Wealth Education for the Next Generation – Early Planning

Many people put together their first plan because of a life event. They got married, had kids or received an inheritance. No matter what your net worth or financial situation, it’s important to have a plan in place. Understanding the fundamentals of the plan will help you prepare for the planning process

An estate plan has several elements. A first estate plan typically consists of a will, healthcare proxy, and a durable power of attorney. It will also likely contain a revocable trust as a companion to the will.

1. Will

• Your will controls only the assets you own in your individual name. It does not control jointly held property or an asset subject to a beneficiary designation like a life insurance policy or a retirement account. Joint property passes immediately to the surviving joint owner. A life insurance policy and a retirement account pass to the beneficiaries you name.
• If you have young children, you can also appoint a guardian for them in your will should you die while they still are minors.
• Finally, you appoint your executor (also called personal representative) in your will. This is the person responsible for locating your assets and securing them, following the legal process for estates at the Probate Court, paying off your final debts and expenses, filing tax returns for your estate, and ultimately transferring your assets according to the instructions you leave in your will.

2. Revocable Trust

• For most people, it makes sense to have a will that transfers your assets into a revocable trust at your death. You can amend or revoke a revocable trust at any time during your life, for any reason. The revocable trust is a separate document, and is not part of your will.
• Unlike a will, a trust need not be filed at the Probate Court and is not a public document. This means that the terms of your trust are kept private, while the terms of your will are available for anyone to view. This is one reason that many people have very simple wills that leave all of their assets to their revocable trust. The trust then contains the true substantive terms of your estate plan.
• Revocable trusts are very flexible and are easier to revise than wills. This is important because your range of options for the circumstances in which you want children or other beneficiaries to receive assets is very broad and you may want to make multiple changes over the years.
• A trust contained within a will is subject to the ongoing supervision of the Probate Court. This can be cumbersome and raise administrative expenses. Having your trust as a separate document removes the Probate Court from the process.
• A trust needs a trustee, someone to be responsible for carrying out the instructions you choose for the trust, overseeing the investment of trust assets, making distributions to your beneficiaries, filing tax returns for the trust, and generally being responsible for all matters involving the trust.
• Often a person will serve as a trustee of their own revocable trust, and sometimes if married with their spouse as a co-trustee, or as someone to begin serving as trustee after you have died. If you have children, you should also consider appointing a successor trustee to begin serving after you and your spouse have passed away.
• Trusts can also be designed to achieve tax savings for your family.

3. Health Care Proxy

• In a health care proxy, you appoint a health care agent, the person who will make your health care decisions for you if you are not able to do so yourself.
• A health care proxy can also contain a “living will,” which specifies the conditions under which you do not wish to be kept alive artificially.
• Only one health care agent can serve at a time, but you can provide for an alternate agent should your first not be able to serve, or a list of agents to serve successively.

4. Durable Power of Attorney

• A durable power of attorney is a grant of powers to a named person referred to as your “attorney-in-fact.”
• The powers can be as broad or limited as you like, including granting a power to take one specific act for you (e.g. sign a tax return) or doing everything you could do if you were acting yourself.
• The grant of power is “durable” because it is still effective if you become incapacitated.
• Although some power of attorney forms are not effective until or unless you become incapacitated (called “springing” powers of attorney), those can be difficult to use because the bank or other institution may insist on proof that you are incapacitated before honoring it, and then prove it again and again over time. For that reason, we tend to recommend using a power of attorney that is effective immediately upon signing the document.

Most first time home buyers these days are extremely tech savvy and more than capable of using the various websites and online tools to view, compare and otherwise analyze towns and properties. They may be less familiar with financing options and of course, as a first time buyer have yet to experience the roller coaster of emotions that purchasing a home can often involve. The following tips should help smooth the process somewhat:

1. Save

Plan on having enough cash to cover 20% of the purchase price. Although banks will still lend to you if you put down less and have good credit, you will have to purchase private mortgage insurance should you do so, and that can be a pricey additional monthly cost adding up to a lot over time. Having the discipline to save for a 20% down payment will also prevent you from overreaching and taking on too much debt when buying your house.

2. Stay in your range

It’s very easy to be lured into shopping for the much nicer homes that become available should you decrease your down payment to 10% or less, but there are many people from the financial crisis who did just that and wish they hadn’t. They either went bankrupt, defaulted on their mortgage, or are not able to sell their homes because the homes’ values are below the amount of mortgage they took out when buying it.

3. Set realistic expectations

Plan on spending no more than 25%, or possibly 30%, of your monthly net income on home ownership expenses. This includes not only mortgage payments, but also property tax, homeowner’s insurance, any association or other fees, etc.

4. Shop around for mortgage rates and get pre-approved

This process can be completed online, or in person at your bank. Focus on a simple, 30-year fixed rate mortgage. Avoid any new mortgage “products,” as well as variable rate mortgages. With the latter, your monthly payments may escalate quickly should interest rates rise.

5. Get a buyer’s broker

Ask friends and family for referrals to reputable real estate brokers and be sure that the broker will serve as a buyer’s broker. Some realtors may serve as both the seller’s and buyer’s broker. This enables them to collect more in commission, but it can also affect the advice they give you. But as a buyer’s broker, they can only represent your interest and will be a more effective advocate for you.

6. Negotiate the broker’s fee

Brokers get paid a percentage of the sale price. Typically they like to charge five percent. If there is both a buyer’s broker and seller’s broker involved in the transaction, they will split the commission between them. Just by asking the broker for a small concession (such as taking 2% instead of 2.5%), you should be able to save hundreds, possibly thousands of dollars.

7. Do your homework

Narrow down your purchase by researching schools, amenities, commuting options, or whatever else may be important to you. Get to know your target areas well (e.g., which parts of town or neighborhoods suit you best) so that you can hit the ground running. A good buyer’s broker can be very helpful here if you are moving to a new area.

8. Don’t fall in love

Be prepared to lose bids and for houses to be snatched out from under you before you get a chance to bid. Steel yourself for the emotional rollercoaster. This will be the largest financial transaction you’ve ever made and it’s all too easy to let emotions lead you to making bad decisions.

The widespread availability of tax preparation web sites and software has caused many to put off using a professional, but at a certain point it still makes sense to hire a pro to help you with your tax return. We even know partners in large CPA and tax firms that use outside advisors for assistance — often their reason is that they lack time to take care of the important responsibility. What follows are reasons for considering outside help and tips for choosing a tax planner/preparer.

If you are single, receive a form W-2 from your employer every year, and perhaps have retirement and savings accounts, the web sites and software will likely be your most cost effective option. However if you get married, buy a home, or have a child, then you are well on your way to needing a professional. And if you start your own business, have foreign investments, own any part of a pass-through entity such as an LLC or partnership, or are a trust beneficiary, you should at least consult with a professional to assess your situation. The tax code is vast, with both pitfalls and opportunities for savings, and a professional is often still your best bet for avoiding the former while realizing the latter.

When choosing a tax preparer, you should avoid someone who just takes your numbers and inputs them into your return. The key is finding an individual who specializes in taxation and keeps up with tax trends and changes in tax law. How can you tell just from shopping around? Here are a few hints:

1. They ask questions

A good tax preparer starts by asking a lot of questions and digs for information like a blood hound follows a scent. They want to get to the bottom of your situation rather than just asking a few things and then concluding they know everything about you that they need to know. You want someone who takes the time to understand what you do and how you do it, and then searches for every legitimate deduction.

2. They always take the time to explain

They will take the time to explain things, even in a preliminary conversation about hiring them. They want to educate you not only on what's allowable as a deduction but also on how to structure your activities to maximize your tax savings.

3. They are curious

They will be naturally curious and passionate about their job. You can easily tell who is enthusiastic about their profession and who is simply going through
the motions just by their tone, body language and general demeanor. Choose the former.

4. They focus on the future, too

They will focus not only on last year’s information, but also on how you can reduce your taxes for the year ahead.

5. Meetings in person are best

While their web sites are helpful in confirming a professional’s qualifications and credibility, you won’t get much reliable information beyond that. Meetings in person are best, followed by video or phone conversations. Reputation web sites such as Yelp are often not helpful since they can contain both “revenge” posts, posts from competitors, or fake top ratings from plants or even the professionals themselves. Referrals from friends and family are great sources of reliable information, but be sure to ask why the person likes their tax preparer and look for any of the factors mentioned above.

The best thing about a financial plan is the confidence and control it delivers — today and tomorrow. Many people feel there is no need to do financial planning until you have enough wealth with which to plan. But the truth is actually very different: it’s never too early to start planning for your financial future. The earlier you start, the better you’ll feel and the more wealth you will build.

Even young children can learn the concepts of saving and spending wisely, which can help create a habit of financial discipline. With a little help from their parents, children with after school or summer jobs can take the next step of investing. College aged men and women have an “opportunity” to learn all about debt and how the length of the loan, interest rates, and repayment levels can dramatically affect its overall cost. If they learn that lesson well, they will be in great shape when it comes time to make decisions about buying their first home.

A financial plan need not be overly complex. An entire financial planning industry has developed with many highly sophisticated tools, but you can be your own financial planner using just a spreadsheet or even paper and pen. There are several things you need to do:

1. Develop your budget

You need to get a sense of how much your income exceeds or falls below your monthly expenses. The easiest way to track your expenses is to do your bill paying using online banking and assigning each vendor (cable, phone, rent, etc.) to a category. Virtually every bank has this feature. It’s a little extra work to set up but once it’s done you will have automatic categorization. Your credit card will automatically categorize your expenses and you should be able to access that report on line. You can take similar steps if you use a mobile payment app such as Level Up. Finally, there are several straight forward software products like Quicken and Quick Books can help you gather all of this information into one place, or you can simply input it into your own spreadsheet.

2. Be disciplined

Set aside 15 to 30 minutes per week to update and refine your budget. In all events, do not let more than a month pass without doing this work. As the size of the task grows, so too will the chances that you abandon the project, so keep at it.

3. Stop living in denial

The most common financial mistake young people make is to live check to check or live beyond their means by running up credit card and other debt. Some people are pretty good about creating and maintaining a budget but they cheat by fudging the numbers, especially when it comes to the money they spend on entertainment, travel and buying themselves toys. If that sounds like you, take a look at the hard truth of your budget. Compare your actual expenses to your income and see where you come out.

4. Make a plan

If your income does not exceed your expenses by at least 10%, you need to reduce your spending. If you carry credit card balances from month to month, then you need to reduce your spending and pay off the balance(s) as quickly as possible. The exorbitant rates that banks charge make it very hard to pay off large balances, so you need to be very aggressive in paying them down. Set a goal of paying it off in six months or a year, and stick to that. Another top priority should be to have a minimum of six months’ worth of expenses in a savings account to protect against losing your job or other hardship. You may be able to reduce expenses by consolidating or refinancing debt, but beware of companies that charge for that service; you can easily do it on your own. But usually the biggest area for savings is in money spent on going out, travelling, and even little things like buying lunch instead of bringing it and buying coffee instead of making it at home or the office. Before you buy yourself that new toy, be sure that your budget is up to date and see how well you are progressing toward your goal.

5. Invest for retirement

You have probably heard phrases such as the “time value of money” and may well understand that and similar concepts, but sometimes running the numbers yourself is the best way for these important lessons to really hit home. Starting your IRA or 401k in your 20s instead of your 30s or 40s makes a gigantic difference in how much you will have at retirement. So make sure you set this up to happen automatically, either through work or using your online bank account to send money every month to your retirement account. And make sure you are taking advantage of any company match for your retirement savings, too.

6. Working on your own

You don’t need to hire a professional to benefit from financial planning. You can do the core work yourself. If you are disciplined over time, you will see a nice return on investment on your not only your assets, but the on the time and effort you put into the planning process.