Financial Answers "IN SIMPLE LANGUAGE"

Just when you think that congress is trying to do justice by the American people some congressional idiot for some unknown underlying reason wants to stick it to you and me once again.

This time Senator Max Baucus, D-Montana has come up with his own reasons why he wants to eliminate an important part of the recent legislation called the “American Jobs and Closing Tax Loopholes Act or H.R. 4213.  By the way if you go to YouTube and look up Senator Baucus there is a video of him speaking on the Senate floor where he appears to be “drunk”.  I watched it and something is definitely strange about his speaking.  You be the judge.

So what am I talking about?  Let’s take a look at some of the legislation flying around congress lately.

401(k) Fair Disclosure and Pension Security Act

Last year, 2009, U. S. Representative George Miller, D-CA authored a piece of legislation called the 401(k) Fair Disclosure and Pension Security Act.  One of the key provisions of this act was the full and fair disclosure of all fees being charged to you in your 401(k) plan at work.  Here is part of what the act included:

• Require 401(k) plans to disclose fees in one dollar figure taken from participants accounts in a worker’s quarterly statement;
• Require 401(k) service providers and plan administrators to disclose fees charged on 401(k) plans broken down into four categories: administrative fees, investment management fees, transaction fees, and other fees

There are approximately 50 million Americans who have 401(k) plans today.  All of these Americans are trying to secure their retirements by taking advantage of their 401(k) plans.  That is a great idea and we should applaud each and every one of these Americans who are trying to secure their retirement years.

Now here is where the potential conflict begins.  But first let me ask you a question.  Would you buy a house if you didn’t know what it was actually going to cost you?  Wouldn’t you want to know all of the expenses involved?  This is usually your largest expense so you would get a breakdown of all the expenses involved…right?

When you go out to purchase an automobile don’t you want to know what it is going to cost you to buy that automobile…including taxes, monthly payment, fuel costs etc?  Sure you do!

So why is there a problem, with probably your third largest investment, which in many cases turns out to be your largest investment over time, your 401(k) plan?  Why are the expenses you have to pay for your 401(k) plan not required to be disclosed?  What’s going on here?

American Jobs and Closing Loopholes Act

The American Jobs and Closing Tax Loopholes Act include provisions to:

• Promote American job creation
• Provide relief for working families
• Prevent the outsourcing of American jobs
• Close tax loopholes
• Ensure corporate accountability
• Maintain access to affordable health care

Doesn’t ensure corporate accountability include disclosing the expenses you have to pay to have your 401(k) plan.  Yet, Senator Max Baucus has introduced proposed changes that would eliminate the disclosure of these fees.  Why?  My guess is the “big money financial lobbyists” got to him. Maybe they bought him a case of single malt whiskey?   Nothing else makes any sense.

A congressperson’s job, who is elected by the people, is to represent those people or constituents. So how is Baucus’s proposal representing the best interests of you?  Isn’t this the same old politics we, as Americans, have come to despise?

Senator Baucus, you work for the American people and we want, no demand, that you explain yourself.  You are keenly aware of your other long time old school politicians who were recently defeated for re-election.  You could be next!

If you read this far there may be something about this post that you are relating to.  There may be some financial related pain In Simple Language is talking about.  Tell us your story.  We really do want to know.

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“Happy Cinco de Mayo” to all my Hispanic friends.   Let’s talk about defined contribution plans again.  This is such an important topic to all of us that I want to make sure, as much as possible, that you have enough timely information to make good decisions.

 A New twist to the 401(k) and 403b

Remember when you put money into your defined contribution plan, whether it is a 401(k) plan used in “for profit” companies or a 403b plan, used by not-for-profit institutions, the money from your paycheck goes into your plan using “before taxed dollars”.  This reduces your taxable income for the year and hence, you pay less tax.  Your payroll department is subtracting the amount going into your defined contribution plan from your total wages for the year.  This means your w-2 wage statement that you get from your employer, to use to do your taxes by April 15 every year, will show less taxable money.  Less taxable money…less taxes to pay.

Paying less tax legally is always a good thing.  Pay what is legally owed and nothing more.  Since you put your contributions from your paycheck into your defined contribution plan without paying any tax on that money, the government wants their tax when you take your money out of your defined contribution plan.

Wouldn’t it be wonderful if you didn’t have to pay taxes on your defined contribution dollars?  Well, there is a way…sort of.  Approved by the United States Senate in March of 2010, the American Workers State and Business Relief Act of 2010 would allow rollover contributions to be put into a designated portion of your 401(k) or 403b plan that would grow tax “free” not tax deferred.

This is the so-called “Roth” portion of your defined contribution plan if your company allows this.  Just like an IRA account, that is a Roth IRA, you would not have to pay taxes upon withdrawal if you met certain requirements.  Unfortunately the current House of Representatives version does not allow for this “Roth” provision so we will have to wait and see what happens.

The good news is that this provision will favor higher income employees mostly so that gives it a better chance of passing.  If this new law passes, those people making $100,000 or more each year will be able to convert all or a part of their total defined contribution account to a “Roth”  IRA.

Those individuals who believe that their tax bill is going to be much higher in their later years would find that converting today and paying the taxes now will save them considerable tax liability in their retirement years in many cases.  Yes, you still have to pay taxes on the amount that you convert today.  There is no free ride with defined contribution plans so that is the potential downside.

This is a very complicated topic so before you do anything talk with your financial advisor and tax advisor. Have them look closely at your situation and where you are regarding your retirement. The last thing you want to do is create a tax mess with your retirement monies.  And as usual with anything the government does, the rules change almost daily and are always complicated.  Just think about the federal income tax laws…all zillion confusing pages of them.

If you read this far there may be something about this post that you are relating to.  There may be some financial related pain In Simple Language is talking about.  Tell us your story.  We really do want to know.

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Both defined contribution plans, the 401(k) and the 403b retirement plans, are the mainstays of the American workers future retirement needs.  A well funded retirement plan along with social security, personal assets, and personal savings will ensure a comfortable retirement for the American worker.

Let me define what a defined contribution plan is.  A defined contribution plan lets the employee define the amount of money you want to take out of your paycheck each week or every two weeks or once a month or however you are paid before taxes are calculated.  This immediately lowers your taxable income and potentially your tax bracket.

The amount taken out of your paycheck, determined by you, is usually based on your total income for the year and can vary based on your age.  If you are fifty-five and older you can contribute more into your plan.  You also have the ability to say how your money is going to be invested and where and how much of the total.  This is, of course, based on what investment options are offered within the defined contribution plan.  And there are other things offered, not always, but usually a loan provision. If offered, you can “borrow” money from your defined contribution plan.

Also most defined contribution plans offer a wide variety of investment choices such as a savings feature which pays a fixed rate of interest and a variety of mutual funds to choose from.  You can even change the mutual funds and the amount of your contribution going into those mutual funds as your circumstances change.

The best thing about defined contribution plans is the fact that your employer might match a portion of what you are putting into your plan.  As an example, your employer would match the first 3% of your money up to a certain dollar amount each and every pay or whatever the employer is offering.  This is free money and an instant return of 100% on your money.  That is as good as it gets.  If your employer offers this and you are not taking advantage of this offer you are losing money.

So what’s happening with defined contribution plans?

Because of the way most investments were devastated in 2008-09, the government and many public officials have been looking at ways to prevent you from again losing large amounts of your money in your 401(k) or 403b plans.  Note:  The 401(k) is for “for profit” companies like GM, GE, Microsoft whereas the 403b is for “non-profit” companies like hospitals, public schools, colleges, and universities.

What the concerned public officials are talking about is having an annuity feature-a monthly income for life-in all defined contribution plans.  What this would do is “guarantee” a monthly income for life for anyone with a defined contribution plan.  As it now stands if you have all of your money invested in, let’s say, mutual funds there are no guarantees that your defined contribution plan will have any money in it when you need it in later years.

An annuity feature would allow you to take a portion of your money and set it aside so that that part of your plan would “guarantee” you some sort of monthly income payment for life regardless of what would happen to the investment part of your 401(k) or 403b. 

Amazingly enough of 1,500 employees polled recently, only 44% thought the annuity feature was a good idea.  I believe that number is less than half because of the confusion, misinformation, and lack of knowledge about financial topics that permeates our educational system.  That is another topic for a further post.

What do you think about having a guarantee of a lifetime monthly income as part of your 401(k) or 403b plan?

If you read this far there may be something about this post that you are relating to.  There may be some financial related pain In Simple Language is talking about.  Tell us your story.  We really do want to know.

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Target date mutual funds have been a hot topic ever since they took such a dismal beating in 2008.  Many people, especially in their 401(k) programs, lost hundreds of millions of dollars when the stock market got wacked.  To prevent this from happening again, since target date mutual funds are so popular, congress has been looking at ways to minimize damage to people’s 401(k) programs that are using target date mutual funds.

So what is a target date mutual fund?

A target date mutual fund is a mutual fund, or basket of investments, that uses a specific date, like 2020 or 2025 or 2030, as a target date for when a person will need to use those specific funds.  That use could be, and usually is, for retirement although it doesn’t have to be. 

The idea is when you put your money into a target date mutual fund, and depending on when you will need it again, the fund will start off investing your money more aggressively.  As you approach your target date the investments in the target date mutual fund will become more and more conservative…protecting your money.  Or so it is thought.

So what happened in 2008 when the market went into a dumpster?  The portfolio managers of most target date mutual funds were not doing what they were supposed to be doing.  Many of the target date mutual funds that were reaching their target date of say 2008-2010 were overly aggressive in stocks causing the funds to lose a large percentage of their values.

People 65 years old or older, which had upcoming target dates of say 2010, where shocked to see the losses in their target date mutual funds which were supposed to be invested conservatively, yet weren’t.  Too much of their money was invested in stocks causing them to lose a great deal of money.

Congress doesn’t want this to happen again.  Target date mutual funds are very common in 401(k) plans with an estimated $245+ billion held in these funds.  That is a significant amount when you consider how many different mutual fund types are in the investment world.

Things are getting better

After the 2008 bloodbath within target date mutual funds, many of the mutual fund companies have decided that they don’t want to have that happen again.  Whether that is for your protection or their continued existence it is good to see many of the mutual fund companies taking the initiative to prevent this from happening again.

One of the methods that some of the fund companies want to put into place is to give the target date mutual fund manager more flexibility in how they invest.  The target date mutual fund, like all mutual funds, is guided by what the mutual fund’s prospectus directs. 

So if the mutual fund prospectus says that no more than 50% of your money will be invested in stocks then that is the way the fund is “supposed” to be run.  Of course this was a major part of the problem in 2008 when many mutual fund managers did not adhere to what the prospectus said.

Some fund companies are talking about re-balancing their funds more often…quarterly or monthly instead of annually.  Re-balancing refers to keeping the fund within the parameters of what it states such as 50% stock, 45% bonds, and 5% cash.  When the target date fund exceeds any of these parameters then that part that exceeds these set parameters is sold off and the money is re-distributed to bring the fund back into line with its 50%, 45%, 5% ranges.

Time will tell if these actions will help in the next financial meltdown…and there will be another meltdown.

If you read this far there may be something about this post that you are relating to.  There may be some financial related pain In Simple Language is talking about.  Tell us your story.  We really do want to know.

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Back in May, 2008, I posted my first “Target Date Mutual Fund” article.  Including today’s blog post, I have done a total of eight blog posts on “Target Date Mutual Funds”.  You can look at the other posts by putting “target date funds” in the search box feature on “In Simple Language”.

Why have I written so much about these particular mutual funds?  Based on my recent research, target date mutual funds, by the year 2018, only eight years from now, will grow to almost $3 trillion.   This will amount to almost half the total assets in defined contribution plans.

Remember, defined contribution plans are your 401(k) plans used by for profit companies and 403b plans used by non-profit organizations like schools and hospitals.  It seems that target date mutual funds are becoming even more popular today than they have been.  This is even after the fact that there have been some “serious” issues with the way target date mutual funds have been managed.  Go back and read my previous posts and you will better understand what I am referring to.

Jumping on the target date funds bandwagon

Unless you have been living in a cave for the last twenty years, I am sure you have heard of Wal-Mart…the largest retailer in the world.  It looks as though Wal-Mart is introducing target date mutual funds to its more than 1 million 401(k) plan participants. 

It sounds as though Wal-Mart did its homework on target date mutual funds because it didn’t just accept any old target date mutual funds, Wal-Mart decided to get their own custom made target date mutual funds.  This is a prudent business decision because Wal-Mart, like everything else it does, likes to control its costs.  By having these specially made funds they will be able to do just that.

Wal-Mart also made another savvy business decision as to the structure of the special target date mutual funds.  They opted to have the funds be designed to take care of their employees-not just until the time that they retire-all the way through retirement.  Way to go Wal-Mart.

What I would be concerned with is whether or not specific investment help is going to be available for the 1 million plus Wal-Mart plan participants that will not understand what a target date mutual fund is or how it works.  If they believe that most of the plan participants will understand how these funds work…good luck!

All mutual funds have their own inherent complexities and need to be explained In Simple Language.  I would venture to guess that the majority of people working for Wal-Mart do not have a financial background or are familiar with financial terms and their meanings.  So if someone is advised to go into a target date mutual fund and they start reading the prospectus about what it is, how it works, and what makes up the target date fund…once again good luck.

HELP! Is on the way

Maybe help is on the way, not just for the people at Wal-Mart but also everyone else who has an interest in being involved in target date mutual funds.  It seems that the United States Labor Department and the Securities and Exchange Commission (SEC) are working on a type of consumer alert information that will be available to help you make a more informed decision.

This information is intended to clarify what a target date mutual fund is and how it may or may not fit into your overall investment goals.  Let’s hope that they do a good job and write it In Simple Language.  We all know how easy to understand most government information is.

Unfortunately, no timeline has been set as to when these guidelines will become reality.  We can only hope it will be timely.

If you read this far there may be something about this post that you are relating to.  There may be some financial related pain In Simple Language is talking about.  Tell us your story.  We really do want to know.

•  Please ask your questions of In Simple Language and we will answer you as soon as possible in the comments section of the blog article you asked about.
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 Thank you for taking the time to visit In Simple Language. 

Copyright © 2008-2010 “All Rights Reserved”

Looking for a financial speaker or financial writer?  Contact Rich today at rsowa@insimplelanguage.com or call Sowa Financial Media, LLC now at (502) 569-1714.

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