FINANCIAL
PLANNING
BASICS
VIRGINIA B. MORRIS AND
KENNETH M. MORRIS
A

FINANCIAL
PLANNING
BASICS

CONTENTS
2 Moving Ahead Towards 18 Retirement Savings Plans
Your Goals
20 IRAs
4 Financial Planning
22 Annuities
6 Managing Your Cash Flow
24 Social Security
8 Your Net Worth
26 Insuring the Future
10 To Buy or Not to Buy?
28 Tax Planning
12 Paying for College
30 Estate Planning
14 Education Investments
32 Financial Advice
16 Investing For Retirement
34 Glossary

©2022 BY LIGHTBULB PRESS, INC. ALL RIGHTS RESERVED.

 FINANCIAL PLANNING BASICS FINANCIAL PLANNING BASICS

Moving Ahead Toward MAKING DREAMS A REALITY

Your financial goals don’t have to be

Your Goals limited to big-ticket items or meeting

family responsibilities. If your dream
is taking a year off to travel around the
If you know where you want to be, you can plan the route world, there’s no reason not to pursue it.
If what you want to do most of all is get
and set the pace. an advanced degree and switch careers,
saving enough to cover tuition may take
Staying focused on the financial goals you have children, one of your primary center stage. Or if you want to be able
that are really important to you can goals may be ensuring that you’ll be to plan your daughter’s wedding or
inspire you to increase the amount able to afford tuition at the colleges your parents’ 50th wedding anniversary
you’re adding to your saving and invest- or universities where they really want without having to count every penny,
ing accounts each pay period. And it to go. And, if you’re thinking about your focus may be on short-term
can provide the motivation you need retirement at all, you probably know investing.
to keep on top of the progress you’re that you want to be financially secure
making toward those goals. enough to be able to live comfortably SPECIALIZED INVESTMENTS
Some of your aspirations may be and to do the things that are important Because the income taxes you’re respon-
ones that other people share. You may to you. sible for paying require a significant
want to buy your first home or trade up One of the challenges in trying to percentage of your income—perhaps
to one that better meets your needs. If balance these potentially competing some that you would otherwise invest—
goals—and others that may be more the federal government offers some tax
uniquely your own—is figuring out benefits as an investment incentive.
how you can shift the emphasis to focus Taxes on earnings in certain
10% HERE AND 10% THERE
on one or the other at a certain time retirement savings plans are deferred
You think you can’t afford to invest without losing sight of your big until you withdraw the money. In other
10% of your income? Try calculating financial picture. retirement plans, earnings are totally
it this way: tax free if you follow the withdrawal
1. Multiply your annual income by rules and satisfy other requirements.
10% (0.10) Earnings in designated education
investments, including 529 plans,
2. Divide the answer by 52 Coverdell education savings accounts
3. Divide the answer by 7 (ESAs), and, in some cases, US savings
bonds, are also tax free if you use
That’s the amount you need to set the money to pay for qualified
aside each day to invest 10%. education expenses and meet the
If you’re participating in a retirement
other requirements.
savings plan where you work, you could
identify that percentage as the amount
And while investments you make
you want to contribute. It will be
to accumulate money for a down
deducted automatically from your payment on a home don’t get special
salary or wages. If you’re investing tax treatment, you may be entitled to
though an IRA or a taxable account, deduct some or all of your mortgage
you could arrange to have the amount interest and local real estate taxes on
debited from your checking account your federal tax return, reducing what
every payday or have your custodian or you owe.
brokerage firm withdraw the amount While these breaks may not make
via the Automated Clearing House you feel any better about paying taxes,
(ACH). You’ll probably never miss the they may encourage you to invest more.
money. And, at the end of the year,
you’d have something to show for
your efforts. MAJOR FINANCIAL
GOALS
Buying a Home

Paying for
College

Planning
Retirement

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 FINANCIAL PLANNING BASICS FINANCIAL PLANNING BASICS

Financial Planning A financial plan is a game plan that

evaluates your current assets and SIX OUT OF
When you plan, you identify financial goals and debts, identifies the things you TEN AMERICANS
want (or need) to provide for, and rate a steady source of
develop strategies to meet them. lays out a strategy to pay for them.
retirement income as their
Developing the plan is one thing.
Sticking to it is another. primary financial goal.
When you do financial planning, you’re
looking toward the future, specifically at
building the kind of financial security A DEFENSIVE
you’d like to have and being able to BACKUP
afford the life you want to live. But to Planning is also important
plan successfully, you also have to evalu- because it helps you
ate the present, including the financial anticipate and handle the
choices you’re making now. Otherwise obstacles that come between
it’s too easy to find yourself making you and your goals.
random decisions that won’t move you
toward your goals effectively, or that
may even interfere with achieving them. BEAT
It’s never too soon, or too late, to Inflation has
begin. Financial planning is important, INFLATION averaged 3%
Seek a strong return
whether you’ve just started working or since 1926. on your investments
are thinking seriously about retirement.
And it should be a continuing process, so If your investments provide a return
that you can evaluate your progress, revise higher than the inflation rate, you’ll be
your goals, and update your strategies. in a much better position to afford the
Without planning, you run greater things that are important to you.
financial risks. You may not have enough
money in reserve to meet expenses you’re
expecting, like the down payment on a MINIMIZE Tax planning Choose tax-deferred
home or the price of a college education. TAXES can help to
reduce what and/or tax-exempt
You may have to revise your retirement investments
plans. Or you might leave your family you owe.
without enough to live comfortably if You can take advantage of tax-deferred
something happens to you. investments to postpone taxes and make
tax-exempt investments to avoid them.
PLANNING STRATEGIES Trusts may also reduce the taxes your heirs
In financial planning terms, creating will owe down the road.
a strategy means defining the steps
Liquid investments Create an emergency
you’ll take to have the money you
are those you
need to pay for the things you want. PLAN FOR can quickly turn
fund with investments
To begin, you need a clear sense THE UNEXPECTED you can liquidate easily
into cash.
of what your goals are, and what
they will cost. You have to evaluate
the assets you already have and With an emergency fund plus adequate health
find ways to increase the amount and life insurance as hedges against unexpected
you’re saving and investing. While expenses and illnesses, you’re less vulnerable to
planning doesn’t guarantee success, potential hardship.
failing to plan is virtually certain
to bring disappointment. SEEKING ADVICE of financial institutions compete to provide the
The biggest danger isn’t making a mistake services their customers are looking for.
by choosing the wrong approach. It’s in doing Among the places you can turn to for help
DEFINING YOUR GOALS nothing. Many people take advantage of pro- with financial decisions are:
Planning is important because it helps you identify a range of goals that you’re fessional advice in drawing up a financial plan
working to achieve: and putting it into action. You can work with an • Registered investment advisers (RIAs)
Short-term goals Mid-term goals Long-term goals adviser from the beginning, consult a number • Certified public accountants (CPAs)
You may focus on things you You may have expenses to You probably have hopes of different advisers, or choose someone to
hope to have in a couple of meet several years in the future, for a comfortable retirement, execute the decisions you make on your own. • Certified Financial planners (CFP)
years, like a new car or a like tuition payments or a the opportunity to go places In fact, a major advantage of working • Insurance brokers
new home. vacation home. and do things you’ve always regularly with an adviser is the added incentive
wanted, or a chance to provide it can provide to get started and stay focused. • Brokerage firms
security for your heirs. Help is increasingly available, too, as all types • Lawyers

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 FINANCIAL PLANNING BASICS FINANCIAL PLANNING BASICS

Managing Your Cash Flow FUNDS IN RESERVE

Irregular income, unexpected
repair bills, medical expenses,
IT DOESN’T TAKE MUCH
To create an emergency fund,
multiply your monthly take-
With planning, you can manage your spending to cover or loss of your job can pose home pay times six to find
special cash flow prob-
immediate needs and still invest for long-term goals. lems. It pays to have a
the amount you want
to save. Then decide how
safety net—customarily much you can reasonably afford
Your finances are in constant motion. can review what you’re spending to see six months of living to put aside each pay period to reach
Even as money comes in from employ- where you can cut back. The simpler expenses—set aside in that amount as quickly as possible.
ment and other sources, it goes out for and more realistic your budget, the an emergency fund.
regular living expenses like food and more likely you are You can use your credit
shelter, and for periodic bills like taxes to follow it. card to cover some emergencies when
Whatever the reason you need money
and insurance. they happen, but interest charges will
from your emergency fund, you should
This in-and-out movement is called increase the cost dramatically if you
replenish it as quickly as you possibly
your cash flow and the spending plan repay over an extended period. If
can, even if it means sacrificing some
you create to manage that flow is called you can withdraw from your
immediate pleasures. It’s the only way to
a budget. Budgeting has a bad reputa- emergency fund when the
be prepared for the next emergency.
tion because it’s often equated with credit card bill is due,
denying yourself things you you can combine
TRACKING YOUR SPENDING
want. But it’s an essential part SHOPPING the convenience of
To budget effectively, you have to know
of financial planning and not charging with the
where your money is going. It’s relatively
as difficult or restricting as economy of pay-
easy when you pay bills electronically or
you might think. ing in full.
by check, since you have a record. Your
credit card statement can be helpful as
HOUSEHOLD BUDGETS
DEBT well, with each charge and amount listed.
Using last year’s expenses as a
What’s harder to track is the cash you
base, you estimate how much
you will spend this year for
 TRANSPORTATION
take at the ATM—and it’s often cash
spending that gets you into budget trou-
housing, food, transportation,
and so forth—including the  ble because it can be hard to track.
You might keep a daily spend-
large bills like insurance that
you pay quarterly or annually.
If your expenses are INSURANCE
 SAVING
ing record for several weeks,
using either an app on your
smartphone or a small notebook.
higher than your income or
You may be surprised at what
you want to invest more, you
you discover about where your
money goes.
If you have children, encour-
REGULAR EXPENSES age them to be part of the
Weekly
budgeting process, from allocat-
Food, transportation, HOUSING ing income to various family
household supplies, childcare
expenses to keeping track of
Monthly Housing, utilities, phone, spending. It’s a great way to
loan repayments learn about money.
Quarterly/ Insurance, taxes
annually
INVESTING
Other Medical and dental expenses,
repairs, entertainment
FINDING MONEY TO INVEST
If you’d like to invest more of your
household budget, but aren’t sure

 how to get started, consider these
suggestions:
THE PART INCOME PLAYS 3 Invest any money you get from gifts,
bonuses, or extra jobs.
Your income determines the amount you can afford to spend on
the necessities and pleasures of life. To keep your cash flow posi-
1 Have a percentage of your salary
deducted from your paycheck and
tive, which means having money left at the end of a pay period invested in an employer sponsored 4 Reinvest all the money you make on
your existing investments, automatically
to spend as you wish, you may want to allocate income first to retirement plan.
those essentials that have a fixed price, such as housing and loan if you can.
repayments. You can then allocate to essentials with variable 2 Transfer a regular amount to an invest-
ment account when you pay your bills 5 Pay off your credit card balances. Then put
costs, such as food and clothing, where you can reduce your an amount equal to what you were paying
spending more easily if you are running short. each month. in interest into an investment account.

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 FINANCIAL PLANNING BASICS FINANCIAL PLANNING BASICS

Your Net Worth FAIR MARKET VALUE

When you’re calculating what your personal assets are worth, the number
Your net worth statement is a snapshot of where you stand to use is their fair market value. That’s the price a willing, rational, and
financially at a given point in time. knowledgeable buyer would pay for things you are willing to sell.

Assets Cash reserve

WHAT YOU OWN

assets include
Assets
Liabilities
WHAT YOU OWE CURRENTLY AND LONG TERM

Liabilities Short-term
debts are your
current bills:
the money in your CURRENT AMOUNT for example credit card
checking, savings, ESTIMATED
Mortgages $160,000 charges, personal loans, income
and money market accounts, CDs, VALUE for example
and real estate taxes, and insur-
Treasury bills, and the cash value of Bank loans 0
Cash in banks & ance. Your present credit card
your life insurance policy.
money market accounts $20,000 Car loans $7,000 balances are generally included,
Investment even if you regularly pay your
assets include Amounts owed to you 0 Lines of credit $3,000 entire bill each month.
stocks, bonds, Stocks/bonds $44,000 Charge accounts $1,800 Long-term
mutual funds,
Mutual funds $45,000 Margin loans 0 debts are
retirement
mortgages
plans, annuities, and other invest- Certificate of Alimony 0 and other
ment products. deposit (CDs) $8,000
Taxes owed: loans that you repay in install-
Personal assets IRAs $70,000 ments over several years.
are your possessions. Income $21,000
Some—like antiques, Employer retirement
accounts Real estate $3,200 OTHER PERSPECTIVES
stamp collections, When potential lenders
and art—may (vested interest) $245,000 Other 0 assess your application—
appreciate, or increase in value. Real estate: Other liabilities: which includes a net
Others—like cars, boats, and worth statement—to
electronic equipment— Home $200,000 College loan $7,800 decide whether you
depreciate, or decrease in value Other 0 Insurance $3,500 qualify for a loan, they
over time. look at what you already
Business interests 0 Business loan 0
Real estate owe. But they may also
includes your Personal property* $30,000 calculate what you might
TOTAL
home and owe if you charged as
TOTAL ASSETS $662,000 LIABILITIES $206,500
other land much as you could on all

NET WORTH
and buildings. * Includes furnishings, jewelry, collections,
cars, security deposit or rent, etc.
THE STARTING POINT
As part of deciding how to pursue your ASSETS MINUS LIABILITIES
financial goals, you should take a look
at where you stand right now. You If your net worth is negative,
do that by adding your assets—such turning it around by paying off short- your credit cards and drew
USING NET WORTH STATEMENTS
as cash, investments, and retirement term debt should be your financial on all your potential lines
Figuring your net worth is not only a critical first step in
plans—in one column and your planning priority. of credit.
financial planning. It will also come in handy in many
liabilities—or debts—in the other. If it’s positive, you’ll want to look at What most lenders
financial situations. For example:
Then subtract your liabilities from your how your assets are divided among cash, like to see is a net worth
assets to find your net worth. investments, and real estate and perhaps • Mortgage lenders require a statement of your assets and statement that shows
Net worth doesn’t measure cash flow, make some changes. Your age, goals, and liabilities as part of the application substantial savings and
but there’s a clear relationship between amount of risk you’re comfortable taking • College financial aid is based on your net worth, so investments, and limited
how you spend your money and what are important factors in determining the you’ll have to report your assets and liabilities when debt. Investments mean
your financial picture looks like. If most appropriate focus. For example, your children apply—except not retirement accounts that you have resources
your assets outweigh your liabilities, if you’re starting your career, it may be • Loan and line-of-credit applications usually require net to tap in an emergency,
you have a positive net worth. If your growth in your investment portfolio, or, worth statements including assets that could
liabilities are larger, you have a negative if you’re nearing retirement, a combina- • Certain high-risk investments may require that you have be sold to pay your debts.
net worth. tion of growth and income. a minimum net worth—often $1 million or more
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 FINANCIAL PLANNING BASICS FINANCIAL PLANNING BASICS

To Buy or Not to Buy? FAMILY GIFTS

If your parents or grandparents are
willing to help you buy a home, each
Be careful, though. Loans from
family members earn imputed interest
if the lender doesn’t charge you any—or
That may be the question. The answer is both of them can give you a tax-free gift of enough—interest. That means he or she
up to the annual limit set by Congress. has to pay income tax on the interest
personal and financial. It’s a case where a timely gift may make that normally would be paid but wasn’t.
a lot more sense than an inheritance at One exception occurs when a parent’s
some unknown time in the future. loan enables a child with no investment
income to buy a home.
If you’re planning to buy a home, Like certain other investments,
you probably have good reasons real estate has the potential to
for your decision. It may be that increase in value over the years, so
you share the feeling that owning that you can sell it for more than HOW BUYING WORKS
your own home is a key part of the you paid. There are usually three distinct phases in buying a home: accumulating the down
American dream. But there are also But unlike investing in equities payment, finding a mortgage, and building your equity.
financial issues involved in buying such as stock or mutual funds, which
real estate that you need to consider you buy as a way to achieve your 1 Generally you need 2 When you have 3 When you’ve
as well. financial goals, most people consider a down payment enough for a down arranged your
From one perspective, a home owning a home as an end in itself. of at least 10% and often payment, you can begin mortgage and bought
is an investment, maybe the single as much as 20% of the looking for a home your home, you gradu-
largest one you’ll ever make. purchase price available and a mortgage. A ally build your equity,
in cash in order to buy. mortgage loan is a long- or ownership, by paying
You can also investigate term arrangement that off the mortgage loan. In
some federal and state provides the money you most cases your monthly
programs, like those run need to buy the home. payment will also include
by the Federal Housing You pay the loan back, enough to cover the real
Administration (FHA), usually in monthly estate taxes and insurance
which require a smaller installments over a on the property.
amount up front. Your 10- to 30-year
attorney or real estate period.
UY
REASONS TO B
agent should be able to
n deduct mortgage tell you about special
That’s because you ca imary home and programs.
ional reasons for ur pr
interest you pay on yo u file your federal
There are strong emot tentially stronger yo
buying a home—an
d po a second home when can also deduct real
ns . ret ur n. Yo u
financial reaso income tax local governments.
feel grounded, and estate taxes you pay to gh they have dollar
Owning can help you provide a sense
It can
part of a community. a place to build Those deductions, thou l to reduce your
tia
of accomplis hm en t an d limits, have the poten cially in the first few
tra dit ion s. Of ten , you have more taxes significantly, es
pe INVESTING FOR A DOWN PAYMENT
family a rental unit that
space than you wo uld in years after you buy. If you’re planning to buy your first home,
nt of money. And One technique is to split up the money
costs the same amou ney. you’ll have to decide how to invest the you are accumulating, putting part in
u mo
owning can save yo money you’re using for a down payment. income-producing stocks and mutual

ENT Timing is a major consideration. The funds, and the balance in interest-bearing
REASONS TO R sooner you plan to buy, the fewer risks you
may want to take. You probably don’t want
investments that will mature when you plan
to buy.
LACK OF LIQUIDITY to be in a position to have to sell invest-
u might decide You could also set goals for your equity
On the other hand, yo a home for IS ONE OF THE ments if their price drops suddenly, or risk investments, in either price gain or total
y
to rent rather than bu sons. MAJOR PROBLEMS having to postpone your plans. On the return, and sell if an investment reaches
an cia l rea
practical and fin n, for
WITH INVESTING IN other hand, the more price-stable an that level. That’s a different approach from
If yo u’re on yo ur ow REAL ESTATE investment is, the less you’ll earn on it. buy-and-hold investing, but it could help
tog eth er
example, getting you to build your down payment.
a down paym en t an d
e of a
managing the expens ce, and
, ins uran
mortgage, taxes at a strain on your ays easy to sell when
upkeep ma y pu t too gre periodically. It’s not alwange jobs. While GENDER ISSUES
all yo ur assets tied up in you’re transferred or ch out with the cost
budget. And having drawbacks. Among lp If you’re single, it may be harder to get already have a relationship with or using
your home has serious ur ability to invest your employer may he d buying another, a mortgage than if you’re married, and a mortgage broker who specializes in
yo of selling one ho me an
other things, it limits r goals that are And the most often harder for a woman than a man. finding interested lenders. You might
enough to meet the ot
he you can’t count on it. g is the one-time, While it’s illegal to discriminate based also consider a private arrangement with
to yo u. expensive part of bu yin
important t is a job that keeps
on age, race, or gender, a lender can sellers who would be willing to finance
Another reason to ren you to relocate up-front costs. always turn you down. the purchase—although you don’t want
uires
you on the move or req Sometimes you can make out better to do that without the advice of a real
applying to a bank or credit union you estate lawyer you trust.
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 FINANCIAL PLANNING BASICS FINANCIAL PLANNING BASICS

Paying for College You may also realize tax savings in

certain cases by paying college expenses
with US savings bonds.
You and your child
must complete a com-
prehensive federal loan
Once you fit all the pieces together, you’ll have a clearer Better yet, you don’t have to select application to qualify.
just one method. You can create a But the good news is
view of how funding your child’s education works. savings plan that combines several of that federal loans have
the options and takes advantage of made it possible for
There’s no doubt that the cost of higher But it’s equally true that while saving their most attractive features. many more students
education has increased dramatically in may not be easy, there are a number of to afford a college
recent years. Yet, perhaps surprisingly, programs designed not only to encourage IT’S A GRANT WORLD education.
the number of students enrolling in all you to put money away for college but It’s the unusual person who doesn’t These federal loans—Direct for
types of institutions has increased as to provide tax benefits if you do. In fact, enjoy receiving a gift. And the best students and PLUS for parents—are
well. One reason may be the recognition you may already have a plan to accumu- gift a college student—and his or available directly from the government.
that a college education makes financial late the money you anticipate needing. her parents—can receive is a grant or You can find detailed information
sense. Another may be the commit- Among the most widely available scholarship. Grants directly reduce on what loans are available and how
ment—and sometimes sacrifice—that choices are those that share the 529 the amount of your child’s education to apply at [Link], a US
families are willing to make in order label: college savings plans, state prepaid expenses and, unlike loans, never have Department of Education website.
to pay for the opportunity that educa- tuition plans, and the private college to be repaid. Grants make up about You can borrow money elsewhere as
tion provides. But a third, and possibly prepaid plan. Another alternative is the 59% of all financial aid that undergrad- well, which you may opt to do if federal
equally powerful factor, is that families Coverdell education savings account uate students receive. About 28% of the funding doesn’t meet your needs. One
can turn to a number of sources to help (ESA), which has lower contribution grants in any year come from private of the issues you’ll have to weigh in
them cover the cost of college. limits but more flexibility in institutions and individual colleges and accumulating loans—even for a good
choosing investments. universities, while others are provided cause—is the long-term responsibility
THE ROLE OF SAVING by public institutions, including certain they impose on you and on your child.
Whether you’re a brand states and, in the case of Pell grants, the
new parent or federal government. MAKING COMPROMISES
you’ve had One challenge may be determining The other thing to remember about
lots of the requirements a student must meet paying for college is that there are many
to qualify for a grant. Certain grants, routes to an undergraduate degree.
such as Pells, are need based. Others are While some students finish their
practice merit based, which means they’re given college education at one school within
as a mom or in recognition of the student’s achieve- four years, many don’t follow that pat-
dad, this probably ment. Still others may take both the tern. For instance, students may begin at
isn’t the first time you’ve student’s merit and need into account. a local two-year public college and then
thought about saving In most cases, students are offered transfer to another public institution or
for college. It’s hard to grants after they’ve been accepted at a to a private college. They may attend
avoid the bottom line: college or university, but sometimes a school part-time throughout the year
Colleges and universities, school or organization will offer a grant for five or six years rather than full-time
as well as the federal as an incentive to attract your child. You during the fall and spring semesters for
government, consider can check with the high school guidance four years. Or they may select a school
it your responsibility office and organizations you belong to that expects students to combine time
to contribute to your for a list of potential scholarships. You in class with paid internships.
children’s higher might also discover lists online—though Certain circumstances may also
education expenses. few of these lists are provide you with different ways
Without at least some really useful. Beware of to reduce the overall cost of your
savings, meeting that sites that ask you to pay COST OF child’s education. For instance,
obligation may not a fee to access their files: BORROWING someone in your extended family
be possible. There’s no reason to pay might provide housing for your
to find scholarships. child to live off campus at a school
he or she wants to attend, perhaps
COLLEGE RESOURCES BUYING TIME in return for doing certain chores.
You can look to a number of websites for help Unlike grants, higher Or your child may accumulate
in planning for your child’s education. education loans must be advanced placement credits or take
repaid. Like other loans, some required courses in the summer
• [Link]
they accumulate interest, to reduce the length of time it takes
Information on college costs,
scholarships, and entrance exams. so that borrowers end up to graduate.
repaying more than the amount Obviously, decisions such as these
• [Link]
they actually spend on tuition, room, must be collaborative or the likelihood
Guidance on the process of applying to
and paying for college. board, and other expenses. But the of their being successful is slim. But
federal government offers both parents if you and your child can talk frankly
• [Link]
and students guaranteed loans that can about your shared goals and the
Valuable information about 529 savings
and prepaid plans. reduce—though not eliminate—the financial realities, you can find a
costs of borrowing. way to achieve what you both want.
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 FINANCIAL PLANNING BASICS FINANCIAL PLANNING BASICS

Education Investments
Remember, though, that as with any incurred in grades K through 12, as
uninsured investment, returns on 529 well as college and graduate school.
accounts are not guaranteed and you With an ESA, you choose the
The earlier you start planning for college, the easier it will be to could lose money, especially in the investments for your account, which
short term. gives you more control over how your
pay those tuition bills.
money is allocated than you have with
PREPAID PLANS most 529 plans. There are limitations,
The best time to start saving for college—for You may also consider a prepaid tuition though. Instead of investment ceilings
your children, nieces, nephews, or other family plan, another type of 529 plan. With a that can be more than $300,000 for
and friends—is as soon as they’re born. But prepaid plan, you pay for future college some 529 plans, annual ESA contri-
if you didn’t get off to a quick start, don’t costs by buying tuition credits at today’s butions per beneficiary are capped at
despair. You can start now by choosing rates. Prepaid plans offered by an indi- $2,000. There are income limits
among a number of different investment vidual state must be used in that state, governing who can contribute to an
plans that not only provide the oppor- but credits you buy through the ESA. And the beneficiary must be
tunity for your savings to compound Private College 529 may be used at younger than 18 when the account is
tax deferred but offer the possibility any participating school. opened, and must use the money before
of tax-free withdrawals for qualified turning 30, although you can change
expenses when ON THE RIGHT TRACK beneficiaries to another member of the
the student Most 529 college savings plans same family.
enrolls. You offer either age-based or fixed
might also tracks, or both. An age-based
US SAVINGS
encourage track allocates your investment
BONDS
grandparents across different asset classes
When you
or others based on the beneficiary’s age
redeem
who want when you open the account,
certain
to contribute and then reallocates to create a
US savings
to a child’s education to open more conservative portfolio as the
bonds to pay
one or more of these accounts as child gets closer to college age.
for qualified
well. Ideally there should be a With a fixed track, you choose
education expenses, you may qualify
coordinator who knows which whether to invest in equity, fixed
for a tax break. There are two types of
accounts have been opened and income, balanced, or stable value
bonds that are frequently used for edu-
the approximate value of the funds. The portfolio’s exposure to
cation expenses, Series I and Series EE.

529
savings as they accumulate. risk doesn’t change over time, and the
The interest rate on Series I bonds is
results are based on how the underlying
linked to the inflation rate and changes
529 SAVINGS PLANS investments perform.
twice a year. Series EE bonds issued
The college savings plans
since May 2005 pay a fixed interest rate
known as 529 plans are COVERDELL EDUCATION
and are guaranteed to at least double in
among the most popular SAVINGS ACCOUNTS
value after 20 years. You can
ways to invest for college. Like 529 plans,
Among the things you’ll want to find information on how to
These plans are sponsored by individual Coverdell education
consider in choosing a 529 plan are: buy these bonds and the rules
states and managed by financial savings accounts (ESAs)
that apply if you want to use them
institutions, such as brokerage firms, • The investment options, investment offer tax-deferred growth
for educational expenses at
insurance companies, and mutual objectives, and historical returns and tax-free withdrawals
when you use the money [Link].
fund companies. When you set up the
account, you designate a beneficiary • The fees, expenses, and state tax to pay for qualified Remember, though, that to
treatment of different plans education expenses at qualify for the tax break, your
for whom you’ll use the money to pay
adjusted gross income must be
qualified higher education expenses, • Beneficiary rules an eligible educational
less than the annual limit set by
including the cost of technical or trade institution. With ESAs,
school, college, or graduate school. • Contribution limits that includes expenses Congress. For the current limits,
visit [Link].
You can also use up to $10,000 a year You may want to begin your search
in 529 assets to cover qualifying costs by investigating the plan sponsored
while the beneficiary is enrolled in by the state where you live, as many
grades K-12. The beneficiary can be states offer extra incentives to residents Compare the investment alternatives of Combine making contributions to a 529
anyone, including yourself. enrolling in their plan. Your withdraw- different college investment plans, and plan with putting money into some other
Since every state offers access to a als may be free of state as well as federal narrow the list to those that are best college saving opportunities such as
529 plan, you have the flexibility to income tax, for example. Or you may for you. You may decide to use a an ESA or savings bonds, to diversify
choose the one that best meets the be entitled to deduct your contribu- combination of plans. your investments.
criteria you set. In fact, you can open tion on your state tax return. But you
more than one 529 plan for the same may lose those advantages by choosing Evaluate 529 college savings plans to Don’t plan on raiding your retirement
beneficiary if you choose, since in most another state’s plan. For more informa- find the ones with the most attractive plan to pay for college expenses—your
cases neither you nor the plan benefi- tion, you can check [Link]. investment alternatives at the lowest cost. beneficiary could receive grants or
ciary have to live in the sponsoring state org, a website sponsored by the College You may want to start by investigating scholarships, but you alone are
to participate in its plan. Savings Plan Network. your home state’s plan. responsible for your retirement.

14 Back to Table of Contents 15

 FINANCIAL PLANNING BASICS FINANCIAL PLANNING BASICS

Investing for Retirement TARGETED INVESTMENTS

There are three primary ways to invest for retirement. Each has distinctive
Whether retirement is down the road or just around the advantages and some potential limitations.

corner, planning for it is a must.

NS
Retiring may be the last thing you want retirement means a permanent change—
ED RET IREMENT PLA
to do. Or it may be the goal that keeps and usually a reduction—in the income
TAX-DEFERR r an
you going. Whether or not you’re plan- you’ll have to live on for the rest of your ent or substitute fo
ning on it, you should be planning for life. So when you cash your last pay- an s are ta x annuity to supplem
d retirement pl
it. The reason is simple: You’re going to check, you’ll need a substantial source of Employer sponsore e employer makes the employer’s plan. when you start
need the money. other income ready to fill the void. deferred, wh et he r th
yo u an d As an added bonus, tire, you may find
ntribute, or both you re
Unlike mortgages and educational That may come from Social Security, contribution, you co ither the amounts that withdrawing after lower rate than you
. Ne pa yin g ta x at a
your employer do you yo u’re ey in.
expenses, which eventually get paid off, perhaps a pension, and investments
an y ea rn in gs are ta xe d un til
ul d ha ve pa id wh en you put the mon ere’s
d no r wo ce th
you’ve made over the years. are adde withdraw. In that, though, sin
(You can’t count on rates or your income even
addition, when ict ta x
no way to pred
you contribute, s ah ea d. )
How much of your current How will a few year t plans do have
your salary may Ta x- deferred retiremen
income will you need? you get it? be reduce d by
some limitations, th
ough:
the amount you amount you can
Since the income you’ll need put in, so you There’s a cap on the ch year.
to live comfortably in retire-
ment depends on your personal
lifestyle, there’s no fixed amount
SOCIAL
SECURITY +RETIREMENT
SAVINGS + INVESTMENTS owe less current
income tax too.
You can
•
•
invest in most plan
Yo u
s ea
e money before
usually can’t use th t having
withou
you reach age 59½ on amounts
that applies to everyone. But most retirement When you take a job, Investments produce the also invest in to pa y a 10 % pe na lty
advisors recommend that you plan to replace remember to ask about same results whether a personal tax- you withdraw.
at least 80% of your preretirement income with the retirement plan. You’ll they’re owned by men deferred pl an , su ch
n withdrawing
pensions, Social Security, and investments. want to know the kind of or women. as an individual • You often must begi
To provide even more financial security, you plan it is, when you can retirement account after you turn 72.
may want to aim for replacing 100% of what join, and whether there’s (IRA) or a de fe rre d
you were earning in the last few years before an employer match.
you retire.

TAX-FREE RETIREMEN
ESPECIALLY FOR WOMEN A FIRM LEG TO STAND ON T PL ANS
Lining up retirement income is espe- Retirement income is generally There are two ways to invest for
cially critical for women, since two of described as a three-legged stool— tax-free withdrawals of retirem retirement that will allow you to take
ent
the standard resources—pensions and balancing on pensions, Social Security, the other is the Roth option tha income. One is the Roth IRA and
t may be available as a way to
Social Security—are linked to a lifetime and investment income. So as fewer contributions to an employer make
sponso
of earned income. Since women earn, and fewer employers offer traditional In both cases, you contribute aftered retirement savings plan.
in both cases, no tax is due on r-tax rather than pretax mo
on average, about 82% of what men pensions, and more debate surfaces withdrawals provided you are ney. And,
earn, and often work fewer years, they about how Social Security will pay and your account has been ope at least 59½
n at lea
can expect to receive less from those full benefits to the gradually growing These tax-free alternatives giv st five years.
and manage your retirement e you useful flexibility as you pla
sources when they retire. For example, number of beneficiaries, investments income. n for
women who collect Social Security must carry more and more of
benefits based on their own earnings the weight.
typically get less than men of That’s why it is so critical to focus
TAXABL
comparable age do. on investment strategy as a key part of E INVES
What’s more, since women as a your retirement planning. You control The most flex
ib le w
T M E N TS
savings is in ay to b
group live longer than men, they need how much you invest, and what you a regular inve uild retirement
income over a longer period of time. invest in. As an added incentive to build There’s no lim stment acco pay, always
For example, women make up a large your investments, you can put money in the account it on the amount you ca unt. in
low
come, depen er than the rate on you
each year, an n p u t in ds ro
proportion of the fastest growing seg- tax-deferred retirement accounts that on when you
ca n w
d no restrict
io n s
to In contrast, on your adjusted gross rdinary
must start. it h d raw — or whe a tax-deferr e a rn in gs income.
ment of the population: people over 80. let you postpone taxes on your earnings n you ed plan are tayou withdraw from
That means living for many years on until you start to take the money out— Another a in come even xed as ordin
retirement income. usually after you retire or by age 72. tax-deferred dvantage of regular ove represents th if the money you’re wit ary
in ve r h
It’s worthing noting, though, that One advantage is that you can buy and any investm sting is
ent that has that the profit on owned 20 ye profit on an investme drawing
e
a rs o nt you’ve
a surviving spouse of either gender is sell the investments in those accounts, when you se in
ll it is taxed creased in value The downsid r more.
capital gains at the lower you’ve alr e o f re gular invest
entitled to a deceased spouse’s Social as well as reinvesting any interest and lo
the investm rate, provided you have ng-term invest, an eady paid tax on the mo ments is that
Security benefit if it would provide dividends without having to worry ent more th o d ney
an a year. Th wned yo
most investm u pay taxes every year you
more income than the survivor’s own about paying income taxes or capital e rate you ent earnings. on
benefit. gains tax on any profits.
16 Back to Table of Contents 17
 FINANCIAL PLANNING BASICS FINANCIAL PLANNING BASICS

Retirement Savings Plans stock, and fixed income investments,

although other choices may be available.
If you’re enrolled automatically, the
a factor, since the longer contributions
compound, the larger they have the
potential to grow.
It’s never too early to take retirement seriously. percentage you contribute is set initially
by the plan, as is the way your contribu- KNOW YOUR LIMITS
tions are invested. But you always have Congress sets an annual maximum on
You can start saving for retirement as both. Your employer contributes to and
the right to contribute more if you wish, contributions to employer plans and
soon as you begin earning income. It’s manages the pension fund to produce
up to the annual limit that applies, and IRAs, though what you contribute to
a smart move even if your retirement is the return it needs to make the pension
to choose any of the other investments an employer plan doesn’t reduce the
many years in the future. You can take payments owed to you and other plan
available through the plan. amount you can to put in an IRA, or
advantage of savings plans that allow members.
vice versa. You don’t have to contribute
you to defer taxes on your earnings, and In a defined contribution plan,
ON YOUR OWN WITH AN IRA the full amount that’s permitted, but,
sometimes on your contributions, or to you, your employer, or both contribute
IRAs are voluntary, so you must take the more you can afford to put away,
avoid taxes entirely if you follow the rules. money to a retirement account in your
the initiative to open your account with the larger your account has the potential
There are two categories of tax- name. The retirement income you’ll
a bank, brokerage firm, mutual fund to grow over time.
saving retirement plans: those offered receive is not guaranteed. Rather, it
company, or insurance company, and If you’re 50 or older, you’re entitled to
by employers and individual retirement depends on the amount that’s contrib-
contribute as much as you wish up to make additional catch-up contributions
accounts (IRAs) that you open on your uted, the way the contributions are
the annual limit. The financial institu- even if you’ve contributed the maximum
own. Even if you’re part of an employer invested, and the return the investments
tion where you open your IRA is its every year you were eligible. The added
plan, you can contribute to an IRA, provide over time.
custodian, which involves holding the money can give your account value a boost.
taking advantage of both ways to accu- One advantage of a defined contribu-
account assets, acting on your instruc- Contribution limits, or caps, which are
mulate retirement assets. tion plan is that it’s often portable, which
tions to buy or sell investments, and higher for employer plans than for IRAs,
In addition, you may want to invest in means you can take your account balance
providing regular statements of your are indexed to inflation and may increase
taxable accounts to make your retirement with you if you change jobs. That’s not
IRA’s value. But a custodian has no as frequently as every year. In some years,
even more financially secure. You have the case with defined benefit plans.
responsibility for the choices you make. they’re unchanged, but they have never
more flexibility at every stage, from add-
As with defined contribution plans, been reduced. For example, in 2022, the
ing money to taking it out. And while BEING PART OF THE PLAN
what your IRA is worth when you’re cap for most defined contribution plans is
you’ll owe taxes on your investment If your employer offers a pension plan,
ready to retire depends on the amount $20,500 plus $6,500 catch-up, while IRA
income, the rate you pay on much— you’re generally included in the plan auto-
you have contributed, the investments caps are $6,000 and $1,000 catch-up.
though not all—of it will be lower than matically, though you may have to be on
you’ve chosen, and the way those invest- Different limits apply to defined benefit
the rate you pay on ordinary income. the job a minimum length of time, be a
ments have performed. Timing is also plans and certain small-company defined
full-time employee, or both, to be eligible.
contribution plans.
EMPLOYER PLANS Participation in a defined contribu-
Employers may sponsor a retirement tion plan is generally voluntary, so
plan for their employees if they wish. you may have to sign up. Increasingly,
There are two basic plan types, and most however, employers are automatically
employers offer one type or the other, enrolling everyone who is eligible and
though some employers offer both. offering the alternative of opting out.
A defined benefit plan, better In most, but not all, defined con-
known as a pension plan, promises a tribution plans, you defer a percentage
certain level of income when you retire. of your pay, which is deducted from
The way your pension is calculated is your paycheck. These contributions are
described in the plan and is usually invested in the investments you select
based on what you’re earning at the end from among those available through the
of your career, the number of years you plan—typically mutual funds, managed
work for the employer, or frequently accounts, target date funds, company

THE PLANS 401(k) Thrift Savings (TSP)

AT A GLANCE • Employees of businesses that • Federal employees and

sponsor plans employees of companies
There are several varieties • Matching contributions offering plans
of defined contribution plans, optional • Matching contributions
including the ones mentioned 403(b)
for federal employees,
here. With all except SIMPLEs, others optional
contribution limits are the • Employees of nonprofit,
SIMPLE
tax-exempt organizations
same and balances can be
moved between plan types • Matching contributions • Employees of companies
optional with fewer than
if you change jobs. The type 100 workers
of plan you’re eligible for Section 457
depends on where you work. • State and municipal workers • Matching contribution
required
• No matching contributions

18 Back to Table of Contents 19

 FINANCIAL PLANNING BASICS FINANCIAL PLANNING BASICS

IRAs
The institution acts as custodian required amount each year. The way you
and invests the money as you direct in figure that amount is spelled out in IRS
stocks, bonds, mutual funds, ETFs— Publication 590. You can work with
the same kinds of investments available your financial or tax advisor to be sure
An IRA may be your first line of defense in protecting outside an IRA except art, jewelry, real you get it right.
your future. estate (except REITs), and collectibles.
You can’t use your IRA to buy
life insurance. HOW NOT TO DO IT
No retirement plan? You’re not alone. depending on your income, you may
You usually pay an annual fee—$25 Sometimes it’s easier to decide how to make an
Only about 67% of US workers are qualify for the additional tax advantages
to $50—for main­taining the account. investment decision—in this case, where to put
covered by an employer plan, leaving of being able to lower your current taxes
Some custodians waive fees, though, if your IRA money—by being clear on what you
the rest without access to that source of by deducting your contribution or of
your account is large enough. That can should not do.
retirement income. But an individual selecting a Roth IRA with its promise of
be a persuasive argument for consoli- Here are a number of things you should
retirement account (IRA) is available to eventual tax-free income.
dating your IRA investments with a probably avoid.
anyone who earns income or is married
single custodian. Buying tax-free investments, like municipal
to someone who does. JUST SAY IT’S SO
With an IRA you can invest up to You can establish an IRA with a bank, bonds or municipal bond funds, for a
DON’T STOP NOW traditional IRA because all earnings are
the annual limit and defer income taxes on brokerage firm, mutual fund company,
To get tax-deferred growth, you agree ultimately taxable.
any earnings, which are reinvested. You or an insurance company. When you
that if you withdraw from your account
have the potential for faster growth than fill out the paperwork and deposit your Investing primarily in low-interest savings
before you reach age 59½, you’ll owe a
if you were paying taxes on an account money, the IRA exists. It’s as simple and money market accounts because you
10% penalty plus the tax that’s due on
earning the same rate of return. And as that. won’t earn enough to offset inflation.
the withdrawal amount, in most cases.
But you can still put money into your Sticking with an investment that isn’t living
IRA after you reach age 59½. And you up to expectations. You can move IRA money
Good Reasons to Open An IRA can make extra annual catch-up contri-
butions once you turn 50. In 2022, you
easily from one investment to another
without owing tax on earnings.
can add an additional $1,000, for a total
Have a personal savings plan Opening a different IRA account every year.
• of $7,000.
You’ll pay more in fees, and you’ll have more
After you turn 59½, you can tap it
records to keep track of.
• Defer or eliminate tax on earnings any-time you need the money without
paying the early withdrawal penalty. You Misplacing your tax records of non-deduct-
must begin taking money out of your ible IRA investments. If you can’t prove
• Add to your retirement account traditional IRA in the year after you the tax was paid, you may pay tax twice on
turn 72, and must withdraw at least the the same money.
• Choose among a variety of investments

ROTH OR TRADITIONAL?
Because there are choices in IRAs, Although you may owe current tax, you’ll
A TAX BREAK FOR TRADITIONAL IRAs between the traditional tax-deferred IRA avoid future taxes. But they all agree that
If you meet either one of the qualifying tests, you can deduct your traditional IRA and the newer tax-free Roth IRA, you before you make a decision it’s smart to
contribution on your income tax return. However, remember that contributions to Roth need to know how they compare in order talk to your own advisor or someone at
IRAs are never deductible, whether or not you have a retirement plan or meet to select between them. the financial institution where you have
the income test. The appeal of the Roth is that you get your existing account or plan to open a

A
the added benefit of tax-free income on new one.
TEST #1 TEST #2 your tax-deferred earnings when you
take money out, provided you’re older EARLY WITHDRAWALS
RETIREMENT PLAN LEVEL OF INCOME than 59½ and your account has been Though IRAs are intended as long-term
COVERAGE
If you’re not eligible for a TAX If you are eligible for a
pension or retirement
open at least five years.
But to be eligible to contribute the
full amount to a Roth, your income
retirement investments, you may be able
to withdraw your accumulated assets
without the 10% federal tax penalty in
pension or retirement B R E A K savings plan where you
must be less than $129,000 (with partial some very specific situations.
savings plan where you work, you can deduct
T O B O O T your full IRA contribution contributions phased out at $144,000) if For example, you can use IRA money
work, you can deduct
only if your income is you’re single, and your joint income less to pay college tuition, spend up to
your full IRA contribution, Your IRA contribution
either less than $68,000 if than $204,000 (phased out at $214,000) $10,000 of it to buy a first home for
whatever your income. reduces your taxable
you’re single or less than if you’re married. The contributions are yourself or a family member, or use it for
You’re eligible whether
income—and therefore your
$109,000 if you’re married never deductible. medical expenses. While you will usually
you’re single or married.
taxes — if you meet one of t h e t w o and file a joint return. For In contrast, everyone qualifies for a owe the income tax that applies to the
Even if your spouse is par-
each additional $1,000 traditional IRA, and, as the tests opposite withdrawal amounts, you won’t owe the
ticipating in an employer qualifying tests.

you earn, you can deduct show, in some cases you may be eligible extra 10%.
plan, it doesn’t affect your
less, until the deduction to deduct your contribution, reducing The best approach, if you need
eligibility provided your
is phased out entirely at $78,000 current income tax. to withdraw your IRA money early, is
combined MAGI is less than $204,000. You
(single) and $129,000 (married), Many experts advise choosing a Roth to confirm that your plans meet the
can take a decreasing deduction until your
in 2022. if you qualify, and add that it may pay tax requirements before taking out
MAGI reaches $214,000 in 2022.
to transfer your existing IRA to a Roth. the money.

20 Back to Table of Contents 21

 FINANCIAL PLANNING BASICS FINANCIAL PLANNING BASICS

Annuities FIXED OR VARIABLE?

Deferred annuities are available in two
forms: those that pay a fixed rate of
takes responsibility for paying as prom-
ised. But actual payment depends on
the issuer’s ability to meet its obligations.
Tax-deferred annuities are another way to build your interest for the life of the annuity and With a variable annuity, you decide
those that pay a variable rate. how your money will be allocated
long-term retirement savings. When you buy a fixed annuity con- among a specific menu of subaccounts,
tract, the insurance company that issues or annuity funds, offered by the issuer.
When you purchase an annuity, or long- or employer-sponsored retirement plans. it guarantees payment of a fixed rate of Subaccounts are pooled investments,
term insurance company contract, no That means you can build a substantial return during the build-up period and similar to mutual funds, with varying
taxes are due on your earnings until nest egg for your long-term needs. How- a guaranteed income for life if you objectives and strategies. Variable
you begin to receive income under the ever, putting money into an annuity annuitize, which means converting annuities give you the chance to poten-
terms of your contract. There are no doesn’t reduce your salary or income tax your annuity into a stream of income. tially earn more than you could with a
contribution limits on annuity the way tax-deferred employer plans do. The company invests your principal and fixed rate. However, the contract makes
investing as there are with IRAs no payment promises,
so you could also end up
earning less if the markets

Building Up Paying Out are weak or you choose

poorly performing funds.
You can choose a single premium You start collecting on your
annuity with a lump-sum purchase, annuity investment during the
or build your annuity account by Your annuity payout period, usually after you CHECKLIST
adding money regularly over a period contract defines retire. If you’re 59½ or older when FOR ANNUITY
of time. During this accumulation the terms and payments begin, you owe income INVESTORS
phase, while the money is invested conditions: tax on your earnings. If you’re
Consider annuities only if
and you are not withdrawing, your
earnings in the account are tax deferred.
• A mount of younger than that, you’ll usually
have to pay an additional 10% of you’re investing for the long
premium
the withdrawal as a penalty. term. Withdrawals before
• E arnings at age 59½ face a 10% penalty
DEFERRED IMMEDIATE fixed or MONTHLY LUMP-SUM tax, plus income tax.
OR variable rate OR
ANNUITIES ANNUITIES PAYMENTS PAYMENT Investigate the reputation
With a deferred
annuity, you get the
You buy an immediate
annuity with a single
• M ethod of payout You can get regular
monthly payments
Or you can end your
contract and take a
of the company offering the
annuity to be sure it’s sound.
benefit of tax-deferred payment and begin the • Fees and other for as long as you live cash distribution. You
compounding for an payout period right investment costs or for a set period may lose money if your Compare surrender
extended period, at away, or within the of time, such as ten plan imposes a penalty periods. Most annuities have
either a fixed or variable first year. The amount or 20 years. for early withdrawal. surrender charges in the
rate. When you’re ready of each payment is set first seven years. You can
to begin withdrawals, by the terms of your IMMEDIATE ANNUITY PAYOUTS avoid annuities with lifetime
the way you’ll collect contract. In the sense The most common payout options for both deferred surrender charges.
is spelled out in the that an annuity provides and immediate annuities are: Look beyond the initial
terms of your contract. regular income, usually Single life, which pays a set sum per month as rate if buying a fixed-rate
Usually it’s in regular after you retire, these long as you live. When you die, the payments stop. annuity. Approach unusually
monthly installments, plans resemble employer Life or period certain, which covers your lifetime high rates with caution.
but it may be in a fixed sponsored pensions. or a set number of years, whichever is longer. Your
number of lump-sum You can also buy an heirs get the balance if you die before the term is up. Look for maximum
payments. The part of immediate annuity Joint and several, which makes payments for your flexibility on getting your
your payout that comes to provide a lifetime lifetime and the lifetime of your joint annuitant. money out. You can avoid
from earnings is taxed stream of income for annuities that don’t offer a
at your regular tax rate. another person. lump sum or give you a lower
interest rate if you take one.
LOOKING AT THE BOTTOM LINE WEIGHING THE ISSUES Research the fees and
Annuities are popular ways to save for retirement, but they also have critics who argue that other Immediate annuities provide the security of a regular annuity charges and avoid
investments give you more for your money. It pays to look at both sides: income for people who are uncomfortable managing their paying more than 1.5% to
investments. But they have some potential drawbacks: 2% annually.
Pluses Minuses
Compare costs. Some
• Tax-deferred compounding • Some variable annuity contracts have high • If you choose a single life annuity and die within a annuities cost more than
• Guaranteed income stream with fixed-rate fees and other expenses few years, the company keeps the balance of your others offering a similar
contract based on claims paying ability • Some annuities impose stiff surrender charges money and your heirs get nothing. rate and income stream.
of issuer • Taxes are due at regular income-tax rates,
• Your annuity income may not keep pace with inflation.
• With variable annuities, there is opportunity not the capital gains rate
for growth of principal that may keep up with • Income from fixed-rate contract may not keep • The seller, usually an insurance company, may not
or exceed the rate of inflation up with inflation fulfill its part of the contract.
22 Back to Table of Contents 23
 FINANCIAL PLANNING BASICS FINANCIAL PLANNING BASICS

Social Security Social Security estimates that slightly more than 25% of 20-year-olds will become disabled
before they turn 67, double the percentage who will die within the same time span. For most,
the only disability insurance for which they’ll be eligible will come from Social Security.
For more than 85 years, Social Security has been a source
of monthly retirement income.
We’ve Got Your Number
Social Security was introduced in account, you’ll be mailed a statement When you’re registered with Social Security, your nine-digit number usually stays the same for life,
1935 in the aftermath of the Great every year if you’re 60 or older and even if you change your name.
Depression to provide a safety net of haven’t started taking benefits. The first three digits The second group of The last four digits are
regular income to retired and disabled If you discover your record is wrong— indicate the state where you digits doesn’t have a assigned in num­erical order, for
workers and their families. It’s a manda- and it sometimes is, especially if you work applied for a card. The number particular meaning—though example 7091, 7092, 7093, and
tory plan, requiring most employees, more than one changes as more cards are they are related to the order so on. One exception: Twins, trip-
their employers, and the self-employed job—you can issued in that state. in which cards are issued in lets, or other multiple siblings
To be eligible for Social
to contribute a percentage of their salary ask that it be cor- a region. don’t get numbers in order.
Security benefits, you
to support the program. In return, they, rected. You’ll have
must contribute to the
their spouses, and sometimes their to supply some
system for a total of
dependents are eligible for retirement, evidence for your
ten years or be the
disability, and survivorship benefits. claim, such as
spouse or dependent
The program has been updated and the W-2 income-
of someone who does.
expanded over the years, to include reporting forms
more workers and provide added ben- that you file with
efits. Medicare, the healthcare plan for your income tax. With that information, $200,000 pay an additional 0.09% or counts what you earn over most of your
people over 65, was added in 1966. In you should have no trouble correcting 2.35% in Medicare taxes on amounts working life, specifically the 35 years in
1972, benefits were indexed to inflation, the problem. In fact, the SSA encourages over that figure, but the employer’s which you earned the most. As with other
so that as the cost of living goes up, your people to check their annual earnings rate does not increase. If you’re self- pensions, though, the more you’ve earned,
Social Security payments increase too. records carefully, since recent errors are employed, you pay both parts but can the higher the amount you’ll receive.
easier to fix than long-existing ones. deduct half the total when you file your Although the dollar amount of your
BUILDING A RECORD federal tax return for the year. benefit is based on your average earn-
When you enroll in Social Security, FINDING HELP To be eligible for benefits, you need ings, the percentage of earnings your
your account is open though it isn’t You can call the SSA helpline at to accumulate a total of 40 credits over benefit will replace is higher for people
activated until you begin working. Then, 800-772-1213 for assistance. Or, you your working life. You acquire credits who earned less over their lifetimes, in
every year the amount you contribute is can make an appointment at your local at the rate of up to four each year for keeping with the mission of providing
recorded. Because what you’ll ultimately Social Security office. Either way, you earning at least the required per-credit at least a basic level of financial support.
collect is based on what you pay in, it’s should have copies of your most recent minimum dollar amount, which is reset You can use the Retirement Estimator
important that the record is accurate. statement and back-up evidence to each year. at [Link] to calculate a sense of the
The Social Security Administration support your claim. It’s not a speedy benefit you can expect to receive based
(SSA) creates a Social Security earnings process, but it’s worth the time. GETTING MONEY OUT on your earnings record and the age at
statement if you are 25 or older and People born before 1938 could collect which you apply for benefits. However,
haven’t yet begun to collect payments. PUTTING MONEY IN full Social Security benefits when they this is just an estimate. Your actual
You can access a copy of your current Every year you earn income, you and turned 65. But full retirement age (FRA) benefit could vary, based on how long
statement by creating a secure, password- your employer are taxed equal percent- increased to 66 for anyone born between you continue to pay into the system,
protected account at [Link]/myac- ages of your earnings, as required by 1943 and 1954 and increased again what your future earnings are, and any
count. The statement reports what you’ve the Federal Insurance Contribution Act gradually for anyone born between 1955 changes to the system itself.
contributed each year and estimates the (FICA): 6.2% up to an annual earnings and 1959 until it reached 67 for those
monthly benefit amounts you’ll qualify cap for Social Security and 1.45% of born in 1960 or later. TAXING BENEFITS
for at retirement or if you’re disabled. your total earned income for Medicare. You can collect a percentage of your If your total income for the year, includ-
If you don’t open a mySocialSecurity Employees whose wages are more than benefit if you retire at 62. But if you ing half your Social Security and your
work beyond your full retirement age tax-exempt earnings, is greater than
SOCIAL SECURITY SNAPSHOT and keep on contributing, the amount the level set by Congress, you owe
of your benefit increases 8% each year federal income tax on part of your Social
PEOPLE OVER AGE 65 RETIREMENT INCOME 69M people receive until you reach 70. Security benefits. The higher your total
Social Security benefits
When you die, your surviving spouse income, the greater percentage of your
is entitled to your benefits unless he or she benefit is taxable, to a maximum of 85%.
90%
88% Income from
Social Security
would collect more on his or her own work
record. The exact amount your spouse
About 20% of people getting Social
Security benefits end up paying tax on
Receive will be eligible for depends on what you part of what they receive. The Internal
benefits
$ $ were collecting and how old he or she is. Revenue Service (IRS) provides a work-
sheet you can use to figure out exactly
33% OF
*Doesn’t take into account any income survivors can expect from Social Security, investments, or other sources.
More or less coverage may be needed, depending on individual family circumstances.
19%
CALCULATING BENEFITS
Unlike most pensions, which calculate
how much of your benefit you must
include in your taxable income. If you
Source: Principal Financial Group
COUPLES
OF
SINGLES 75% ISINCOME
RETIREMENT your benefit based on what you’re earning
at the end of your career, Social Security
pay estimated taxes, you’ll have to be sure
your installments cover what you’ll owe.
24 Back to Table of Contents 25
 PFLI A
NNAN
N ICNI G
A LR EPTLIARN
EMN IENNGT B
I NACSOI C
MSE FINANCIAL PLANNING BASICS

Insuring the Future

Insurance is part of a complete financial plan.
When you invest, you put part of your income into a variety of
assets to help you meet your financial goals. But what happens
if you can no longer provide income to invest or even to pay
everyday living expenses? Your illness, disability, or death
could radically change your dependents’ quality of life and
expectations for the future.
As you create your financial plan, you should consider these
risks. To make sure those who depend on you are taken care
of, you can buy life and disability insurance to help replace
your income, and long-term care insurance to pay for extended
healthcare costs.

RISK AND COST

The cost of life insurance varies significantly, depending on the type you buy, the
insurance company, and the risk you pose as shown on an actuarial table. These
tables predict life expectancy based on your age, health, life style, and gender.
If you’re considered high risk—for example, if you smoke, are overweight, or have LIFE INSURANCE
a dangerous hobby like skydiving or scuba—the company is likely to charge a higher Life insurance serves multiple purposes. It have an account value, against which
premium or refuse to insure you at all. But if you’re a nonsmoker whose health and can cover the costs associated with your you may borrow. The death benefit will be
life style predict that you’ll live longer, you are likely to pay less. death, sometimes known as final expenses. reduced until you repay, but the loans are
These could include funeral arrangements, usually easy to arrange. Some policies also
any legal expenses involved in settling your allow you to use a portion of the death
estate, and your outstanding debts. benefit to cover the costs of a terminal
WORKING WITH AN AGENT When you meet with an agent, the But life insurance can do much more. illness.
There are a number of advantages of first thing you’ll do together is a needs The beneficiaries you name on the policy The amount of insurance you need
working with a life insurance agent to analysis. You’ll want to take your finan- you buy can use the death benefit, also depends on your life situation and your
choose a policy. Agents can help you cial records with you to the meeting, known as the face value, as income financial situation. One rule of thumb
assess your financial circumstances, including a summary of your assets and replacement to pay for their living suggests that your death benefit should
define your coverage needs, and suggest liabilities. If you have a written finan- expenses, maintain their standard of be seven to ten times your annual income.
whether a term or permanent policy cial plan, it’s a good idea to take that as living, and save for their goals. But it’s relatively simple to calculate your
might work best for you. well. If you have existing coverage, you Life insurance can also help you while actual need using the online calculators
The more questions you have about and the agent will probably also review you’re alive. For example, some policies available on insurance company websites.
how life insurance can help meet your whether it meets your current needs.
financial needs, the more important the As part of your conversation, you’ll
professional and personal attention you want to ask the agent about his or plunder them to make ends meet. Even condition that leaves you unable to
receive from an agent can be in selecting her experience, credentials, and after you go back to work, you may perform the basic, everyday activities
the right policy. compensation for working with you. have difficulty restoring your accounts of life on your own. Unfortunately,
to their previous levels, and you’ll have long-term care can be expensive and
PREPARE FOR SETBACKS lost any potential earnings you would generally isn’t covered by traditional
Life insurance companies If a disability or serious illness strikes, have received by leaving the money health insurance. You may want to
originally did not insure women. it can have lasting effects on your invested. consider insurance contracts that will
When they began doing so in finances. If you have dependents, the What’s more, your financial security help pay for these costs.
the late 1800s, they charged consequences may be even greater, could be at risk if you develop a medical
women higher premiums than since you’ll still have to provide for
men, due to the higher mortality their basic living expenses while you’re
rates associated with childbirth. laid up. STAY AT HOME?
Today, because To prepare for this possibility, you’ll
women tend to want to buy disability insurance to If you’re not the family bread-
live longer than replace a percentage of your income. winner, you may still want to
men, they often Without disability insurance, a serious consider life insurance to replace
pay lower life medical condition could make it diffi- the value of the services you
insurance cult to pay the bills, and it could throw provide at home. For instance, if
premiums off your entire financial plan. Not only you’re a stay-at-home mom, how
for the same might you have to stop contributing much would it cost your family to
amount of to your retirement and college invest- hire someone to do the work you
coverage. ments, but you may find it necessary to do now?

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 FINANCIAL PLANNING BASICS FINANCIAL PLANNING BASICS

Tax Planning
least as important as the tax USING PRETAX DOLLARS
implications. If your employer offers a flexible
Here’s what you need to know: spending account (FSA) as an optional
employee benefit, it’s a tax-saving
You can legitimately reduce the tax you owe by • A capital gain is money you realize
opportunity you probably don’t want
for selling an investment for more
planning ahead. than you paid to buy it. A capital
to pass up. An FSA lets you set aside
pretax income to pay for uncovered
loss occurs when you sell an invest-
healthcare expenses, including copays,
The most effective way to pay the least sible to come out significantly ahead, ment for less than it cost you.
deductibles, prescription drugs, and
tax that you are legally obligated to even if tax rates have increased.
pay is to make financial decisions with If your employer’s plan has a Roth • If you’ve owned an investment for many over-the-counter medications that
more than a year before you sell, you meet the IRS standards for treating or
an eye to their tax consequences. For option and you choose it, you contrib-
have a long-term capital gain or loss. preventing disease or illness.
example, one way to reduce your ute after-tax money but no tax is due
If it’s been less than a year, you have An FSA usually works on a calendar
current income tax is to contribute to on your withdrawals. That could be a
a short-term capital gain or loss. year. To participate you contribute,
a tax-deferred retirement account, such real benefit.
through payroll deductions, as much as
as an employer-sponsored plan. Or, if you want to avoid mandatory • Long-term gains are taxed at a lower
you think you’ll spend during the year,
Of course, when you take money withdrawals from your retirement rate than your ordinary income,
up to the maximum annual limit. If you
out of the account after you retire, you’ll savings, you might put your retirement while short-term gains are taxed as
and your spouse are both eligible to
owe tax on the full amount of your money in a tax-free Roth IRA. While ordinary income. The long-term
participate, each of you can contribute
withdrawal. But you may be paying at you’ll contribute after-tax income, your rate is determined by your adjusted
up to the annual limit.
a lower tax rate when you take money withdrawals will be completely free gross income (AGI), and may be 0%,
There is one risk: If you don’t
out than you were when you put it in. of federal income tax provided your 15%, or 20%. Surcharges may apply,
use the money during the year for
In some sense it’s a gamble, but thanks account has been open at least five years again depending on your AGI.
eligible expenses you may forfeit it.
to the power of compounding, it’s pos- and you’re at least 59½. Similar tax sav-
ings are available for college savings with • You can use long-term capital losses However, employers may offer either a
to offset long-term capital gains, or two-and-a-half month grace period into
Tax-deferred a Coverdell education savings account
short-term losses to offset short-term the following year or allow you to carry
(ESA) or a 529 college savings plan.
Retirement Account gains, on a dollar-for-dollar basis. over up to $570 in 2022 of any unspent
Unused losses can be carried over money, removing some of the pressure
INVESTMENT PLANNING
from one tax year to the next. of using up your balance.
Investment decisions have tax conse-
Using an FSA does involve substan-
quences, although minimizing taxes So, as you make investment deci-
tial paperwork, but it can provide real
should be only part of your overall sions, you may want to postpone sales
tax savings. For example, suppose you
investment strategy. The investment when feasible to qualify for the long-
contributed the full amount you could
risk you’re willing to term gain rate and sell some assets with
and spent it all on covered expenses.
take, the return you can capital losses at the end of the tax year
TRUST reasonably expect, and That would represent a tax savings
to offset some gains.
of several hundred dollars, the exact
DOING WELL FUND the impact of the trans-
amount depending on your marginal
BY DOING GOOD action on your portfolio
You are entitled to deduct diversification are all at Tax-free ROTH IRA tax rate. If you want more information,
gifts you make to qualified Retirement Account check IRS Publication 502, “Medical
and Dental Expenses.”
charitable, religious, and
educational organizations.
The way you make the gift
APRIL
can have tax consequences.
For example, you’re likely to

FSA
save on taxes by giving assets
you own directly to the orga-
nization you want to benefit
rather than selling the assets
and making a cash gift.
The tax consequences
of bequests you make to
TAX DUE
individuals, such as those
to children and grand- AVOID A WASH SALE
children, can be reduced as If you sell an investment that has
well by making those gifts lost value to offset your capital gains,
in certain ways. Among the but plan to buy it back because you think
examples are creating trusts it has future promise, you need to be
careful to avoid the wash sale rule. In
C
G

and avoiding the generation-

skipping tax. Working with
C O H ARI T T IN brief, the rule says that a potential offset

OFFS E G A I N
is disallowed if a substantially identical
TABLE
S

experienced legal and tax

advisers as you make your NT investment is sold and then repurchased,
R I BU L
CAPITA
plans is always wise and or purchased and then sold, within 30 days.
sometimes essential. TIONS
28 Back to Table of Contents 29
 FINANCIAL PLANNING BASICS FINANCIAL PLANNING BASICS

Estate Planning

$
Your estate contains the assets you have accumulated by
the time of your death.
MAKING GIFTS
In addition to your annual tax-free
While much of the financial planning you can arrive at a fairly accurate estimate
gifts, you can give away assets worth up
you do is designed to help you and your as you start the planning process.
to $10 million plus an annual inflation are, such as a grandchild or great-
loved ones live the life you want, one Some assets, including those you own
adjustment during your lifetime, though grandchild, may be subject to special
aspect of it, called estate planning, deals jointly, your retirement accounts, and
any part of the exempt amount you gift generation-skipping, and somewhat
with what happens to your assets after the face value of your life insurance will
reduces the amount you can transfer complicated, tax rules.
you die. There are many ways to ensure go directly to your joint owner(s) or the
free of federal tax at your death.
that they’re transferred to the people or beneficiaries you have selected. Other
You have to report gifts over $16,000
institutions you want to benefit, and assets must be given away while you’re POWER OF ATTORNEY
per recipient to the IRS using Form 709
that potential hassles are minimized living or transferred by will, trust, or You may want to consider granting a durable
when you file your tax returns for the
or avoided. other legal document. or springing power of attorney to someone
year the gifts are made, but no tax is due
The actual value of your estate isn’t The advice of an experienced lawyer who could handle your finances and other
until the total reaches the cap. And the
calculated until after your death, but, who specializes in trusts and estates is matters if you were too ill or disabled to make
government doesn’t care how you share
using your current net worth statement, always valuable and often essential to your own decisions. You should consult with
your assets—all as gifts, all as bequests,
achieve your goals. your lawyer about the pros and cons as well as
or a combination.
Gifts you make to a relative at the process.
least two generations younger than you

your spouse or child buy a new pol-

Estate icy on your life, or, if you have a very MY ESTATE
Tax large estate, use a life insurance trust. My
Due Irrevocable trusts. If you move
Investments
assets into a trust that you don’t
THE TAX ISSUE DEFENSIVE MEASURES
control and can’t change, their value
While the most important aspect There are some strategies you can use
is no longer part of your estate. But Property
of estate planning is allocating your to reduce the value of your estate and
you need professional help to create
assets to your heirs, you can’t ignore so the potential for estate taxes. Other
effective trusts, whether assets are
the potential for estate taxes. Under Assets
Tax-free gifts. You can give gifts of transferred to them while you are Retirement
current law, federal taxes are due
up to $16,000 to as many people as you alive or after your death. Plans
on net estates valued at more than
wish each year, totally tax free. If you’re Of course, any money you
$10 million plus an annual inflation My
married, you and your spouse can give spend is no longer part of your
adjustment. In 2022, for example,
twice that, or $32,000. Gifts to your estate either, though things you Life Business
the amount is $12.6 million. A net Insurance
spouse are always tax free, provided he buy with the money will be if they
estate is what’s left after subtracting
or she is a US citizen. There’s an annual have monetary value.
tax-exempt bequests—including
cap if that’s not the case. Gifts to quali-
those to your spouse and qualifying
fying charitable institutions are also tax
charitable institutions—as well as GIVE IT OR WILL IT?
free, though the annual amount you can

$$
the cost of settling the estate from
NSURANCE
give may be limited to a percentage of If you’re deciding whether to give someone a gift while you’re alive or leave the property in your
your adjusted gross Iincome.
the estate’s gross value.
Those assets that pass directly to will, there are some things to consider,
beneficiaries—life insurance, retire- Paying education or medical bills. including the tax consequences.
ment plans, and half the value of You can pay another person’s tuition or
property you own jointly with your medical bills not covered by insurance Outright gift Inheritance
spouse—are included in your estate without incurring gift tax or reporting
when it’s valued. So are assets in any the payment to the IRS if you pay it Value for Value is what you The value is stepped up, or
revocable trusts you have created, directly to the educational or medical income tax paid for it originally. increased to what the property is
your share of a partnership or other institution to which the money is owed. purposes worth at the time of inheritance.
business, and money you’re owed.
Insurance. If someone other than
While only a very small percent- What taxes Potentially capital gains tax on Capital gains tax if property is sold
you owns the life insurance policy on
age of estates owe the federal tax, are due increased value will be due when likely to be less than if received as
your life, the death benefit won’t be
individual states may impose estate property is sold. No inheritance gift. Inheritance tax may be due.
included in your estate. If you are the
or inheritance taxes, or both, that tax due. Potential estate tax can’t Estate tax might reduce the size of
current policyholder, you can assign
are assessed against much more reduce size of gift. the inheritance.
ownership to another person, have
modest estates.

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 FINANCIAL PLANNING BASICS FINANCIAL PLANNING BASICS

Financial Advice
Sharing an advisor might make it Your age, the length of your
easier for both of you to balance your relationship, and other factors can also
portfolios and simplify tax planning. influence whether it’s important to get
On the other hand, if you’re used to separate advice. But remember that
Expert advice can be the key to making strong making separate financial decisions, or you’re likely to be managing all the
financial decisions. if you feel that your partner’s advisor is investments alone at some point. You
not interested in your concerns or your won’t want to face that responsibility
questions, finding your own advisor without financial advice from an advisor
If you’d like to have your investments oriented, helping you to increase your
might be the right thing to do. you know and trust.
working harder for you, ask yourself if confidence and your investing skills as
you’d be making better decisions if you you develop a financial strategy and put
were getting professional advice. For it into action.
many people, the answer is yes. WHAT FINANCIAL GUIDANCE CAN DO
That’s because the difference between ALL IN THE FAMILY
getting advice and doing without it Whether you share an advisor with If you work with a financial advisor,
is often the difference between mov- your spouse or companion or choose what should you expect to gain?
ing toward your goals and being stuck your own is a matter of personal choice,
where you are. just as your other financial decisions
Financial advice isn’t something you are. Some couples, for example, keep • Help in defining your goals • A structured, individualized
strategy for investing
save for emergencies. And it’s not an separate accounts and divide household • Help with understanding and
admission of ignorance. Rather, advice bills. Others pool their money in a joint managing risk • Advice on specific investments
works best when it’s ongoing and goal- account. Both ways work.
• Explanations of investment • Help with evaluating how well
opportunities and your investments are meeting
common mistakes your goals
• A system for recordkeeping

WHEN TO GET ADVICE

There’s no right time for starting to work But there are occasions that might
with a financial advisor—like your 35th encourage you to talk to an advisor, either
birthday or the day you find the first gray because things are going well or because
hair. It’s one of those situations when it’s they’re not:
never too soon—or too late.

WHEN TIMES ARE GOOD WHEN THEY’RE NOT SO GOOD

The balance in your savings You’re afraid of losing your job,

FINDING THE RIGHT ADVICE accounts is more than six or don’t expect a salary increase
months’ salary
When you’re ready to choose an investment and financial planning
advisor, you should look for one who’ll concerns. Be alert to advisors who may
You just received a big raise or You’re facing the likelihood of
help you move toward your goals. To promote investments or stategies that
make the search easier, it helps if you’ve you don’t understand and which they a large bonus divorce, and you’re not sure
thought about the kind of advice you’re can’t—or won’t—explain clearly. where you stand financially
looking for and the things you want to If you follow guidelines for choosing
accomplish. And remember, the choice an advisor that put an emphasis on You inherited some stocks and You don’t have a savings
is yours: Clients pick advisors, not the asking direct questions and checking bonds, but you don’t know wheth- account or a money
other way around. references, you should be able to market fund
er to hold onto them or sell them
Always ask potential advisors to find a qualified advisor interested in
explain specifically how investments building a long-lasting relationship
and financial planning strategies they that’s centered on your goals. If you You have several large CDs that You know you’ll need money
recommend may help you accomplish have specific planning needs—as a are about to mature, and the new for certain expenses—like
your goals. The more direct the answer, business owner, for example—seek interest rate is low education—but don’t know
the better you’ll feel about following an advisor with relevant experience. how you can manage it
the advice and developing a working Professional associations, such as
relationship with that advisor. the National Association of Personal
Look for advisors and financial Financial Advisors (NAPFA), may be a Your investments are doing well Your investments have lost
organizations that stress your good source of leads. value, and you’re concerned
about future losses

32 Back to Table of Contents 33

 GLOSSARY F I N A N C I AGL LPOLSASNANR IYN G B A S I C S
529 Plan Capital loss Financial plan
529 college savings plans are designed A capital loss is the difference between A financial plan is a document that
to encourage families to invest for their the purchase and sales prices of a capital describes your current financial status,
children’s educations by opening and asset when the sales price is less than identifies your financial goals and when
contributing to an account in which the purchase price. You can use capital you want to achieve them, and suggests
earnings accumulate tax free. You can losses to offset capital gains in comput- strategies to meet those goals. Financial
make federally tax-free withdrawals to ing your income tax. planners and other investment profes-
pay for qualified educational expenses. sionals can help you create a plan,
Most states sponsor one or more Defined benefit plan identify appropriate investments and
federally authorized 529 college A defined benefit plan—popularly insurance, and monitor your portfolio.
savings plans. known as a pension—provides a specific
benefit for retired employees, either as IRA
Assets a lump sum or as income for the rest of Individual retirement provide tax
Assets are everything you own that has their lives. The pension amount usually advantages as you save for retirement.
any monetary value, plus any money depends on the employee’s age at Everyone with earned income may
you are owed. Assets include money in retirement, final salary, and the number contribute to a tax-deferred IRA. There
bank accounts, stocks, bonds, mutual of years on the job. are annual contribution limits, catch-
funds, equity in real estate, the value up provisions if you’re 50 or older,
of your life insurance policy, and any Defined contribution plan and restrictions on withdrawals before
personal property that people would Defined contribution retirement plans you turn 59½. Tax-deferred IRAs
pay to own. are employer-sponsored plans, including have required minimum distributions
401(k)s, 403(b)s, and TSP plans. The (RMDs) after you turn 72.
Budget benefits you receive will depend on how
A budget is a spending plan you use much is contributed to the plan, how it Liabilities
to allocate your income to cover your is invested, and what the return on the Liabilities are the amounts you owe
expenses and to track how closely your investment is. to creditors, or the people and
actual expenditures line up with what organizations that lend you money.
you had planned to spend. A budget Education Savings Account (ESA) Typical liabilities include your
covers a specific time period, typically a An education savings account (ESA) is mortgage, car and education loans,
year. The goal is to end the year in the a tax-deferred account established in the and credit card debt.
black, which means you have covered name of a minor child to accumulate
your expenses, increased your savings, money that can be withdrawn tax free Net worth
and maintained a debt-to-income ratio to pay his or her qualified education To figure your own net worth, you
of less than 40%. expenses. Money withdrawn from add the value of the assets you own,
an ESA can be used at any level of including but not limited to cash,
Cash flow education from kindergarten through securities, personal property, real estate,
Your cash flow includes the money graduate school. and retirement accounts, and subtract
coming into your accounts and the your liabilities, or what you owe in
money you are spending over a specific Emergency fund loans and other obligations.
time period. To determine if your cash An emergency fund is designed to
flow is positive or negative, you subtract provide financial back-up for unex-
the money you receive from the money pected expenses or for a period when
you spend on expenses. If there’s money you aren’t working and need income.
left over, your cash flow is positive. If To create an emergency fund, you
not, it’s negative. generally accumulate three to six
months’ worth of living expenses in
Capital gain a secure, liquid account so that the
A capital gain is the difference between money is available if you need it.
the purchase price and the sale price
of a capital asset when the sale price is Equity
higher than the purchase price. If you Equity is ownership. If you own stock,
have owned the stock for more than you have equity in the company that
a year before selling it, you have a issued the stock even though your stake
long-term capital gain. If you hold the is very small. Equity also refers to the
stock for less than a year, you have a difference between an asset’s current
short-term capital gain. market value—the amount it could
be sold for—and any debt or claim
against it.

34 Back to Table of Contents 35

The American College of Physicians (ACP) is the professional
home for 161,000 internal medicine specialists and subspecialists
worldwide. Internal medicine physicians are the cornerstone of
comprehensive healthcare.

Thank you for your membership and for the work you do every
day on behalf of your patients and the profession.

This informational brochure is sponsored by the ACP Member

Insurance Program.

The purchasing power of the ACP means members like you can
take advantage of insurance benefits and rates exclusively for
doctors. Take advantage of insurance plans, administered by AGIA
Affinity and designed for you. Visit [Link] for
more information.