Economy

The Market Correction is the Time to Buy

posted by Charley Mills - 2.13.18

The U.S. stock market has not had a 10 percent correction since November 2015. Normally, we have this type of moderate correction once every year, and a 15 percent correction in the stock market every two years on average. A bear market is defined as a 20 percent correction of the stock market, and statistically, that happens once every three years.

The reality is, we haven’t had a 20 percent correction since 2008. We are in one of the longest bull market runs at 106 months of upward movement. The worst performance we saw last year was a short-term loss of 2.8 percent over a two-week period. Historically, 2 percent daily declines in the stock market are relatively common. Then on February 5, 2018, the Dow Jones Industrial Average plunged 4.6 percent, and the S&P 500 Index dropped 4.1 percent.

Depending on your stage in life, this dip should not be a cause for panic. A stock market decline isn’t necessarily a bad thing. In fact, it creates a prime opportunity to buy. We are looking at 2017 fourth-quarter earnings for the S&P 500 companies to come in up 15 percent. Inflation is below 2 percent with unemployment at 4.1 percent. How much better can it get?

If you won’t need the money out of your portfolio in the next 10 years, there is no better place to invest than in stocks or real estate

This is where Henssler Financial’s Ten Year Rule becomes so important. Our philosophy states that if you’re going to need the money in the next 10 years, don’t put it in stocks. Murphy’s Law has shown time and again that when you need the money, the market will be down. If you know you will need the money, whether it is for living expenses, a college education, or a home purchase, your priority is to protect the principal. We recommend high-quality fixed-income securities to cover your next 10 years of liquidity needs. We recommend the purchase of fixed-income securities, such as U.S. Treasury securities, CDs, or high-grade municipal bonds, that have maturity dates and amounts that correspond to your liquidity needs; however, in our low-interest-rate environment, we recommend keeping your maturities short. When the short-term bonds come due, hopefully, you should be able to reinvest at a higher interest rate. 

With 10 years of uninterrupted income provided by the fixed-income portion of your portfolio, what do you care if the market dips 4 percent today? Our clients, who are living off their investments, understand that they are not pressured to sell investments at low levels; rather, they have time on their side and can wait for the market to recover.

If you won’t need the money out of your portfolio in the next 10 years, there is no better place to invest than in stocks or real estate. The difference between the two is that stocks are completely liquid. While you can’t sell your home, an investment property, or a plot of land quickly, you very likely can sell your shares of Coca-Cola today.

We believe that time can take care of you just as much as picking the right investments will. The reason we employ our Ten Year Rule is fairly simple. In history, there have been 83 rolling periods of 10 years since 1925. Within those 83 periods, there have only been two 10-year periods of time where, if you had thrown all your money into the stock market at the beginning of the period and taken it out at the end, you would have lost money. Put differently, history shows large company stocks have experienced gains 98% of the time when you have a 10-year investment horizon. While past performance is no guarantee of future results, our Ten Year Rule is what gives you the opportunity to wait out a depressed market.

The stock market is the one place in America where people want to pay full price. People want to sell when it is down and buy when it is high. This is counterintuitive. The people who end up making the biggest financial mistakes are the ones who stray from the plan they’ve put in place due to fear. Remember: Stock prices can and will change, but if you have the flexibility to wait, the value of your shares will likely return.

My advice will always be: When there are disruptions in the stock market, don’t watch it. While the market matters, it doesn’t matter today. If you don’t need the money within the 10-year allotted time horizon, continue with your plan. We essentially do nothing in poor markets; we are not forced into selling because we have built in time buffer and can afford to wait out the downturn. Our plan is the Ten Year Rule, and especially during tumultuous times, we stick to it. As active investors, market corrections offer opportunities to buy because you may be able to pick up good companies at attractive prices.

By following our Ten Year Rule, your asset allocation should be specifically geared toward your unique needs. We believe allocating your portfolio holdings between stocks and bonds according to known spending needs is a better method than simply plugging your age into a formula.

William G. Lako, Jr., CFP®, is a principal at Henssler Financial, a financial advisory and wealth management firm that has been delivering comprehensive financial solutions to its individual, corporate, and institutional clients for 30 years. Mr. Lako is a Certified Financial Planner™ professional.

MAGA: Tax Changes That Affect the Kiddos

posted by Charley Mills - 2.06.18

While most individuals are taxed on their earned income at their own individual tax rates, unearned income is a very different beast—especially when it comes to a child’s unearned income. The Tax Cuts and Jobs Act made some significant changes in the way a child’s income is taxed.

Taxpayers often receive unearned income in the form of dividends or interest on investments, royalties, rents, and inheritances. In general, the IRS does not want parents to shift income-producing assets to a child under the age of 19 (or a full-time student under the age of 24), who is in a lower tax bracket. Enter the Kiddie Tax, where until Dec. 31, 2017, part of a child’s investment income was subject to tax at the parents’ top marginal income tax rate.

With the new tax laws, the first $2,100 is income tax-free because of the standard deduction

When a child, who can be claimed as a dependent by another taxpayer, only has unearned income, his or her standard deduction is $1,050. However, when a child also has earned income, the blended standard deduction becomes the greater of $1,050 or earned income plus $350, not to exceed the full standard deduction for an individual.

With the Tax Cuts and Jobs Act, a child’s unearned income in excess of $2,100 will be taxed at the rates that apply to trusts and estates—the parents’ top marginal tax rate won’t matter anymore. The first $2,550 is taxed at 10 percent, then investment earnings between $2,550 and $9,150 are taxed at 24 percent. The third bracket is from $9,150 to $12,500 and has a marginal rate of 35 percent. Anything above $12,500 will be taxed at 37 percent.

Now to put this in perspective, let’s say you have a custodial account for your child, holding McDonald’s stock, which pays about a 2.27 percent dividend yield. For your child’s unearned income to be taxed at 37%, the account would need to be more than $550,000! At McDonald’s current price, that’s well over 3,000 shares. For wealthy families, this change isn’t going to have a big impact. Chances are if your dependent child has more than half a million in invested assets it’s quite possible you too are in the 35 percent or 37 percent tax brackets, and you’re accustomed to having your child’s income taxed at your top rate.

Confused by the new tax laws?  You’re not alone.  Learn how Henssler can help

The new Kiddie Tax rates can affect middle-income families. Let’s say you and your spouse have taxable income of $135,000. Your child’s grandfather passes away and your child inherits a stock portfolio that generates around $5,500 in dividends a year. Under the 2017 rules, the first $1,050 of this was income tax-free. The next $1,050 was taxed at the child’s tax rate of 10 percent. That left $3,400 that was taxed at the parents’ top marginal rate of 25% for a total tax of $955 (($1,050 x 10%) + ($3,400 x 25%)).

With the new tax laws, the first $2,100 is income tax free because of the standard deduction. The next $2,550 will be taxed at 10 percent and the remaining $850 will be taxed at 24 percent for a total tax of $681 (($2,550 x 10%) + ($1,900 x 24%)).

In most cases, the Tax Cuts and Jobs Act’s Kiddie Tax rules will result in lower taxes; however, lower income parents who have children with substantial unearned income could see their child paying a higher tax rate because of the compressed trust and estate brackets.

William G. Lako, Jr., CFP®, is a principal at Henssler Financial, a financial advisory and wealth management firm that has been delivering comprehensive financial solutions to its individual, corporate, and institutional clients for 30 years. Mr. Lako is a Certified Financial Planner™ professional.

EYE ON YOUR MONEY: Not All Business Tax Cuts Are Simple

posted by Charley Mills - 12.29.17

One of the key promises during President Trump’s campaign was to lower taxes for businesses from 35 percent to 15 percent and eliminate the corporate alternative minimum tax. The final version of the tax bill did eliminate the corporate alternative minimum tax, and lowered the tax for corporations to 21 percent in 2018. Furthermore, businesses organized as “pass-throughs” could get taxed at a less than 30 percent rate.

Taxes are never simple – despite the promise to simplify the tax code

Pass-through businesses are your LLCs, partnerships, S corporation, and sole proprietorships, in which the entity is not subject to income tax. Owners are taxed individually on the income, calculating tax on their share of the profits and losses. Because these business owners were at the mercy of their individual tax rates, some business owners could be taxed as much as 39.6 percent, not including the phase out of itemized deductions for high income earners.

In the finalized bill, pass-through businesses receive a 20 percent deduction of their qualified business income. Because taxes are never simple—despite the promise to simplify the tax code—the deduction is actually the lesser of: 20 percent of the taxpayer’s “qualified business income” or the greater of: 50 percent of the W-2 wages with respect to the business, or 25 percent of the W-2 wages with respect to the business plus 2.5 percent of the unadjusted basis of all qualified property.

OK, you want this in English. Qualified business income is income less ordinary deductions that you earn from a pass-through business, such as an LLC, sole-proprietorship, S corporation, or partnership. This does not include wages you earn as an employee. Let’s say you have an LLC (not a “specified service” trade or business), and your share of the qualified business income is $500,000. Multiply that by 20 percent and you get a deduction of $100,000. Woo hoo! Not so fast. There are limitations on the calculation that were added to prevent abuse of the rules.
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How does this work? Let’s look at the example of your LLC of which you only own 40 percent. The company produced $1.25 million in ordinary income. The company paid W-2 wages of $455,000 and holds $200,000 in property. Your allocation of the wages is $182,000 and 50 percent of that is $91,000. One more calculation: 25 percent of the W-2 wages with respect to the business plus 2.5 percent of the unadjusted basis of all qualified property—in our example, this comes to $47,500 ($45,500 + $2,000). You’ve got two numbers: $91,000 and $47,500. The greater of the two is $91,000. This is your income limitation. So, your deduction on your $500,000 qualified business income is now $91,000 versus the simple 20 percent. Mindboggling, isn’t it? And this example was highly simplified for your convenience.

Now, not every LLC is making $1.25 million. Lots of small businesses make around $125,000 a year. There is an exception for you! If your taxable income is less than $157,500 or $315,000 for married filing jointly, you should be able to ignore the W-2 income limitations.

To make things more complicated if you are part of a “specified service” trade or business you will be faced with a phase out.

Wait, what? Yes, “Any trade or business involving the performance of services in the fields of health, law, engineering, architecture, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage services, or any trade or business where the principal asset of such trade or business is the reputation or skill of one or more of its employees.” Will be deemed to be a “specified Service”.

This means if your income is above $207,500 for individuals and $415,000 for joint filers you will not be eligible for the deduction. Welcome to simpler taxes.

William G. Lako, Jr., CFP®, is a principal at Henssler Financial, a financial advisory and wealth management firm that has been delivering comprehensive financial solutions to its individual, corporate, and institutional clients for 30 years. Mr. Lako is a CERTIFIED FINANCIAL PLANNER™ professional.

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