Front Street Wealth Management

Fee Only, Proactive Wealth Managment

Social Security and Surviving Spouses

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After almost two decades counseling clients on many financial topics, I certainly run into recurring themes. I suppose this is why 88-year old Warren Buffett claims, like wine, he gets better with age!

For example, there is an ongoing lack of understanding, even among Social Security’s own employees, regarding the options that widows and widowers have following the death of their spouse. The result? Thousands of widows and widowers are being shortchanged. I’ve seen it happen, multiple times.

When your spouse passes, you are entitled to receive what’s known as survivor’s benefits from Social Security. This benefit is based on the earnings record of your deceased spouse. You can file to receive reduced survivor’s benefits as early as age 60.

But, there’s another factor to consider in your Social Security filing decision. You are also entitled to receive a Social Security benefit based on your own work history. As a surviving spouse, you get whichever benefit amount is larger.

At first glance, it appears your filing decision comes down to a simple comparison of these two benefits. This oversimplification explains how widows and widowers are missing out on benefits.

Imagine a husband who earned a Social Security benefit of $2,000 per month. After collecting for just a year, he passed away at age 66. His wife was age 60 at the time of his death. She decides to keep working for a while longer. Her own Social Security benefit at her full retirement age of 66 is projected to be $1,800 per month.

If she chooses to file early for survivor’s benefits at age 60, she’d receive 71.5% of her deceased husband’s Social Security former benefit and only get about $1,400 per month. By delaying all the way up to age 66, she’d get the full $2,000 per month her husband once received. Patience appears to be a virtue, once again.

After some complex calculations related to her decision to file a bit early, she’s told she’ll be getting about $1,800 per month. Her highest benefit is the result of being a surviving spouse. Her own benefit just didn’t make the cut as it was reduced down to about $1,500 due to her decision to file early. So, she’ll start getting $1,800 per month for the rest of her life.

However, a wrinkle in the rules allows her, as a surviving spouse, to split her filing into two separate decisions. Widows and widowers get to choose to file for either their own benefit or the survivor’s benefit. Their choice can make a big difference.

As a widow, the splitting of her filing is accomplished through the use of a “restricted application” to receive just her survivor’s benefit. With this restricted application in place, she’ll get her $1,800 per month survivor’s benefit and still watch her own benefit grow and grow over the years. By the time she hits age 70, she’ll officially make the switch and see her Social Security benefit pop up to almost $2,400 per month!

Without the use of this filing strategy, widows and widowers filing for benefits are “deemed” to be simultaneously filing for both their own and their survivor’s benefit. By default, they get the biggest one and forever lose out on literally thousands of dollars over their retirement years. According to the Office of Inspector General of Social Security, the shortchanging of retirees now exceeds $130 million and counting!

To learn more about Social Security, attend our next Money Series presentation on Wednesday, April 10 at 6:30pm in the McGuire Room of the Traverse Area District Library. To register, please visit MoneySeries.org or simply call (231) 668-6894. Front Street Foundation, through its commercial-free Money Series, is a non-profit committed to providing open-access to financial education, for all.

Ready for a Retirement Review?

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Watch Jason P. Tank, CFA, contributing speaker for the Front Street Foundation’s Money Series, to learn about the factors that affect your withdrawal strategy in retirement.

Many readers have spent decades socking away money for retirement. Naturally, the accumulation phase is very familiar ground. However, it is during the second phase, better known as the distribution phase, where the process becomes a bit unfamiliar.

Based on my experience, there are three primary concerns most people have as they near the transition from accumulation to distribution.

First, people want to know how much is safe to spend annually from their nest egg.

The number of rules of thumb promoted out there most certainly outnumber the number of thumbs at my disposal! The most famous guide is known simply as the 4% rule.

Based on the level of today’s stock market – high – and the level of interest rates – low – I tend to err on the side of conservatism. For those who know me best, that’s not a big surprise! Given today’s market setup, my comfort zone is to limit your annual draw to around 3% to 4%.

Yet, we all know life is never as simple as a rule of thumb. Overall objectives and personal circumstances will definitely influence the level of spending in retirement that is both sustainable and safe.

For example, if a retiree is determined to die broke, it leads to advice that differs greatly from the advice given to a retiree who is committed to leaving behind a big inheritance to their children. Another factor that influences the sustainable draw rate is simply time. For those facing the possibility of a 25 to 30 year retirement period, expecting the unexpected is wise.

Once the level of sustainable spending is set, the next concern often centers on taxes.

For many, there are three pots of money with differing levels of tax obligations attached. There are yet-to-be taxed IRAs an 401(k)s. There are never-to-be taxed Roth IRAs. And, finally, there are always-taxed pots of money such as investment and savings accounts.

Tax minimization is a complex and important part of the retirement income game, for sure. Take Social Security, long-term capital gains and dividend income as examples. Depending on the size of your other sources of income, either some or none of this income is taxed.

Related to tax planning, the last concern is deciding which of the above-mentioned pots of money should be tapped and in what order.

For those who have most of their savings in yet-to-be taxed retirement vehicles, like IRAs and 401(k)s, there is not really much choice. But, for those who have spread their retirement resources among the three tax-buckets above, the planning options open up. This is especially the case before you reach the magical age of 70 ½!

We’ll be discussing in more detail the considerations and process of creating your own withdrawal strategy in retirement at the next Money Series on Wed., April 18 in the McGuire Rm. at the Traverse Area District Library. Front Street Foundation is a local non-profit whose mission is to provide open-access to financial education, for all. To register, visit www.FrontStreetFoundation.org or call (231) 714-6459.

Your Advisor Checklist

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The turn of a new calendar year holds a special appeal. It’s a natural time to reflect. It’s also a moment to set a new course for your personal finances.

For some, seeking the help of a financial pro feels unnecessary. I know people who run circles around some financial advisors! But, most people aren’t comfortable going it alone and do want support.

As I get ready to celebrate my twentieth year in the industry, I’d like to offer up some guidelines to help ensure you find a good fit with a financial advisor.

Find a good communicator. Like a good marriage or friendship, communication is number one.

Perhaps using overly-technical terms makes some advisors feel smart or we simply become a bit tone-deaf over the years. The fact is, industry-centric terms hold little meaning for regular people. Help us by asking us to use plain English!

Beyond actually understanding the advice you’re paying for, you should expect to always be kept informed along the way about your money.

Find a seasoned advisor. Like money, knowledge is accumulated over time.

Essentially, a financial advisor’s experience comes from two sources; education and years on the job. The first centers on credentials. And, on behalf of my entire industry, I deeply apologize for the alphabet of letters behind everyone’s names! Even I’ve lost track. To focus you, first look for the letters CFP (financial planning) or CFA (investment management.)

However, a professional designation doesn’t mean much if it’s not backed by years of relevant experience. I used to joke that investment advisors who cut their teeth during the long bull market in the ‘80s and ‘90s accumulated just a few good years of experience – over and over, again. Some stretches are like the movie, Groundhog’s Day. My suggestion is to seek someone who has operated through some market cycles and some volatility.

Find a financially- and ethically-aligned advisor. As the saying goes, form follows function.

Over the years, there’s been a clear movement away from advisors who sell financial products for a commission and toward advisors who provide investment management and planning on a recurring or one-time fee-basis. I feel strongly that a strictly fee-only arrangement ensures advisors will uphold their legal fiduciary duty to place your interests ahead of their own. But, these principles haven’t completely sunk in as evidenced by annuity salespeople still offering free dinners just to hear their pitch!

Over the years, I’ve come to recognize that choosing a professional advisor is a daunting task. If the last few months of market turmoil is any indication, ensuring a good fit with your chosen financial advisor may become increasingly important.

Jason P. Tank, CFA is both the owner of Front Street Wealth Management, a purely fee-only advisory firm, and the founder of the Money Series, a program committed to providing open-access to financial education, for all. Contact him at (231) 947-3775, by email at Jason@FrontStreet.com and at www.FrontStreet.com


How a Variable Annuity Actually Works

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Variable annuities aren’t simple and they aren’t cheap. I was once again reminded of this after analyzing a couple of policies in recent weeks.

Before I get too deep into variable annuities, I cannot stress enough how much a true financial plan helps to minimize the motivation to purchase a financial product, especially products designed to feed off a sense of insecurity. A deep concern of outliving one’s assets is often the key driver of most annuity purchases. No financial professional should ever dismiss this fear, out of hand. An objective adviser should instead work to understand and address the fear.

So how exactly do variable annuities work? At its simplest level, your money is invested in a basket of mutual funds. Your money then moves in lock-step with the financial markets. That certainly explains the “variable” part!

Now, without yet considering the added bells and whistles that often ride on top of variable annuities, this simple part of your policy represents your “true” account value. The cost of these mutual funds runs about 1% per year.

However, in addition to these mutual fund costs, the insurance company also imposes some other nebulous-sounding charges and fees. One is called the “mortality & expense” charge. Another is the proverbial “administrative” charge. These charges and fees typically add up to another 1.4% per year.

The high cost of about 2.5% per year in fees naturally hobbles the growth potential of your simple mutual fund portfolio. With a balanced portfolio of mutual funds, and barring a rip-roaring and sustained bull market, your variable annuity might be destined to make about 2% per year. You might fairly ask if this doesn’t just sound like a very expensive mutual fund program. I’d agree.

To combat this reality, insurance companies dangle enticing add-ons, called living benefit riders, that work to address the dual pain points of investment volatility and the fear of running out of money in your retirement.

When you add a living benefit rider to the picture, your policy actually has a second “shadow” account value that is wholly-unrelated to your “true” account value. It is typical for your shadow account value to offer a guaranteed annual return of around 6%, promised for about a decade. After that, the shadow account stops growing and can only be accessed if you agree to receive a lifetime of monthly payments. These riders cost yet another 1% per year.

Again, without the help of an extended bull market, it should be clear that the “true” account value – after all those fees are applied – simply cannot compete with the “shadow” account.

So what do you get when you make the rational choice of accepting the lifetime of monthly payments? For the next 12 to 15 years, the insurance company sends you back your own money plus the little bit of growth you got to keep. Only after you’ve been made whole does the insurance company finally start to send you their money.

As you can tell, my quick answer to the variable annuity question is “Just Say No!” As you can no doubt imagine, figuring out what to do, if anything, after you’ve already purchased a variable annuity is more complicated!

Jason P. Tank, CFA is both the owner of Front Street Wealth Management, a purely fee-only advisory firm and the founder of the Money Series, a program committed to providing open-access to financial education, for all. Contact him at (231) 947-3775, by email at Jason@FrontStreet.com and at www.FrontStreet.com

Two Tax Tricks to Remember

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Not long ago, I highlighted two tricks to help lower your tax bill. Since we’ve entered a whole new tax year, I’ll take the risk of sounding like a broken record. It’s worth it to me, if it saves you some money.

Prior to the new tax law, about 30% of all tax filers itemized their deductible expenses. Today, fewer than 10% will itemize. The culprit? The new standard deduction essentially doubled. Your taxes got much, much simpler.

For single filers, the new, bigger standard deduction is about $12,000. For married filers, it jumped all the way up to about $24,000. Think of these as a hurdle.

If the combined total of your property taxes, your state income taxes, your out-of-pocket medical expenses, your mortgage interest, and your charitable donations doesn’t exceed the new, bigger standard deduction, you can now skip the tedious record-keeping.

But, remember, If you are no longer itemizing, your charitable donations won’t be tax deductible either. That is, unless you use one of these two tricks to preserve your deduction!

The first trick only works if you are over age 70 ½ and have an IRA. If you aren’t yet lucky enough to be over age 70 ½, the second trick is made for you.

If you are older than 70.5, you can donate to a charity directly from your IRA. These are known as “qualified charitable distributions” and they work to satisfy, in part or in whole, your annual required minimum distribution (RMD) from your IRA. Even better, the money you give directly to charity from your IRA won’t count as taxable income. Since you are giving away money that’s never been taxed, it’s just like getting a tax deduction.

The mechanics are extremely easy. Many brokerage firms will simply issue you a checkbook for your IRA. All you have to do is keep a record of the donations you make from that dedicated checkbook. Just be sure to report your gifts to your tax preparer or else you’ll end up paying tax on those charitable distributions anyway!

If you are under 70.5, you get to use a different trick to claw back your tax break for your charitable giving. In order to deliberately push up your itemized deductions above the new, bigger standard deduction, consider “bunching up” years worth of your charitable donations into a single year.

A great way to bunch up your donations without having to give it all away in one fell swoop is to open up a donor-advised fund. Just like that IRA checkbook for those over 70 ½, your donor-advised fund creates a dedicated pot of money for your future donations.

As I write this, I suspect that too many people are dutifully tallying up all their charitable donations made last year only to find that none are actually tax deductible. Well, as the old saying goes, “Only two things in life are certain; death and taxes.” If you didn’t use either of these tricks last year, there’s always this year.