Apr 18 2016

How to Create an Effective Financial Plan

By |April 18th, 2016|Personal Finance Tips|1 Comment|

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An effective financial plan is one that incorporates all aspects of financial life and that includes goals that are specific, measurable, achievable, realistic and time-bound (SMART).

The 4 basic elements of an effective financial plan are situation analysis, goal setting, implementation and assessment. Each of these elements are important and interrelated and should be given proper attention.

The key to achieving financial freedom and success lies not only in the quality of the financial plan, but in the implementation of those plans. In addition, your financial plan must be documented and updated on a regular basis and should include short, medium and long term goals.

The following is an example of a financial plan template that is easy to use and that is color coded for short, medium and long term financial goals:

effectivefinancialplan

A simple financial plan such as this one may be created using Excel. In this example, short term goals are coded in yellow, medium term goals are coded in green and long term goals are coded in blue.

Situation Analysis

An effective financial plan begins with a current situation analysis. Since each person’s financial situation is different depending on income, financial obligations, and stage of life; the financial plan should be tailored to take those particular circumstances into account. For example, someone who is heavily indebted would need to take a different approach to financial planning from someone who has little or no debts at all. Similarly, someone who has more than one source of income may be able to take on more financial responsibilities than someone with only a single source of income. Situation analysis should involve taking a look at where you are financially in terms of your assets, your liabilities, your income and your expenses. This exercise will form the basis of all your financial planning decisions. At the end of the day, the aim of financial planning should be to at least put yourself in a situation of positive net worth and sufficient liquidity to comfortably cover your daily expenses. The situation analysis will help you to determine how hard you have to work to get to where you want to be and what it will require financially to get there.

Goal Setting

Goal setting is an essential aspect of financial planning. As mentioned earlier, your financial goals should be specific, measurable, attainable or achievable, realistic and time-bound. The example above is an excellent example of effective goal setting. Being specific means that you need to establish definite dollar figures for your financial goals. In the example, definite dollar figures were established for each and every financial goal eg. $30,000 for an emergency fund. This is a much more powerful and effective goal than simply saying that you want to set up an emergency fund. Also, you should be able to state exactly what you are working to achieve. For example, I want to save 6 months income as an emergency fund.

Establishing a dollar figure also means that your goal is measurable. A goal that cannot be measured is almost impossible to achieve because you will never know whether or not you have achieved it.

Your financial goals should also be attainable and realistic. In other words, if you earn $3000 per month, it may not be realistic to try to save $2500 per month. You must take your current reality into account as well as your future expectations. Goals that are not realistic or achievable will cause frustration and eventual failure. So be realistic even if it means that you will not achieve your goals as quickly as you would like to.

Your financial goals must have definite target completion dates. You must have a timeline within which you plan to achieve your financial goals. Otherwise you are likely to lose your motivation for accomplishing them. Setting a deadline gives you something to work towards and something to look forward to. It will allow you to make adjustments along the way if necessary so that you are still able to achieve your goals within the established timeframe.

Implementation of the Financial Plan

A financial plan without implementation is just a useless dream or wishful thinking. Unless you actually implement your plans, you will never achieve your financial goals. You must put measures in place to ensure that everything goes according to plan. Setting up an arrangement where your employer automatically deducts an amount from your salary for savings on your behalf, is a great idea if you don’t have the discipline to save on your own. Also, you can always make arrangements with your bank to transfer funds from your checking account to established savings accounts on your behalf. If you have a side job or do freelancing to make extra income, you need to develop the discipline to set aside amounts that will help you to achieve your goals. Funds that have been earmarked for something should never be used to do something else. Implementation of your financial plan will require great discipline.

Progress Assessment

For any financial plan to work, you must do periodic assessment to ascertain whether or not you are on track towards achieving your goals as planned. This assessment will give you the chance to make changes if necessary in order to ensure that your goals are met as intended. If your financial situation changes during the process, you may need to make adjustments to your goals. It is advisable that you conduct assessments at least on a monthly basis.

Insurance

Life Insurance is essential for any financial plan. Since nobody knows with 100% certainty what will happen in the future, it is important that you obtain life insurance so that your dependents will have a source of income should you pass on unexpectedly. Disability insurance and medical insurance are also great to have to help with unforeseen disability or terminal illness.

At the end of the day, a financial plan is only as good as the quality of the plan and your ability to implement those plans effectively. Each step in the financial planning process is important and careful attention should be dedicated to carrying out each step efficiently and effectively. Follow these steps and you will be well on your way towards achieving your financial goals.

Apr 14 2016

5 Tax Filing Tips for the Newbie Freelancer

By |April 14th, 2016|General Personal Finance|Comments Off on 5 Tax Filing Tips for the Newbie Freelancer|

macbook-577758_640Whether you want to supplement the income from your 9 to 5 job or escape that job altogether, freelancing comes with some definite perks. You’re in charge of your schedule, you can set your own rates and every day is Casual Friday.

While freelancing can give you a new level of freedom professionally, it does have a downside. Instead of relying on your employer to take taxes out of your paycheck, it’s up to you to make sure you give Uncle Sam his fair share.

If you’re new to the freelancing game, learn a few things about taxes to avoid landing in hot water with the IRS. Here are some tips to help you keep your filing as hassle-free as possible.

Understand the filing requirements

Freelancing, whether you work part-time as an independent contractor or full-time as a sole proprietor, means you’re self-employed in the eyes of the IRS. Being self-employed adds a new layer of responsibility where your tax filing is concerned.

Generally, you have to file an income tax return if you make $400 or more from self-employment. On top of income tax, you also have to pay self-employment tax. Self-employment tax is similar to the Social Security and Medicare withholding that your employer would take out of your paycheck at a regular job.

As of 2016, the self-employment tax rate is 15.3%. This tax applies to your net freelance earnings, which is your gross income minus any deductions for business expenses. The IRS also impose an additional 0.9% Medicare surtax for single filers who make more than $200,000 annually or married couples who break the $250,000 income mark.

Be clear on which forms you have to file

Once you know (generally) what taxes you’ll be on the hook for, find out which tax forms you need to fill out. Generally, if your freelance business is set up as a sole proprietorship or an LLC or if you’re just doing it as a side hustle in addition to a day job, you’d use Form 1040 and file a Schedule C.

If you freelance on a larger scale incorporating might make more sense, but that will means more paperwork to fill out at tax time. For example, if you set up an S-corp, you have to file Form 1120S and create a Schedule K-1. This form is what you use to prepare your 1040. Remember, any forms you file for your federal taxes also must be filed for your state.

Know the due dates

For most taxpayers, the only deadline they worry about is April 15th, which is when federal and state returns are due. If you’re freelancing, however, your calendar’s going to look a little different.

When you’re self-employed, the IRS expects you to spread out your tax payments throughout the year. Estimated payments of what you think you’ll owe are due on a quarterly basis. Here’s how the due dates break down:

  • For income earned between 1/31 and 3/31 – April 15th
  • For income earned between 4/1 and 5/31 – June 15th
  • For income earned between 6/1 and 8/31 – September 15th
  • For income earned between 9/1 and 12/31 – January 15th of the following year

If you still owe regular income tax after you prepare your return, that money will also be due on April 15th. Underpaying estimated taxes or paying them late can result in a tax penalty. The same is true if you don’t file your annual income tax return on time or fail to pay what you owe by the April deadline.

If you plan to pay your tax bill with a credit card, understand the fees and interest. Pay the card on time each month to avoid damage to your credit score.

You can check your credit report and score for free with Credit Sesame.

Figure out what’s deductible

The IRS has two basic requirements for deducting business expenses as a freelancer. First, they have to be ordinary, which means it’s something that’s common for the kind of business you have. Second, the expense has to be necessary for doing business. If you’re a freelancer writer, for example, a laptop is something you’d likely need to do your work.

Some of the most common expenses a freelancer may deduct include:

  • Domain or web hosting (if you have a personal website or run a blog)
  • Telephone and Internet expenses
  • Advertising costs
  • Computer software
  • Equipment
  • Home office expenses
  • Office supplies
  • Business-related vehicle expenses (i.e., mileage, gas, etc.)
  • Education and training expenses
  • Professional membership fees
  • Business meals and travel

Aside from these work-related expenses, freelancers have a few other write-offs at tax time. If you pay out of pocket for your health insurance, for example, you can deduct the cost of the premiums as long as you’re not eligible for coverage under your spouse’s insurance plan. Retirement plan contributions are also deductible if you’re socking money away into a SEP IRA, Simple IRA or Solo 401(k).

Document your expenses

Claiming every deduction you’re eligible for is a smart way to cut your tax bill, but you have to be able to prove those expenses were related to self-employment. If you write off a bunch of expenses and the IRS decides to take a closer look at your return, you could end up owing money without a paper trail to show what you spent the money on.

If you don’t want to keep up with piles of paper, use an expense tracking app. The good ones allow you to photograph and then discard your receipts. Either way, establishing a solid record-keeping system is the best thing you can do if you want to get your freelance career started on the right foot tax-wise.

Apr 8 2016

Doing Your Own Taxes

By |April 8th, 2016|Blog, Personal Finance Tips|5 Comments|

tax lawI got about halfway through using H&R Block to do my taxes when I got stuck trying to enter the correct deduction in at one point.  I was trying to use the free edition of H&R Block because I couldn’t see my way to paying for it and after about 20 minutes of frustratingly unclear googling I gave up and decided that I was going to do my own taxes this year.

The Bad

It has so far taken my about two hours every night for the last four nights to try to slog through all of my taxes.  Ultimately, I’ve got to file a 1040 along with schedule B, C, and D and associated forms.  I’m still not quite done.  I’m very nervous about making some sort of mistake and triple-checking everything is quite cumbersome.  (For example, do you know what precise percentage of your phone plan went towards business use in 2015?  I do now.)   If you don’t have a straightforward tax situation this takes a bunch of time.  I can almost understand a refusal to sell investments on a basis that you then have to deal with them on your taxes!

The Good

All told I will probably save about $100 this year.  Since having an accountant doing your taxes isn’t tax deductible this is like earning an extra $120 pre-tax for my tax bracket.  As a second bonus I’m sure learning a great deal of the ins-and-outs of the tax code.  It turns out, that for all the flak the IRS gets about being confusing is that it really just isn’t that bad.  You just need to actually read the rules.   Any literate person with the ability to work a pocket calculator can manage to do it.  Additionally, the rules, once you understand them are actually pretty reasonable.  (I almost feel as though I’m going to have my libertarian card revoked writing this, but fortunately we’re far too busy arguing about who gets to build the roads to police memberships.)

The Ugly

Two hours times four nights goes into 120 dollars how many times? Yeah, I’m doing this for $15 per hour (pre-tax equivalent earnings) and I’m still not done.  Those aren’t good numbers, and did I mention that I haven’t even started on my state taxes yet?  Whoops.  Fortunately, I could just file an extension.

This is a cool little detail.  If you need more time to file your federal tax return you can request an extension which will give you an extra six months to file your federal return.  You need to fill out form 4868.  It does not give you extra time to pay your taxes. Even though you might not know exactly how much you have to pay, you’d better get at least the right amount to the IRS before April 18th, 2016.  Since most people expect a refund, you’ll probably not need to worry too much about that.  I, however, always try to cut it as close as I can so that the IRS and I are even on by the last tax date.

Overall

Filing your own taxes is a pain.  It’s probably something you should learn how to do correctly at least once in your life.  While I’m not getting appropriately compensated for it, at least I know what goes into it in the future.  At least in the future I’ll know what a fair price to pay for the service is!

 

 

Disease Called Debt
Mar 30 2016

Best IRA Broker

By |March 30th, 2016|Blog|Comments Off on Best IRA Broker|

800px-American_Cash_BestBrokerI keep my IRA at Tradeking and I tell all of my friends to use Vanguard.  The customer service has been great and all of the problems I have with them are small and don’t apply to average people.  The first question you should probably consider when choosing a broker for your IRA is whether you intend on being an active investor or a passive investor.  If you plan on being a passive investor then you simply want to get the IRA which has the lowest all-in fee structure on the investments you plan on purchasing.  If you plan on being an active investor then you have all sorts of other questions to deal with.  Costs are still important, but probably most important is figuring out the type of investments you plan on making.

Active Investors

  • Tradeking
    • Tradeking’s main claim to fame here is dirt-cheap trades ($4.95), no special IRA fees, and very responsive customer service.  They also allow for dividend reinvestment if that’s the sort of thing you’re into.  Unfortunately, it isn’t very easy to participate in corporate actions like odd-lot tenders because they charge a $50 fee which will destroy almost all of the profits in that sort of operation.  I also have had no luck trying to buy specific junk bonds.
  • OptionsXpress
    • OptionsXpress doesn’t make trades as cheaply as tradeking but they do have one major advantage.  Corporate actions including participating in tender offers for free! Thus, just starting out with my investing I use them in order to take advantage of trades which depend on having a small capital base.

Passive Investors

  • Vanguard
    • Vanguard’s name is a byword in the passive investing world.  If you use their brokerage you get the ability to trade a variety of super-low cost index funds for free. They’ve run into some trouble lately: http://www.reuters.com/article/vanguard-lawsuit-idUSL4N0Q05JG20140726, but this will probably be resolved.  There could even be upside if Vanguard ends up becoming a private company.
  • Fidelity
  • Sharebuilder
    • If your IRA is relatively large and you want to buy and hold individual stocks I could see an argument for putting everything in sharebuilder.  They allow you to set up an automatic investment plan for a reasonable monthly fee.  You then have to make a monthly contribution which sharebuilder will then sweep into stocks of your choice.  Dividends can also be automatically reinvested.  This is a great choice for someone skeptical of index funds.  If you’re into dividend investing, this would be a good broker for your IRA.  (Only because Loyal3 and Robinhood don’t appear to offer an IRA option just yet.)

Of the above brokers I have an account at Tradeking (my IRA), OptionsXpress (taxable account), and Vanguard (my 401k).  I’ve found that they’re all very good at different things, however, if most of the things we’ve discussed in this article have flown over your head, or you’re just getting into investing.  I think opening an account with Vanguard and using index funds like the Vanguard Total Market fund would be the best idea.  In general “active” investing (buying and selling individual stocks) is a suckers bet and the majority of folks who do it would have been better off if they invested in random stocks and never sold.

Of course, for those of us just starting out, the biggest impact to our retirement account is how much we save, and not how much we make.  If you’re maxing out your IRA every year you’re on the right track.

 

Mar 23 2016

Best Retirement Account for a Side Business

By |March 23rd, 2016|Blog|Comments Off on Best Retirement Account for a Side Business|

retirement, side hustle, retirement tips

Let’s suppose you have a side business earning $20,000 per year. You also have a regular job where you make $40,000 per year.  Your regular job has a 401(k) plan and you can contribute up to the annual maximum to that 401(k) plan (2016: $18,000).  On top of that you can also contribute 25% of your W2 (from your side business) as well.  If your W2 income for the side business is something like $14,000 you can contribute up to $3,500 to a Solo 401k.  This can act as yet another tax advantaged bucket for taxpayers.

Solo 401K – Roth Upside

One of the big advantages of the Solo 401K over the SEP IRA and the Simple IRA (other reasonable options for saving toward retirement for the self employed) is that the Solo 401K has a Roth option.  This is particularly good if you think that tax rates are likely to increase in the future or if you expect to be making substantially more money in the future.

Caveats

The biggest caveat with the roth option is that profit sharing contributions (that’s you when you’re wearing the owner hat) cannot be roth contributions.  They can only be made pre-tax.  If you wish to have a Roth solo 401k that’s something to keep careful eye on.

This is pretty simple if your side business employs only you.  If you have other employee’s then the solo 401k is no longer allowed.  Most people I know with side businesses generally aren’t also employing folk, so this might not even come up in your situation.  Additionally, anecdotally Solo 401k plans seem to be more expensive in terms of administration.  It doesn’t help to have slightly better tax savings if you end up giving it all away on the other end.  The setup is also somewhat more complicated and its important to check with your tax professional.

SEP-IRA

The contribution limit on the employer end of the SEP-IRA (stands for Simplified Employee Pension, though why you’d want anything other than the acronym rattling around in your brain-box is beyond me) is the same as the Solo 401k.  The important thing to note here is that contributions made wearing your employee hat count towards your IRA limit.  If you’re looking at doing this for your side business and you can already contribute to a 401k then this probably doesn’t matter a lot for you, you still have the same amount of total tax advantaged space.

Not having a Roth option can kinda suck if you are on the lower end of the tax bracket spectrum, or if you believe that you will be in a higher tax bracket post retirement.

But What About the Simple IRA?

Why didn’t I bring up the simple IRA? Well, if you have another line of work that allows a retirement account you simply (hardy-har-har) can’t do it.  I try not to worry about stuff that isn’t an option for me, an approach which I heartily suggest.  If you are a freelancer or aren’t covered by any sort of retirement plan at your work I’d definitely recommend checking it out.  Otherwise research time spent on something that doesn’t work for you is research time wasted.

Solo 401k Wins

The flexibility here just makes it largely better.  Unfortunately, this may mean slightly more administration.  Fortunately, there are a few providers which will manage a solo-401k plan without a setup cost and without maintenance fees. (Fidelity in particular comes to mind).  If you’re young you’re probably not in your peak earning years, but you could very well be in your peak saving years.  The Roth option here is too nice to pass up.

 

Mar 14 2016

Taxes and the ACA 2016

By |March 14th, 2016|Blog|Comments Off on Taxes and the ACA 2016|

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You can use the tax credit to buy cigarettes, like this upstanding gentleman.

If you get health insurance through your work, great, you’re pretty much done. You need not read this article.  For those of you who need to buy health insurance through an Obamacare health insurance marketplace, read on.

Tax Credits

First thing that you need to keep in mind is that the premiums that you see on a website like: connectforhealthcolorado.com are not the actual premiums you will be paying.  There are significant tax credits which subsidize the cost of the health insurance for you.  While it may appear that your health insurance coverage will cost $400 or $500 per month the real cost might be substantially lower, say, $150 to $200 per month.  If you make less than 400% of the federal poverty guideline then you could be eligible for a tax credit to help pay for premiums on a monthly basis.  What is the federal poverty guideline?

  • $11,880 for individuals ($47,520)
  • $16,020 for a family of 2 ($64,080)
  • $20,160 for a family of 3  ($80,640)
  • $24,300 for a family of 4 ($97,200)
  • $28,440 for a family of 5 ($113,760)

So if you’re an individual that makes less than $47,520 you may be able to get a tax credit for some of the health care premium you have to pay.  How much? Well, it depends.  The tax credit is the difference between the amount the government thinks you can afford to spend on healthcare and the cost of the second cheapest silver health insurance plan available.  So, if the government thinks you can afford $400 per month, and the second cheapest silver plan is $500 per month, then you get a tax credit of $100 per month.  This caps out at the amount you actually spend on premiums. You can’t then buy a bronze plan that costs $50 per month and pocket the extra $50.

How much does the government think you can afford to spend on health insurance?  Well, if you’re poor, it’s figured to be about 2%, that value scales continuously up to about 9.5% once you hit 300% of the federal poverty level.  So, the maximum annual income for an individual to qualify is $47,520.  9.5% of that is about $4,500.  That means, on a monthly basis you’re expected to shell out $376 for health insurance premiums.  In my state the second cheapest silver plan is cheaper than that for 20 somethings.  This means I would receive no tax credit even though I’m at 400% of the poverty level.

MAGI magic

The best and craziest news about this is that all of this is based on your MAGI, or your modified adjusted gross income.  In a taxation sense you don’t have much control over your gross income, and you pretty much always want it to be higher, it is very rare in our tax code for an additional dollar of income not to be worth additional money.  Your MAGI however, you have some control over, and since you have some control you can optimize it.  The main difference for ACA purposes is that the MAGI doesn’t include retirement contributions.   This is where the craziness begins.  If you’re self employed you can contribute up to 25% of your salary towards a SEP-IRA as the employer end of the contribution.  On the employee end you can then go ahead and contribute the regular $5,500 to a traditional IRA, and also $3,000 for a Health Savings Account (HSA).  This means that if you made $47,520 your MAGI could be as low as $29,516.  Using our Colorado example again that’d bring us from an annual credit of $0 to an annual credit of $360.  If I were instead 45 that annual credit would be $1,404!  This means that the older you are (and the higher your health insurance premiums are), the more value you’re going to see out of making retirement contributions as far as the ACA goes.

Bronze, Silver, why is my healthcare metallic?

My only assumption is that the author of the ACA must have been a huge D&D fan and wanted to name the different tiers of health insurance after Dragons.

Though why they decided to screw brass dragons out of getting their own healthcare tier.

Though why they decided to screw brass dragons out of getting their own healthcare tier…

The healthcare tiers are Bronze, Silver, Gold, and Platinum.  These tiers correspond to different amounts of “actuarial value”.  The actuarial value of a plan is the expected contribution of the health plan towards healthcare costs compared to the total healthcare cost.  For example, let suppose that the average person in a particular health care plan incurs $100 of doctor/hospital bills.  If the actuarial value of the plan is 60% that means that the insurer is, on average, covering $60 and the customer is, on average, covering $40.  This is supposed to give customers a quick way of comparing two different plans.  The theory is that two silver plans should be comparable and two gold plans should be comparable. The actuarial value of the different tiers are: Bronze – 60%, Silver – 70%, Gold – 80%, and Platinum – 90%. My generic advice is that folks that are generally healthy should aim for cheaper, on average, plans.  If you have a big health expense coming up, shell out for a more expensive plan (better yet carefully calculate these costs in advance).  You should note, that because the tax credit is based on a silver plan there is a relative advantage to getting a cheaper plan.  The government is just giving you a flat dollar value of tax credit.  If you’re getting $100 per month you might find that this pays for 50% of your bronze plan, but only 10% of a platinum plan.  In order to determine what sort of health plan is right for you, you might consider checking out our article on High Deductible Health Plans.

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