Steve LaFrance, Author at Blakely Financial

Planning Life’s Biggest Vacation: Employer-Sponsored Retirement Plans

Posted on July 15, 2020September 21, 2021 by Steve LaFrance

Presented by STEPHEN LAFRANCE, CFP®, MBA

Planning for life’s biggest vacation takes discipline and a little bit of work on the front end. Having conversations with your financial advisor to identify your goals and dreams for retirement now will get you on the path to the best vacation ever!

Did you know that many people do not participate in their employer’s retirement plan because they believe they do not make enough money or because they feel they lack the knowledge about why to participate? One of the best ways to save for retirement is to take advantage of your employer’s retirement plan.

Employer-sponsored qualified retirement plans such as 401(k)s are some of the most powerful retirement savings tools available. If your employer offers such a plan and you are not participating in it, you should be. Once you are participating in a plan, try to take full advantage of it.

Understand your employer-sponsored plan

Before you can take advantage of your employer’s plan, you need to understand how these plans work. Read everything you can about the plan and talk to your employer’s benefits officer. You can also talk to a financial planner, a tax advisor, and other professionals. Recognize the key features that many employer-sponsored plans share:

Your employer automatically deducts your contributions from your paycheck. You may never even miss the money — out of sight, out of mind.
You decide what portion of your salary to contribute, up to the legal limit. And you can usually change your contribution amount on certain dates during the year or as needed.
With 401(k), 403(b), 457(b), SARSEPs, and SIMPLE plans, you contribute to the plan on a pre-tax basis. Your contributions come off the top of your salary before your employer withholds income taxes.
Your 401(k), 403(b), or 457(b) plan may let you make after-tax Roth contributions — there’s no up-front tax benefit but qualified distributions are entirely tax free.
Your employer may match all or part of your contribution up to a certain level. You typically become vested in these employer dollars through years of service with the company.
Your funds grow tax deferred in the plan. You don’t pay taxes on investment earnings until you withdraw your money from the plan.
You’ll pay income taxes (and possibly an early withdrawal penalty) if you withdraw your money from the plan.
You may be able to borrow a portion of your vested balance (up to $50,000) at a reasonable interest rate.
Your creditors cannot reach your plan funds to satisfy your debts.

Contribute as much as possible

The more you can save for retirement, the better chance you have of retiring comfortably. If you can, max out your contribution up to the legal limit (or plan limits, if lower). If you need to free up money to do that, try to cut certain expenses.

Why put your retirement dollars in your employer’s plan instead of somewhere else? One reason is that your pre-tax contributions to your employer’s plan lower your taxable income for the year. This means you save money in taxes when you contribute to the plan — a big advantage if you’re in a high tax bracket. For example, if you earn $100,000 a year and contribute $10,000 to a 401(k) plan, you’ll pay income taxes on $90,000 instead of $100,000. (Roth contributions don’t lower your current taxable income but qualified distributions of your contributions and earnings — that is, distributions made after you satisfy a five-year holding period and reach age 59½, become disabled, or die — are tax free.)

Another reason is the power of tax-deferred growth. Your investment earnings compound year after year and aren’t taxable as long as they remain in the plan. Over the long term, this gives you the opportunity to build an impressive sum in your employer’s plan. You should end up with a much larger balance than somebody who invests the same amount in taxable investments at the same rate of return.

For example, say you participate in your employer’s tax-deferred plan (Account A). You also have a taxable investment account (Account B). Each account earns 6% per year. You’re in the 24% tax bracket and contribute $5,000 to each account at the end of every year. After 40 years, the money placed in a taxable account would be worth $567,680. During the same period, the tax-deferred account would grow to $820,238. Even after taxes have been deducted from the tax-deferred account, the investor would still receive $623,381. (Note: This example is for illustrative purposes only and does not represent a specific investment.)

Capture the full employer match

If you can’t max out your 401(k) or other plan, you should at least try to contribute up to the limit your employer will match. Employer contributions are basically free money once you are vested in them (check with your employer to find out when vesting happens). By capturing the full benefit of your employer’s match, you will be surprised how much faster your balance grows. If you do not take advantage of your employer’s generosity, you could be passing up a significant return on your money.

For example, you earn $30,000 a year and work for an employer that has a matching 401(k) plan. The match is 50 cents on the dollar up to 6% of your salary. Each year, you contribute 6% of your salary ($1,800) to the plan and receive a matching contribution of $900 from your employer.

Evaluate your investment choices carefully

Most employer-sponsored plans give you a selection of mutual funds or other investments to choose from. Make your choices carefully. The right investment mix for your employer’s plan could be one of your keys to a comfortable retirement. That’s because over the long term, varying rates of return can make a big difference in the size of your balance.

Note: Before investing in a mutual fund, carefully consider the investment objectives, risks, charges, and expenses of the fund. This information can be found in the prospectus, which can be obtained from the fund. Read it carefully before investing.

Research the investments available to you. How have they performed over the long term? How much risk will they expose you to? Which ones are best suited for long-term goals like retirement? You may also want to get advice from a financial professional (either your own, or one provided through your plan). He or she can help you pick the right investments based on your personal goals, your attitude toward risk, how long you have until retirement, and other factors. Your financial professional can also help you coordinate your plan investments with your overall investment portfolio.

Know your options when you leave your employer

When you leave your job, your vested balance in your former employer’s retirement plan is yours to keep. You have several options at that point, including:

Taking a lump-sum distribution. Before choosing this option, consider that you’ll pay income taxes and possibly a penalty on the amount you withdraw. Plus, you’re giving up the continued potential of tax-deferred growth.
Leaving your funds in the old plan, growing tax deferred. (Your old plan may not permit this if your balance is less than $5,000, or if you’ve reached the plan’s normal retirement age — typically age 65.) This may be a good idea if you’re happy with the plan’s investments or you need time to decide what to do with your money.
Rolling your funds over to an IRA or a new employer’s plan (if the plan accepts rollovers). This may also be an appropriate move because there will be no income taxes or penalties if you do the rollover properly (your old plan will withhold 20% for income taxes if you receive the funds before rolling them over, and you’ll need to make up this amount out of pocket when investing in the new plan or IRA). Plus, your funds continue to potentially benefit from tax-deferred growth.

By taking advantage of your employer’s retirement plan, in conjunction with regular review meetings with your financial advisor, planning for the biggest vacation of your life will be easier than ever. And the earlier you can start, the better off you will be. Make sure to take the time now to put those plans in place. You will be so glad you did!

Engage with the entire Blakely Financial team at WWW.BLAKELYFINANCIAL.COM to see what other financial tips we can provide towards your financial well-being.

STEPHEN LAFRANCE, CFP®,MBA is a financial advisor with BLAKELY FINANCIAL, INC. located at 1022 Hutton Ln., Suite 109, High Point, NC 27262. 336-885-2530.

Blakely Financial, Inc. is an independent financial planning and investment management firm that provides clarity, insight, and guidance to help our clients attain their financial goals.

Securities and advisory services offered through Commonwealth Financial Network, Member FINRA/SIPC, a Registered Investment Adviser.

Prepared by Broadridge Advisor Solutions

A Closer Look At Saving For Education Using A 529 Plan

Posted on May 29, 2020April 11, 2022 by Steve LaFrance

Presented by STEPHEN LAFRANCE, CFP®, MBA

Since it is National 529 Day, we thought it would be appropriate to take a closer look at saving for education through a 529 plan. We will also compare a few other options that may make sense for you, depending on your specific situation.

What is a 529 Plan?

A 529 plan is generally a qualified tuition program created by the government in the 90s to incentivize saving for educational goals. The “529” comes from the location of the rules governing the program in section 529 of the Internal Revenue Code.

There are two types of 529 plans: prepaid tuition and savings plans. The latter is the most popular as the prepaid plans allow you to prepay tuition at today’s prices, typically reserved for participating in-state public universities. On the other hand, savings plans are much less restrictive and more popular than prepaid plans.

While the IRS governs the plans, individual states create them to allow for states to tailor them to their needs, specific to their university system. While most states offer at least one plan, there are multiple plans in some states. However, you can use any 529 plan, regardless of its originating state. Check with your state’s plan for potential tax deductions on contributions or tax-free earnings on qualified withdrawals. If you don’t have a specific state tax benefit, there could be a better option with another state’s plan.

Investment Options

Every 529 plan will have a different lineup of investment options that you can use with varying costs and features. You’ll want to make sure you choose a plan with investment options that match your risk tolerance and goals. Most 529 plans offer age-based investment options that adjust as your child gets older and closer to using funds, which is helpful as you want to make sure the aggressiveness of the portfolio matches the time horizon of the goal. These model portfolios are ideal, given a limit of two changes to investment elections per year in 529 plans.

Fees & Expenses

The difference in fees and expenses can drastically separate some plans. Some may offer only one option, while others may offer several share classes of investments. You’ll want to consult with your financial advisor to determine which is best based on your goals. Depending on the plan, advisors are compensated differently, so ask your advisor how they are paid. Some state plans are not available for use by financial advisors. Ask your financial advisor about the differences between advisor-sold plans and non-advisor-sold plans. You may prefer to pay a commission to your advisor through the investment options. Alternatively, you may choose to find a fee-only plan. Your advisor charges you a flat fee either one time or annually to advise you on investment options and/or assist with processing contributions/withdrawals. If you are confident that you can make those decisions and want to handle the operational portion, then a non-advisor sold plan might be best for you.

Whether you choose a plan through an advisor or not, choosing a reputable financial institution with good customer service is essential. It’s also important to consider ease of use. Is their website easy to navigate? Can you process contributions and withdrawals online? Can you make address changes, automatic investment changes, or add a bank account online? Do you want to do all those things yourself or have an advisor do it? As a reminder, whether you end up using one or not, it’s essential to consult with a financial advisor when making these decisions.

Qualified Withdrawals

One of the most important aspects to understand about 529s is what expenses are qualified, meaning you don’t pay taxes on the growth of the funds when you make a withdrawal. That is the primary driver for why people choose to use a 529 versus other savings vehicles. Still, it can add some complexity as you have to keep track of expenses and make sure you match withdrawals with eligible costs.

These qualified expenses have always included the total cost of tuition, fees, books, equipment, and room and board of accredited colleges or universities in the United States. More recently, the plans were expanded to allow $10,000 per year for K-12 expenses and a $10,000 lifetime limit per beneficiary for student loan repayment. You can also move funds to pay off up to $10,000 of student loans for the beneficiary’s siblings. In addition, there is an existing plan called a Coverdell ESA designed to save for K-12 expenses, but these are obsolete with the expansion of 529s to include K-12 costs.

Contributions

One of the benefits of 529s is that anyone can contribute to them, whether the parents, grandparents, friends or even the beneficiary themselves. This flexibility means you don’t have to open separate accounts for each contributor, and all the funds can be held for each beneficiary. However, siblings do need to have individual accounts. You can always move funds for a 529 to the account of a family member without penalty. We won’t delve into specific rules here, but these transfers can be to parents, in-laws, and even first cousins.

Grandparents & FAFSA

If the students plan to fill out the FAFSA (Free Application for Federal Student Aid), it would be best to open 529s in the grandparents’ name to avoid including these assets in the FAFSA. Students’ and parents’ assets are included, but grandparents are not. This is a popular planning strategy for wealthy grandparents trying to efficiently draw down their estate with the least taxes or penalties. There are other factors to consider with that strategy, so it is best to consult with a financial advisor to help determine the best course of action for your specific situation. Also, keep in mind the estate and tax ramifications if the grandparents pass away still owning the assets. If keeping the assets out of the parents’ name seems attractive, consult with a financial advisor or estate planning attorney to understand what else might need to be done.

Should you use a 529?

After walking through the specifics of what a 529 is, and the existing rules and limitations, many ask if all the headache is worth it? The most significant benefit you can get from a 529 is the compounding time value of money. Given that the goal starts at birth, usually as an 18-22 year funding goal, that time horizon begins shrinking immediately. As that happens, the ability for the funds to grow substantially starts shrinking as well. Even if you start at birth, a typical age-based portfolio will be predominantly fixed income ten years before the end of the spending goal for a child that begins college on time and earns a four-year degree.

If you start saving at birth, the tax savings and the time value of money are compelling reasons to use a 529 if you are confident your child will go to a four-year university. However, if that isn’t a certainty in your mind, or you are getting a late start to saving, there might be some other alternatives that I alluded to earlier.

Custodial Account Option (UTMA \ UGMA)

If you trust your child or think you will be able to trust them when they reach adulthood, a custodial account may be a great option. The funds in the account are deemed irrevocable gifts to the child but can be used for their benefit before they can take control at 18 or 21 (depending on the state), including to pay for college. Earnings are taxed at your child’s tax rate, subject to kiddie tax rules, but for the most part, the taxes are virtually zero throughout their time as a minor if appropriately managed. If you are seriously considering this option, it would be best to consult your tax advisor to see if the kiddie tax rules would apply, etc.

Roth IRA’s?

While technically not an account typically used for college savings, if you can contribute to a Roth IRA, you might want to consider this option. You can always take out your contributions to a Roth IRA free of taxes. While they would be subject to income tax, the earnings are spared the tax penalty if used for education. It may not be the best option, but if you want to use a few different options for funding the goal, you should consider this.

Last resort

If you aren’t sure your child will go to college, aren’t willing to trust them with your hard-earned money when they reach adulthood, and aren’t eligible to contribute to a Roth IRA, maybe a simple savings or taxable investment account would be best. The one point I want to get across is that no matter what type of account you choose, the most critical decision you can make is to save for your goals.

As I have said many times, should you have questions about how this applies to you, please consult with the appropriate advisor, whether related to taxes, investments, or legal concerns.

Engage with the Blakely Financial team at WWW.BLAKELYFINANCIAL.COM to see what other financial tips we can provide for your financial well-being.

STEPHEN LAFRANCE, CFP®, MBA is a financial advisor with BLAKELY FINANCIAL, INC., located at 1022 Hutton Ln., Suite 109, High Point, NC 27262, and can be reached at 336-885-2530.