Archive for October, 2009

Seeking the advice of a trusted physician is prudent when deciding where you should receive treatment for a medical condition. I am a financial planner and some might even consider me a writer, but I am absolutely not a physician. I mention this to remind my readers that this column is meant to start a conversation and is not advice about treatment.

Normally, as a financial planner, this topic would not be on my radar. However, I’ve found in my years of writing columns that some ideas come to me from all directions demanding to be written.

This one began with my son, Walker, coming down with what appeared to be a moderate asthma attack. His condition progressed with a fever and a chronic cough. After a visit to the pediatrician we discovered that his oxygen level was very low. Walker’s symptoms made him a good candidate for hospital admission.

We are fortunate that we have a long standing relationship with our pediatrician who is very familiar with our ability to stay on top of Walker’s condition. In addition, he is aware of my compromised immune system (a by product of my stem cell transplant in 2008) making the hospital a risky place for me to spend time. He allowed us to treat Walker at home. He clearly explained that any progression in his condition would require an ER visit. From there, we proceeded to treat Walker at home with great success.

My second hint that this was a column came as we sat around the house watching a ridiculous amount of TV while caring for Walker. During that time I caught the end of a show about cancer patients, living wills and the decision about in home care. The financial benefits were briefly mentioned, but the core of the issue had more to do with the comfort of being at home with loved ones at such a vulnerable time.

The benefits of in home care range from comfort to decreased exposure to new germs to dramatically lower medical bills for you and your insurance company. The hospitals benefit by not overextending their resources for patients who might be better served at home. Again, assuming that you and your physician agreed that in home treatment is a prudent option; there can be many benefits to you and your loved ones.

A common way to pay employees and encourage retention, is with an Incentive Stock Option. When a company provides an ISO, the common stock is offered to an employee at a particular price and time. The stock option allows the employee to decide when to purchase the stock and when to sell. An ISO must be exercisable within 10 years from the date it is offered and the employee’s price must not be less than the fair market value on the day it’s issued. The ISO offers an excellent tax opportunity for an employee in a high tax bracket. If it is carried out properly, the proceeds from the stock’s sale will be taxed as long-term capital gain. The stock is first valued on the date it is offered to the employee, or the grant date. On the grant date, the exercise price is determined; this is the employee’s set price for the stock. Once the employee decides to exercise his right to purchase stock, the employee will have an adjusted basis for future taxation. After two years from the grant date, and one year from the exercise date, the employee may sell the stock and receive long-term capital gain treatment. If the employee does not meet the holding requirements, a disqualifying disposition is used to determine the taxation. When the stock is sold at a loss, the employee will recognize the proceeds as ordinary income. A disqualifying disposition sold at a gain is taxed as a ordinary income and short-term capital gain. The ordinary income is the difference between the exercise price and the fair market value of the stock on the exercise date. Any gain over the ordinary income is taxed as short-term capital gain. The ordinary income is included on the W-2; however, payroll and federal income tax withholding do not apply. A cashless exercise option is available to employee’s that do not have the funds to purchase the ISO. When the employee decides to exercise his ISO, a third party lender will loan the money to purchase the stock at the exercise price. A cashless exercise requires the stock to be sold immediately. The lender is repaid and the employee recognizes ordinary income equal to the difference between the proceeds and the repayment.

Retirement issues have continually made the headlines this past year. One issue that is typically not as widely discussed is Net Unrealized Appreciation (NUA). NUA is used when an employee takes a lump-sum distribution from a retirement plan that is funded with employer stock, such as an ESOP. The distribution is split up between the employer’s stock basis and the appreciation at the date of distribution. The employer’s basis is taxed as ordinary income and the appreciation receives long-term capital gain treatment. Sounds easy enough; however, it is important to note that the lump-sum distribution does not require the employee to sell the stock. They may hold onto the securities and risk a decrease in value to the stock. If this is chosen, NUA is noted at the distribution date. If the stock is sold one year after the distribution, the entire appreciation will receive long-term capital gain treatment. If it is sold within one year of distribution, the final sales price is reduced by the employer’s adjusted basis and the total capital gain is determined. The NUA is then deducted from the total capital gain to separate the short-term capital gain portion. This is pretty confusing and is easier to understand when applied to an actual situation. A common option for employee’s is rolling over their retirement plan to an IRA once they leave employment. By doing this, the beneficial NUA treatment is lost and all distributions from an IRA are treated as ordinary income. In order to protect the NUA treatment, this should be considered carefully and with a professional.

Another quick update on earnings.
The executive summary: Less Bad.

So far, 191 companies in the S&P 500, representing 50% of its market value,have reported earnings. 81% of the companies reporting have booked earnings that have exceeded analysts’ “admittedly low” expectations, while 2/3 have exceeded sales expectations. Here are some specifics. All comparisons are versus the same quarter in 2008::

Sales: Down 10% in 3rd quarter. Sales in the 2nd quarter were down 19%. Less bad.
Earnings: Down 18% in 3rd quarter. 2nd quarter sales were down 25%. Less bad.

Here are some sectors that exceeded sales expectations:
Tech- 86% of companies reporting exceeded sales expectations.
Consumer Discretionary- 53%
Financials- 92%

Analyst expectations are starting to increase rapidly, and the question becomes, “What happens to the market when results no longer exceed expectations, but merely meet them.” Let me draw a sports analogy.I am a long suffering University of North Carolina football fan (when does basketball start?). Last year, after several consecutive losing seasons, the Tar heels were 8-4 and went to the Meineke Car Repair Bowl, or some other similarly silly-named bowl, and Coach Butch Davis was officially proclaimed DA MAN. Nobody expected anything from UNC football, and last year they exceeded our “admittedly low” expectations. But as a result of last year, expectations for this year were extremely high. After all, Coach Davis said this year’s recruiting class was the best he’s ever had (increased earnings expectations), including the championship year at University of Miami. The first several home games were sell outs (lots of demand), we whupped up on powerhouses The Citadel and East Carolina, and there were whispers of an ACC Championship, Top 10 ranking, a return to glory (high expectations). So, here we are at mid-season, with a 4-3 record, including a 16-3 home loss to the always formidable Virginia Cavaliers, and everyone is once again dog cussing UNC football and asking, “When does basketball start.” And there are empty seats at the home games and the boos have started. So while a 4-3 record is pretty good record historically for UNC, expectations were so high for this year that the record is actually disappointing.

Same thing could happen to the market. Stay disciplined, stick with your Investment Policy Statement, and if you have not rebalanced your portfolio this year, consider doing so. And continue focusing on managing risk and not chasing rewards.

Go Heels. Basketball starts November 6 with an exhibition games against Belmont Abbey. Are they monks?

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I have attached 2 pieces of info that I hope you find useful.

The PDF is the most recent Investor Sentiment poll taken by Ned Davis Research. The top chart is the S&P 500 while the lower is investor sentiment. Pick any peak in the S&P (or any low) and you will see a stunning correlation with sentiment, getting back to my contention that the “crowd” usually “feels” wrong at inflection points of the market.

The article below comes from MarketWatch.com. I did not include the entire article, but cut and pasted sentences that I thought relevant. Earnings have been above expectations, with much of the improvement coming from cost cutting, inventory rebuilding, currency conversion, and productivity gains, but what seems to be missing is DEMAND. I love the phrase “admittedly low expectations.” Analyst were reducing estimates hand over fist 7-8 months ago, and now they can’t raise them fast enough. I wish there was a sentiment poll for analysts! The really good news is this market just keeps going up and wealth is being rebuilt, but I still continue to believe there is a great deal of risk in the market and now is not the time to make a big bet that it will continue to go straight up. If you haven’t rebalanced your portfolio this year, now is a really good time to do so. We have rebalanced twice this year- once in mid March and again at the end of September. Accounts that began the year with an asset allocation of 60% equity/40% fixed income and rebalanced have outperformed the buy and hold 60/40 portfolio by almost 400 basis points year to date.

Below is the article with my bolds and underlines:

SAN FRANCISCO (MarketWatch) — Just a week into third-quarter earnings, initial results have far outpaced analysts’ admittedly low expectations, handing bulls a fistful of upbeat data while shoving the stock market back to highs not seen for a year. “The results so far have been unambiguously good,” said Russ Koesterich, head of investment strategies at Barclays Global Investors. “It shows the economy is bouncing back much stronger than expected.”

Much of the improvement stems from efforts to rebuild depleted inventories, a trend especially helpful to Alcoa and others in metals and basic-materials sectors. A weaker dollar is also benefiting many of these companies, bumping up the value of overseas sales when converted into U.S. coin.

Deutsche Bank’s Chadha warned that at some point, likely during the final three months of the year, analysts’ predictions eventually will catch up with the good news and bake it into their forecasts. In other words, the market runs the risk of becoming jaded.

“It usually takes, on average, six weeks for analysts to absorb positive data surprises. It’s now been seven months. This follows an unprecedented downside, and so far the recovery has surprised us because expectations have been so low. But at some point you’ve got to catch up. This can’t go on forever,” he cautioned.

There is a fantastic Frank Capra movie entitled You Can’t Take It With You. Lionel Barrymore plays the free spirited Grandfather, who owns a large block in Manhattan, and doesn’t believe in taxes or worrying about money. Hopefully this carefree Grandfather has taken the appropriate steps to ensure that the majority of his assets are well protected by a will, or the government may end up receiving a larger chunk than he intended. By properly protecting one’s assets with a will and other estate planning issues, the Grandfather could be even more carefree because he wouldn’t have to worry about the tribulations of state intestacy laws. In 2007, it was estimated that around 55% of adults do not have a will. Not included in this statistic is the large percentage of people that move and do not update their will to meet the new state laws. Regardless of the reason, one needs to consider the ramifications of dying without a will. One of the main purposes of having a will is ensuring that specific assets are bequeathed to certain people. Without a will, the state disposes property according to the law. In the state of Georgia, if one dies without a will the typical procedure includes:
-The spouse receives the entire estate if there are no children
If there are children the, the estate is divided in half; the mother would get one half, and the children would have to split the second half.
- If there is no spouse, the children will equally split the estate. If a child has already passed away, their children will receive the split interest.
-If there are no children, the parents of the deceased inherit the estate.
- If there are no parents, the grandparents or aunts and uncles receive the estate. However there is even an issue of paternal or maternal grandparents.
- If there are no surviving relatives, the estate goes to the state.
This is not fun to write, nor would it be fun to go to court to have this all figured out. It is important to look over particular state’s rules. In some states, the spouse’s share is divided equally among the children; if there are six children, the spouse would receive 1/7 of the estate. An estate attorney can ensure that the proper measures are taken to protect a family’s assets and guarantee it ends up in the desired hands.

When my Grandfather retired, he decided that he was going to occupy his time by making bluebird houses. Everyone in the family had at least four or five. My Grandfather’s bird houses were so amazing, he could have definitely started a very lucrative business. However, as a former accountant, I doubt he wanted to burden himself with even more tax stipulations. Unlike my Grandfather, many individuals use their favorite hobby as a way to make some extra money. If this is the case, the hobbyist may want to consider the different tax issues. The first issue to consider is the profit motive of the hobby. Having a profit motive would require the hobby to be reported as a trade or business. The best way to determine this is by looking over the IRS’s requirements:

Does the time and effort put into the activity indicate an intention to make a profit?
Do you depend on income from the activity?
If there are losses, are they due to circumstances beyond your control or did they occur in the start-up phase of the business?
Have you changed methods of operation to improve profitability?
Do you have the knowledge needed to carry on the activity as a successful business?
Have you made a profit in similar activities in the past?
Does the activity make a profit in some years?
Do you expect to make a profit in the future from the appreciation of assets used in the activity?

If the hobbyist answers yes to these requirements, the next item to consider is if the activity has generated a profit in three out of the last five years. The expenses generated from a trade or business are included as an above-the-line deduction. There are special stipulations for passive activities, but lets keep it simple for a Friday. The loss deduction is the main difference between the trade or business versus a hobby activity. A trade or business is able to claim a loss in a year; whereas, a hobby can only deduct losses up to generated income. The hobby expenses are classified into three tiers. As with all tax issues, it would be best to seek the guidance of a tax professional who will ensure the proper measures are taken when preparing the tax return.

There are certain things that I will always enjoy, and Seinfeld just happens be on the list. It’s probably my favorite pastime, during family gatherings, when my cousins and I exchange some of our favorite moments and end up laughing through the entire dinner. Well, the other day the “Comeback” episode was on (the one where George says “The jerkstore called…”) and a very relevant issue is considered. Krammer has just watched “The Other Side of Darkness” and he decides that he does not want to end up in comma as the woman in the movie. He seeks the help of the attorney and creates a living will with the help of Elaine. As entertaining as Seinfeld is, the issue of a living will can solve some very serious situations. I can vividly remember the Terri Schiavo case and the pain that tore her family apart. The debate focused around her husband who believed that Terri would not want to live in her condition and her opposing parents. A living will allows a person to apply their own beliefs to their future medical conditions. It is also recommended that individuals have a Durable Power of Attorney for Health Care. This is a legal document that authorizes a third person to make medical decisions regarding blood transfusions, organ donations and selection of medical staff. This power does not enable the third person to end life-sustaining treatment; however, it supersedes the need for a court appointed health care guardian. If one wants to establish a living will, an estate attorney is the one to see. And hopefully, one will choose an executor who is better equipped than Elaine Benes.

I grew up in an area with many military families- I would estimate that 2/3’s of my high school’s student population came from military families. It seemed that every month a new student would be added to one of our classes. As a child who never moved, I always wondered about the expenses that were related to moving. (Yes, I was a financial nerd in high school.) I am not exactly sure about that tax issues regarding military families; however, a family can typically deduct moving expenses on their tax return or receive a reimbursement from an employer. If employer’s reimburse moving expenses, it is typically not included in the employee’s gross income; these expenses cannot be deducted on the employee’s income tax return. Pretty simple issue; however, the requirements of a qualifying move need to be carefully considered. A qualifying move must be greater than 50 miles from the employee’s former home and it must relate to a job. The employee must be at the new location full-time for at least 39 weeks during the first year after moving, or 78 weeks during the first two years, while meeting the first time requirement. There are moving expenses that may be deducted: the cost of moving personal goods to the new location and traveling expenses during the move. Travel expenses are limited to the lodging, not food; any lodging that is incurred while sightseeing is not included. The expenses do not include any house hunting trips. Any non-deductible expenses reimbursed to the employee must be included in the gross income. In some cases, it may be more beneficial for the employee to deduct his own expenses on the tax return. Prior to a move, it would be wise to meet with a tax professional who can advise on the two choices and clarify the different “if’s” and “typical’s” throughout this blog.

This past Wednesday, the Chief Executive of Lazard, Bruce Wasserstein, passed away. Mr. Wasserstein was named 147th on Forbes Wealthiest Americans List and made over $20.4 million in 2008. His passing has also left his estate $188 million of restricted stock that has accumulated since 2005. Restricted stock is typically given to executives in order to increase retention. The stock is allocated to an employee but is restricted from being sold for a certain amount of time. Employee’s do not recognize the restricted stock as taxable income until they have access to the stock. Once the restrictions are lifted, the value of the stock becomes the employee’s adjusted basis. At this time, the company will claim a taxable expense for the value and the employee will have W2 income. Once the stock is eventually sold, the typical long-term capital gain rules apply. An employee may elect to include the value of the stock in their gross income once the property is initially transferred. Access to the stock is still restricted for a particular time; however, once the stock is accessible, the appreciation is not taxed until the stock is eventually sold. This is called an 83(b) election and should be considered carefully because of the risk of leaving employment. If the employee terminates employment before the stock has fully vested, the employee will not receive any taxable benefits from the stock. 83(b) elections must be made within 30 days after the stock is transferred and there are specific provisions that must be included in the document. It would be beneficial to seek the help of a professional when making these decisions.