An important tax law change is coming that expands eligibility for a popular retirement account choice, the Roth IRA. Beginning January 1, 2010, Roth IRA conversion income limits will be eliminated, allowing anyone to convert a Traditional IRA or old 401(k) to a Roth IRA. Question is, should you? You’ll need to talk to an expert to have them assess your individual situation but you should certainly look into it.
There are at least five different kinds of IRAs each with its own rules and regulations. I included information about Education IRAs but they are rare. Two of them must be funded by your employer so I have excluded them.
You need to check them all out, preferably with some expert help, like a CPA or an attorney, family member or other expert before investing in any of them.
Traditional IRA
You are allowed to contribute up to 2,000 dollars per year into a traditional IRA. The amount of the contribution that is deductible on your income tax return depends on your Adjusted Gross Income (AGI) which can be found on your income tax form and whether you are covered under an employer’s plan. So, depending on your filing status (Single, Joint, etc), and your AGI, your contributions may range from fully deductible to totally non-deductible. Even though you are eligible to contribute to your IRA, you may be in a position where none of these contributions are in fact deductible.
Roth IRA
You can also put money into a Roth IRA. Roth IRAs have lots of rules, but if you follow them, any money you put into one is taxed at that time and even if it grows, you won’t have to pay any more taxes on it. For example, if your account doubled in value over the years, even when you cash out at retirement, you’d get half the money tax-free. Also you cannot withdraw your funds within the first 5 years after the establishment of the Roth without a penalty.
Education IRA
You can put away up to $500 per year into an education IRA, the money grows tax-free and receives a preferred tax treatment when the money is used for educational expenses. These plans are not very common in that they are very restrictive on who can make contributions to them, the amount of total contributions allowable each year, and the limitations on what exact education expenses qualify.
Just like you need lots of different shoes, you have quite a few different ways to invest your money. None of these options are mutually exclusive. You can have a brokerage account and a 401K. Or you could have a 401K with your current employer and an IRA which includes money from previous 401Ks.
October 19th, 2009
There are a lot of terms here so refer back as needed:
Accountant: A professional, who is usually but not always a CPA, who helps you maintain your financial records and prepares and submits your tax returns.
Annual Percentage Rates (or APR): Fees charged by credit card companies when you do not pay your bill in full.
Appreciation: The increase in value something has over time.
Asset: Anything you own that has commercial value.
Asset allocation: A reference to how you keep (or allocate) your money. It is a good idea to keep your extra money in a variety of places: Cash, stocks, bonds, houses, cars, etc.
Attorney: A practicing lawyer who provides overall legal advice and also sets up trusts, wills, and powers of attorney.
Bond: A loan to a company or to a government. When you buy a bond, you agree to loan your money to the company or government in exchange for interest payments they make to you and the return of your money at a later set date.
Budget: An itemized plan of what you earn and what you spend.
Balancing (reconciling) your checkbook: At the end of every month, you and the bank need to agree on the number of checks you wrote, their total dollar amount, the money you withdrew in addition to them from your ATM, and the deposits you made.
Bank statement: Each month your bank will send you a piece of paper that shows your ending balance from the last month, a list of all the checks you wrote, the deposits you made, and an ending balance for the current month.
Broker: A professional who can help you buy stocks, bonds, and mutual funds.
Brokerage account: An account held at a financial institution, like a bank, within which you can purchase and keep stocks, bonds, mutual funds, and other types of financial investments through a professional (called a broker).
Capital gain: The difference between what you paid for a stock or bond and what you sell it for. If the price for which you sold it is higher, you made money, and you pay a tax on that amount.
Checkbook register: The place in the front of your checkbook where you should write down all of the checks you have written and all of the deposits you have made.
Checking account: Provided by financial institutions so you have a place to deposit and withdraw your money.
Claim: The amount you ask your insurance company for after something you’re insured against happens.
Compound interest: In which you are paid interest on your interest.
Compounding period: How frequently interest is charged, since it can be charged in yearly, monthly, weekly, and daily increments.
Corporate taxes: Taxes companies pay on their profits.
Credit card: A small but powerful piece of plastic. It allows you to buy something now, today, when you want it, and pay for it later.
Credit score: A number assigned to you that is, in effect, a snapshot of your credit risk at a particular point in time. Credit scores range from 350, which means you’re a poor risk, to 850, which means you’re a good risk.
Credit agency: A company that collects relevant information about you on behalf of lenders.
Commission or commission rate: Fees charged by brokers for their services.
Credit limit: The total amount the credit card company decides you can borrow on its credit card.
Debt: An amount of money that you owe.
Debit card: An extension of your checking or savings account. Each time you make a purchase, the money to pay for it is taken directly from either your checking account or your savings account, depending on which account you tell the bank to debit.
Deductible: The portion of the claim that you pay for, for which the insurance company is not responsible.
Depreciation: The loss in value any given possession has over time.
Discount brokers: A broker who gives you a discount on their commission for making stock or bond market trades for you in exchange for not giving you advice.
Diversification: Spreading your money among different types of investments.
Excise taxes, also called “sin taxes”: Taxes levied on items like liquor, cigarettes and cigars, and gambling.
Expenses: All the money you spend, both practical and impractical.
Fashionista: An enthusiast of fashion.
Federal Deposit Insurance Corporation (or FDIC): Insurance provided by the government to protect you from losses of up to 250,000 dollars if your bank goes bankrupt.
Federal income tax: Pays for country-wide services like defense and education.
Financial Goddess: You.
Financial planner: A licensed professional who can help you manage your overall finances, not just your portfolio.
Fixed interest rate: In which the bank pays you (or you pay the bank) the same amount of interest each time a payment is made, based on a pre-agreed amount.
401K: A retirement plan offered by your employer. A 401K takes money out of your paycheck (you decide how much) and deposits it into a retirement savings account for you.
Fund manager: A licensed professional who manages mutual funds.
Identity Theft: When someone uses your personal information (like your name, Social Security number or credit card) without your permission to purchase things illegally in your name.
Income: Money you earn (bring in).
Income tax form: The form you file with the federal government, in which you report your income and the taxes you have already paid throughout the year.
Index fund: A type of mutual fund that is passively managed, meaning the fund seeks to mirror the market and there is no fund manager.
Individual Retirement Account (or IRA): A personal retirement account, different from a 401K, which is a company retirement account.
Insurance: When you make regular ongoing payments to an insurance company in order to protect yourself financially if something goes wrong.
Insurance agents: Professionals who help you determine what kind of insurance you need, how much of it you need, and which policies and carriers will work best for you.
Interest: Fees banks pay for the privilege of using your money or that you pay banks for the privilege of using their money (usually expressed as a percent).
Interest rate: The amount of those fees.
Investment advisor: A professional in giving investment advice who must be registered with the Securities Exchange Commission or state securities agencies.
Impulse spending: Spending without forethought—or much of any thought.
Liability: An obligation, something you owe. In insurance, a legal term for what your responsibility is to the other people involved.
Local income tax: Pays for town and city projects.
Matching contribution: An employer’s contributions to your 401K account (usually a percentage of your paycheck up to a designated amount).
Medicare: Used by the federal government to aid people over sixty-five in paying for their medical care.
Mutual fund: Allows investors who have the same financial goals and objectives to pool their money together. As with a stock, you own a share, but of the fund, not of the individual company. Unlike a stock, a mutual fund can contain both stocks and bonds.
Net worth: The total of all of your assets minus the total of all of your liabilities.
Opportunity cost: What you will be giving up as a result of a decision you make.
Outstanding deposits: Any deposits you’ve made or fees you’ve earned that are not yet credited to your bank account.
Outstanding withdrawals: Any checks you’ve written or fees you’ve been charged that have not yet been subtracted from your bank account.
Overdraft protection: A bank will cover you for a short time if a check you’ve written does not immediately have the funds to pay for it in your bank account.
Passbook savings account: A basic savings account.
Policy: What you buy when you buy insurance, namely an insurance policy.
Premium: The amount you pay for an insurance policy.
Prepaid card: A debit card that has a specific amount of money paid into it by someone else, instead of being linked to a bank account.
Principal: The original amount of money you borrowed from a financial institution or charged on a credit card.
Proof of loss: What an insurance company requires you to provide in order to verify the claim you are making to it. Insurance companies won’t just take your word that you need money.
Property taxes: Taxes on real estate (houses and land sometimes cars).
Realtor: A licensed professional who helps you find and navigate the home-buying process.
Return on investment: A measurement of how much your money has increased or decreased (gained or lost) relative to what you invested over a one-year time period.
Risk: The degree of probability that something will cause you to need your insurance company for financial assistance. Risk is also the amount of chance you are willing to take with your money when you purchase financial investments.
Roth IRAs: A type of personal retirement fund in which you pay taxes before funding it, thereby allowing the money you put into it to grow tax free.
Sales tax: Federal or state tax on stuff you buy.
Savings account: Provided by financial institutions to provide you with a safe place to save your money and earn interest. There are three kinds of such accounts: Basic, money market, and certificate of deposit (CD).
Schedule C: The section on an income tax form where you include income that did not come from a full-time employer.
Simple interest: When you borrow money, you pay back the amount you borrowed (principal) plus interest on it. The formula for calculating simple interest is: Interest equals Principal multiplied by Interest Rate multiplied by Time held.
Social Security: Funded by the deductions from your paycheck and used by the federal government to give financial assistance to people who are retired or disabled; the full name for Social Security is the Federal Insurance Contributions Act (FICA).
Stock (share of stock): Ownership in an individual company; how much ownership depends upon how much stock you buy.
Stock market: Where stocks, bonds, mutual and index funds are traded.
Taxes: Fees paid by everyone to help support federal, state, and local governments and their projects.
Time value of money: All things being equal, it is better to have money sooner rather than later.
Variable interest rate: The differing percentages of interest the bank pays you (or you pay the bank) based on how interest rates are performing at any given time; interest rates rise and fall depending on a variety of factors.
W-2: A tax form from your employer reporting your earnings and the amount of income tax they withdrew from your paycheck during the year.
W-4: A tax form requiring you to give your employer your permission to deduct taxes from your paycheck
October 6th, 2009
Why invest in stocks and not just bonds? Stocks allow you to invest in companies that can create a lot of value more quickly than bonds. If you pick the right stock, you can make a heck of a lot of money. Of course, if you pick the wrong stock, you can lose a heck of a lot of money. That’s why it’s never a good idea to put all your money into one company.
Now that you know the difference between debt (bonds) and equity (stocks), how do you choose a stock to buy? Where do you begin? One begins by starting to pay attention to the stock market. As you have seen, the stock market is just like any other market, except that stocks are bought and sold as opposed to something else. How do you pay attention? And what will the market teach you if you do? What does “pay attention” even mean? The stock market reacts to the world at large and the daily news. The market rises and falls (increases and decreases) depending on lots of different things including how the economy is going, whether people are optimistic or pessimistic about the direction of the world, whether wars are being fought, how much the United States pays for oil and even how much people are shopping.
You can start to watch what happens to stocks in general by looking up the Dow Jones Industrial Average. The Dow Jones Industrial Average tracks the stocks of 30 different companies every day. When you hear people discuss the stock market on television, the radio or on the Internet, they typically say things like “The market dropped 100 points today”. Or, “The market rose 30 points today”. When the term “the market” is used, typically they are referring to the Dow Jones Industrial Average. The performance of the thirty stocks the Dow Jones tracks (how well or poorly they are doing) is considered a bellwether of how the financial markets are doing as a whole.
How do you find out what the Dow Jones Industrial Average is doing? Just like a bond, you can look it up in the newspaper or on the Internet. In fact, you can start to follow the stock market in general and the stocks of individual companies in particular by utilizing the finance section of your home page. For example, if you use Yahoo or Google as your home page, you can add content that shows you information on the stock market. You can even add individual stocks to track and follow. How? Every stock has a trading or ticker symbol, a three or four letter call sign that it is known by on the stock market. The Dow Jones Industrial Average symbol is DJI. You can find stock symbols by Googling “what is the stock symbol for [fill in the name of the company]”. For example, to find the stock symbol for Saks, you would Google “What is the stock symbol for Saks?” The answer: SKS.
As you start to pay attention to the market in general, you should begin to focus on a few companies you know a lot about. For example, if you love your iPhone, start to watch Apple’s stock (symbol: AAPL). If you wouldn’t head to the gym in anything but your Nike’s, start to look at Nike’s stock (symbol: NKE). If you love shopping at the Gap, look at Gap’s stock (symbol: GPS). What are you watching for? Here are a few things: How does the stock price change in relation to the news about the company? How does the stock’s price change in relation to any announcements the company makes? How does the stock’s price change in relation to general news about the economy? For example, some stocks are more susceptible to the world around them than others. For example, when the economy is down, people tend to shop less and for less expensive items. Neiman Marcus and Saks do worse in this type of environment than Target or the Gap.
So you don’t fall off your heels, know that despite all of the risks, as a group, stocks have the highest long-term returns of any investment type. Even though stock markets go up and down and, at times, have even crashed, so far, the market has always rebounded and gone on to new heights. If you look at the all your investment choices, on average, stocks have outperformed bonds in a total return (after inflation). A little height can go a long way!
September 6th, 2009