $400,000 annual income and a $1 million investment portfolio trying to target for a retirement lifestyle at age 65 without much down scaling, he has to grow his nest egg to $6 million within a mere decade and a half.

And there is the equally disturbing statistic that the Great Recession has been hard on white collar professionals.  Those with college and advanced degrees make up more than 20% of the unemployed and long-term unemployed.

Be the CEO of Your Own Investment Company

Investing at any level and especially at this level requires a business mindset. The same sort of principles that apply to business success apply to your own investing. And just like any other CEO, you need to make sure that your assets are managed in a systematic, disciplined and prudent manner.

  • Business Plan: You need a business plan for your investments that covers the short and long term.  This means having a clear road map for your goals with appropriate benchmarks tied to achieving them. Instead of using the arbitrary indexes quoted by the media, you need to have a personal benchmark so you’re more likely to stay on target.
  • SMART GOALS: You need clear goals: Specific, Measurable, Achievable, Realistic and Time-Specific
  • Commit to a Realistic Strategy: You need a clear strategy for meeting those goals – a 20% annual return might sound nice but is it realistic given historical norms and your own experience and peace of mind
  • Don’t take it personally: As in business, don’t take the ups and downs in the market personally and don’t be afraid to review
  • Surround yourself with a professional team: If you’re serious about investing for success, then take the time to assemble a proper team of professionals who can help and who you can trust.  No business succeeds long term without a good team.

Don’t be too focused on your career to ignore this.  You can’t afford to treat your family’s future security as a part-time job or hobby.

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The entrepreneur was being interviewed after a long life.  He had made it through the Great Depression and was looking back.  As he warmly reflected, he straightened up and with a twinkle in his eye told the world the secret of his success.

“It was really quite simple.  I bought an apple for five cents, spent the evening polishing it, and sold it the next day for 10 cents. With this I bought two apples, spend the evening polishing them and sold them for 20 cents. And so it went until I had amassed $1.60.

It was then my wife’s father died and left us $1 million.”

Sudden wealth is certainly one way to make it.  And the lottery is another.

But in reality most of us will need to rely on the principles of growing your wealth slowly.

It may not be sexy and exciting to talk about but over time there are certain principles that will work:

  • Living beneath your means
  • Consistently saving
  • Responsibly using credit
  • Protecting your assets, life and income with appropriate insurance
  • Investing in a broad, diversified mix of assets

Of course there are lots of specifics that need to be tailored for each individual and to reflect what’s going on in the world around us.  From year to year specific investments may need to be changed just as you might change the drapes or the color of your house. But the overall process of building and preserving wealth depends on the foundation you build. And like your house, you want that foundation to be solid.

Over the next several posts I’ll continue to explore the most common mistakes that investors make and how you can avoid them.

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