Basics of Personal Finance

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Basics of Personal Finance

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  1. Basics of Personal Finance

    Slide 1 - Basics of Personal Finance

    • Benjamin Poon
    • ben@ben61a.com
    • www.ben61a.com
  2. Introduction

    Slide 2 - Introduction

    • Target
    • Want to learn or clarify their understanding of investment basics (stocks, bonds, 401(k)s, marginal income tax brackets, and much more)
    • Are US taxpayers employed by a corporation subject to US laws and taxes
    • Content
    • Viewing
    • This presentation is targeted at readers who:
    • This presentation contains information arranged in 10 parts that make up an overall investment philosophy inspired by Jack
    • Bogle
    • , the founder of The Vanguard Group (one of the world’s biggest investment management companies)
    • Many slides have animations that reveal chosen information slowly to help the reader focus on certain areas in order, so please view this in presentation mode
    • To find information on a particular topic, use the Find (Ctrl-F) feature
  3. Introduction

    Slide 3 - Introduction

    • The best time to plant a tree is twenty years ago…
    • Even if you feel behind in your financial knowledge, wishing you saved more and invested more when you were younger, you can still start today.
    • The second-best time is today.
  4. Investment philosophy adapted from: http://www.bogleheads.org/wiki/Bogleheads_Investment_Philosophy

    Slide 4 - Investment philosophy adapted from: http://www.bogleheads.org/wiki/Bogleheads_Investment_Philosophy

  5. Slide 5

    • 1. Understand your balance sheet
    • 2. Live beneath your means
    • 3. Build and maintain an emergency fund
    • 4. Insure for catastrophe
  6. 1. Understand Your Balance Sheet

    Slide 6 - 1. Understand Your Balance Sheet

    • Track your income and expenses for 3-5 months
    • Calculate the average amount you save (or lose) per month
    • Understand roughly where your money is going (see next slide)
    • Income
    • — Expenses
    • Balance
  7. Illiquid Savings

    Slide 7 - Illiquid Savings

    • Not quickly accessible
    • 401(k) withdrawal penalized
    • House must be sold
    • Liquid Savings
    • Quickly accessible
    • Periodic Savings
    • Accessible ~quarterly
    • Lost To Others
    • Equity: $1,000
    • Interest: $1,000
    • 1. Understand Your Monthly Balance Sheet
    • Your traditional 401(k): $1,000
    • Spouse’s traditional 401(k): $1,000
    • Employee Stock Purchase Program: $500
    • Mortgage: $2,000
    • Household and Other Expenses: $2,000
    • Savings: $1,000
    • Tax Withholding: $2,000
    • Income
    • $9,500
    • Your Salary
    • $4,000
    • Spouse’s Salary $5,000
    • Other Income
    • $500
  8. Slide 8

    • 1. Understand your balance sheet
    • 2. Live beneath your means
    • 3. Build and maintain an emergency fund
    • 4. Insure for catastrophe
  9. 2. Live Beneath Your Means

    Slide 9 - 2. Live Beneath Your Means

    • Spend less than you earn
    • There is no substitute for this!
    • Invest to allow your money to make money
    • Investment is impossible if you have no money
    • Build and adhere to a budget
    • Wise investment isn’t possible if you don’t know how much money you can afford to invest
    • Income
    • — Expenses
    • Balance
    • Make this positive!
  10. Slide 10

    • 1. Understand your balance sheet
    • 2. Live beneath your means
    • 3. Build and maintain an emergency fund
    • 4. Insure for catastrophe
  11. 3. Build and Maintain an Emergency Fund

    Slide 11 - 3. Build and Maintain an Emergency Fund

    • An emergency fund is money set aside for unexpected expenses (totaling a car) and unexpected losses of income (losing a job)
    • Having an emergency fund buffers you from having to sell investments for an emergency that comes at a disadvantageous time to sell
    • The money should be easily and quickly accessible (online banking account, savings account, etc.)
    • The emergency fund should have enough money to pay for 6-12 months of expenses
    • Only use the money for emergencies!
    • Refill it as soon as possible after using any!
  12. Slide 12

    • 1. Understand your balance sheet
    • 2. Live beneath your means
    • 3. Build and maintain an emergency fund
    • 4. Insure for catastrophe
  13. 4. Insure for Financially Catastrophic Losses

    Slide 13 - 4. Insure for Financially Catastrophic Losses

    • Liability is financial and legal responsibility for harm
    • Insurance is a way to reduce or eliminate financial loss from liability
    • You should insure against financially catastrophic losses, not minor losses:
    • The cost to insure against financially catastrophic losses is very small (hundreds a year) compared to the potential total loss (millions)
    • The cost to insure against minor losses (i.e., a washing machine breakdown) is relatively large compared to the potential total loss, which makes it less worthwhile
    • In this section, we will cover:
    • Insurance definitions
    • Types of insurance to buy and to avoid
    • Details on homeowner’s, auto, umbrella, and life insurance
    • Principles for buying insurance
  14. Insurance Definitions

    Slide 14 - Insurance Definitions

    • Insurance is a way to reduce or eliminate a possible financial loss from liability and damage
    • The insured is the person buying insurance
    • The insurer sells insurance to the insured
    • The premium is the cost for insurance paid for a given period of coverage
    • The deductible is the maximum amount the insured must pay in the event of a loss before insurance coverage kicks in, levied by some policies
    • The insurance policy details the conditions under which the insured will be financially compensated
    • The settlement is the payment by the insurer to the beneficiary for a loss covered by the policy
    • The beneficiary is the person to whom the settlement is paid (usually same person as insured)
    • Riders are minor add-ons to bigger policies
    • Settlement
    • Insurer
    • Insurance Company
    • $$$$
    • Insured
    • Premium
    • While covered by an insurance policy, the insured suffers a loss covered by the policy
    • $
    • Beneficiary
    • Deductible
    • $
  15. Types of Insurance to Buy

    Slide 15 - Types of Insurance to Buy

    • Consider purchasing the following types of insurance:
    • If you…
    • Buy…
    • To cover…
    • Own a car
    • Auto
    • Liabilities and damage involving your car
    • Own a house
    • Homeowner’s
    • Liabilities from someone being hurt on your property and damage to your property and belongings
    • Need more coverage than your homeowner’s and auto insurance
    • Umbrella
    • Liabilities in excess of the coverage from your homeowner’s and auto insurance
    • Work and have dependents who rely on your income
    • Life, disability, accidental death & dismemberment
    • Loss of income from being unable to work; one of your greatest assets is the ability to generate income
    • Are alive
    • Health
    • Medical expenses; health insurance is so complicated it would require its own presentation; but suffice it to say that every person in your family should be covered by some sort of health insurance
  16. Types of Insurance to Avoid

    Slide 16 - Types of Insurance to Avoid

    • Avoid purchasing these types of insurance:
    • Extended warranties on products
    • Home warranty plans
    • Riders for minor things (e.g., getting paid $25 whenever your car is towed)
    • Renter’s insurance may be good for renters with valuable belongings
    • But it is much less important than homeowner’s insurance because renters are not liable for someone being hurt in their rental—the landlord is liable
  17. Homeowner’s and Auto Insurance

    Slide 17 - Homeowner’s and Auto Insurance

    • Broadly speaking, there are two types of coverage for homeowner’s and auto insurance:
    • Liability insurance
    • Damage insurance
    • Covers your financial responsibility to compensate someone harmed
    • Covers your costs to repair or replace your own damaged property
  18. Homeowner’s Insurance Coverage Options

    Slide 18 - Homeowner’s Insurance Coverage Options

    • Covers
    • Coverage Guidance
    • Liability
    • Liability Protection
    • Judgments, defense costs, etc. you incur from someone suing you due to their being harmed while on your property
    • A good starting point for your liability protection is $50,000; as your net worth increases, or as you are able to afford higher limits, you can consider increasing to upwards of $300,000
    • Damage
    • Dwelling Protection
    • Damage to your house, attached structures, fixtures (built-in appliances, plumbing, heating, wiring) due to a fixed list of causes
    • Your dwelling, other structures, and personal property protection limits should cover the amount it would take to replace all covered structures and property
    • Other Structures Protection
    • Damage to detached structures (storage sheds, fences, driveways, patios, retaining walls, etc.)
    • Personal Property Protection
    • Damage to the contents of your home and personal belongings
  19. Auto Insurance Coverage Options

    Slide 19 - Auto Insurance Coverage Options

    • Covers
    • Notes and Coverage Guidance
    • Liability
    • Bodily Injury Liability
    • Judgments, defense costs, etc. you incur from someone suing you due to your car causing bodily injury/property damage
    • Bodily injury liability is usually sold with a per-person/per-loss maximum amount; for example, $100,000 / $300,000 limits mean you are covered for up to $100,000 per person involved in the incident with a total $300,000 maximum for a given incident
    • Bodily injury and property damage liability are usually sold together; e.g., $100,000 / $300,000 bodily injury limits may be sold with $100,000 property damage limits
    • A minimum coverage is usually required by state law, but you may (and usually should) buy a higher coverage
    • Start at $50,000 / $100,000; as your net worth increases, or as you are able to afford higher limits, you can consider increasing them to upwards of $300,000 / $500,000
    • Property Damage Liability
    • Damage
    • Bodily Injury from Underinsured / Uninsured Motorist
    • Lost wages, medical expenses, etc. you incur from an accident with a motorist who doesn’t have any (uninsured) or enough liability insurance (underinsured)
    • Like bodily injury liability, this is usually sold with a per-person/per-loss maximum amount
    • Whereas property damage liability covers the tens or hundreds of thousands, this usually only covers in the thousands
    • Property Damage from Underinsured / Uninsured Motorist
    • Collision
    • Damage to your car as a result of collision
    • These two coverage options are generally only recommended for cars less than 10 years old (since cars older than 10 years generally have little value to protect)
    • Comprehensive
    • Damage to your car from most causes outside collision (theft, fire, vandalism, etc.)
    • Various Other
    • Miscellaneous events like rental car reimbursement, roadside assistance, etc.
    • In general, none of these are worthwhile for the cost
  20. Umbrella Insurance

    Slide 20 - Umbrella Insurance

    • Umbrella insurance is additional liability coverage over and above the liability coverage from your homeowner’s and auto insurance
    • Some umbrella insurance policies cover other liabilities that homeowner’s and auto do not cover, like false arrest, libel, slander, invasion of privacy, etc.
    • Insurance companies usually require umbrella insurance purchasers to have a minimum amount liability coverage on their homeowner’s and auto insurance
    • Purchasing umbrella insurance is recommended because:
    • It is usually relatively cheap for the large amount of coverage it provides (~$150-300 per year for $1,000,000 of coverage on top of your homeowner’s and auto insurance)
    • It typically provides an unofficial benefit: insurance companies (who potentially would need to pay up to $1,000,000 to settle a lawsuit) are incented to hire very good lawyers to attempt to reduce or eliminate that settlement
  21. Example

    Slide 21 - Example

    • Example
    • Here are examples where umbrella insurance may cover your liability:
    • Here is a general example of how an umbrella insurance policy works:
    • Umbrella Insurance: Examples
    • You cause a car accident causing serious injuries to multiple people
    • You cause a car accident damaging a truck carrying $750,000 of cargo
    • An acquaintance gets seriously injured at your house
    • You are a chaperone on a field trip and one of the kids hurts themselves
    • You host a party, someone else brings alcohol, and someone underage gets hurt
    • Your son or daughter borrows a friend’s car and wrecks the car or injures someone
    • Your auto insurance
    • has $300,000 liability coverage and
    • $5,000 deductible
    • Your umbrella insurance
    • has $1,000,000 liability coverage and
    • $300,000 deductible
    • You are sued due to an auto accident and settle with the claimant for
    • $1,000,000
    • You
    • pay your auto insurance
    • $5,000 deductible
    • Your auto insurance
    • pays your umbrella insurance’s
    • $300,000 deductible
    • Your umbrella insurance
    • pays the full
    • $1,000,000
    • to the claimant
  22. Effective Liability Coverage

    Slide 22 - Effective Liability Coverage

    • Your effective liability coverage is a measure of how much liability coverage you have across all your insurance policies
    • It tells you the amount of liability coverage you have in a worst-case scenario: a lawsuit that hits you where you have the least coverage
    • Your effective liability coverage is the smaller between this:
    • Your homeowner’s insurance liability coverage
    • Your umbrella insurance liability coverage
    • +
    • Your auto insurance liability coverage
    • Your umbrella insurance liability coverage
    • +
    • And this:
  23. Example

    Slide 23 - Example

    • Example
    • Effective Liability Coverage
    • You have $100,000 total-per-incident bodily injury liability coverage via your auto insurance, but no homeowner’s nor umbrella
    • Your effective liability coverage is $0, the minimum between ($0 + $0) and ($100,000 + $0)
    • In the worst case, someone is hurt on your property and they sue you, but you have no homeowner’s insurance so you will be responsible for the entire judgment against you, court fees, etc.
    • You have $50,000 liability coverage through your homeowner’s insurance
    • You have $300,000 total-per-incident bodily injury liability coverage through your auto insurance
    • You have $0 umbrella coverage because you have no umbrella insurance
    • Your effective liability coverage is $50,000, the minimum between ($50,000 + $0) and ($300,000 + $0)
    • In the worst case, someone is hurt on your property and they sue you, and your homeowner’s policy gives you $50,000 coverage
    • Your homeowner’s insurance liability coverage
    • Your umbrella insurance liability coverage
    • +
    • Your auto insurance liability coverage
    • Your umbrella insurance liability coverage
    • +
    • And this:
    • Your effective liability coverage is the smaller between this:
  24. Example

    Slide 24 - Example

    • How Much Liability Coverage Should I Own?
    • Everyone should aim to have effective liability coverage of at least $1,000,000
    • Even if your net worth is less than $1,000,000, you can still have a successful lawsuit made against you with a judgment of more than your net worth, which means your future earnings would be garnered
    • Being insured for over $1,000,000 may not cover all judgments against you, but having that insurance motivates your insurance company to hire good lawyers for your defense to avoid paying out that $1,000,000
    • If you have a high net worth, aim to have an effective liability coverage of $2,000,000 or more
    • If you cannot afford to get the suggested amount of effective liability coverage, start with what you can afford and increase it over time
    • Your homeowner’s insurance liability coverage
    • Your umbrella insurance liability coverage
    • +
    • Your auto insurance liability coverage
    • Your umbrella insurance liability coverage
    • +
    • $50,000
    • $100,000/$300,000
    • $1,000,000
    • $1,000,000
    • Effective Liability Coverage = $1,050,000
  25. Life Insurance

    Slide 25 - Life Insurance

    • Life insurance provides a lump sum payment upon death of the insured
    • You only need to buy life insurance if there are people who financially depend on you (children, disabled relatives, elderly parents, etc.)
    • The amount of coverage is usually calculated according to the number of years of income that would need to be replaced:
    • If you have children, you may wish to buy enough coverage to maintain their current standard of living until they can work (age 18 to graduate high school or age 22 to graduate from a 4-year college)
    • If you have a mortgage, you may wish to buy enough coverage to pay it off, which can be a great help to your family
    • Employers often provide life insurance options at lower premiums to employees (which provide coverage only while employed by the employer)
  26. Life Insurance: Purchasing Process

    Slide 26 - Life Insurance: Purchasing Process

    • 2. Get term life insurance quotes (ignore other types of life insurance) from companies with good financial ratings at a site like
    • term4sale.com
    • , expecting to pay ~$200-$800/year
    • 3. Buy from the company with the best price that you can afford (or lower the coverage amount from Step 1)
    • 4. Get a medical exam to qualify for the coverage
    • 5. Optionally supplement with additional life insurance through your employer, knowing that insurance goes away when leaving the job
    • The value of enabling a parent to stay home full time
    • Other sources of income in the event of your death (wealthy and local in-laws or grandparents, etc.)
    • 1. Figure out how much your dependents will need to survive well; take into account:
  27. Principles for Buying Insurance

    Slide 27 - Principles for Buying Insurance

    • There are two principles to remember when buying insurance of any type (life, auto, homeowner’s, renter’s, etc.):
    • Choose high deductibles for lower premiums
    • Shop around and buy direct
  28. Example

    Slide 28 - Example

    • Choose High Deductibles for Lower Premiums
    • Some types of insurance (homeowner’s, car, umbrella) require a deductible to be paid if a covered loss occurs
    • Insurance companies often allow you to choose a higher deductible in return for lower premiums
    • Choose the highest deductibles that you can afford
    • This often saves you money in the long run
    • This also allows you to avoid the hassles of filing claims as often
    • Plan A: Buy a homeowner’s insurance premium of $800/year with a $250 deductible
    • Plan B: Buy a homeowner’s insurance premium of $550/year with a $1000 deductible
    • If you buy plan A, you are essentially paying an additional $800-$550=$250/year for $1,000-$250=$750 more of coverage; you would need to have a $1,000+ claim every $750/$250=3 years to make Plan A worthwhile, which is unlikely
    • Further, after each claim, your premium would likely be increased anyway
  29. Shop Around and Buy Direct

    Slide 29 - Shop Around and Buy Direct

    • Insurance companies have vastly different pricing, so shop around whenever your policy period is ending to save money
    • Most insurance is sold through agents and brokers who earn commission when they sell a policy, thus raising your cost, so:
    • Take advantage of insurance companies that allow buying policies direct
    • Take advantage of employer-provided insurance options
    • Employers often provide lower premiums to employees by buying insurance “in bulk” for all their employees
    • This also allows you to bypass agents and brokers
  30. Example

    Slide 31 - Example

    • Compound Interest
    • Interest is a fee paid to a lender (you) by a borrower (the bank)
    • Interest that has been added from previous years also earns interest!
    • This is compound interest.
    • It is said that Albert Einstein declared compound interest to be the most powerful force in the universe. Your money makes more and more money over time!
    • A bank account with $1,000 receives 5% interest at year end
    • At the end of Year 1, 5% interest is earned on that $1,000 = $50
    • That $50 of interest is paid back into the account at year end
    • At the beginning of Year 2, the account now starts at $1,050
    • At the end of Year 2, 5% interest is earned on that $1,050 = $52.50!
    • Without adding any more than the initial $1,000, the bank account increases due to more and more interest being added each year:
  31. Small Early Savers Beat Big Late Savers

    Slide 32 - Small Early Savers Beat Big Late Savers

    • Investing early and often allows you to benefit from compound interest by having as much money as possible earn interest for as long as possible:
    • Small Early Saver
    • Big Late Saver
    • Monthly Investment
    • $2,000
    • $4,000
    • Total Years Invested
    • 40
    • 25
    • Total Contributed
    • $80,000
    • $100,000
    • Total Interest Earned
    • $250,000
    • $137,000
    • Total Portfolio
    • $330,000
    • $237,000
    • 40% more saved
    • 40% more saved by contributing 20% less
  32. What is Risk?

    Slide 34 - What is Risk?

    • An investment is something that is purchased with the expectation of gaining money from it over some time
    • Every investment can decrease in value, which is the investment’s risk
    • A riskier investment is one that may greatly appreciate or depreciate over a short period of time
    • A safer investment is one that will likely appreciate or depreciate only a small amount over time
  33. Risk Tolerance

    Slide 35 - Risk Tolerance

    • Different people have different tolerance to risk due to both personality and circumstance:
    • Generally, risk tolerance decreases as you get older because:
    • You have less time to recover from a big loss before retirement
    • You have less potential earning power from future employment
    • You have less time to allow investments to compound
    • Time
    • Risk Tolerance
    • You are willing to take a lot of risk
    • Low risk tolerance
    • High risk tolerance
    • You are willing to take little risk
  34. Determine Your Risk Tolerance

    Slide 36 - Determine Your Risk Tolerance

    • Your risk tolerance is based on many factors, including:
    • Personality and upbringing
    • Current circumstances
    • Expected future circumstances
    • Use the tables below to gauge your risk tolerance:
    • Low: Willing to take little risk Medium: Willing to take some risk High: Willing to take risk
    • Your Risk Tolerance Goes Down If:
    • You are saving for an upcoming large purchase (e.g., a house)
    • You have or expect children
    • You have major medical conditions
    • Your strongly prefer no loss of principal even in a bad market
    • Your Risk Tolerance Goes Up If:
    • You have a lot of cash on hand
    • You have adequate insurance of all types
    • You expect a large inheritance
    • You are willing to forgo/have a late retirement
    • You have a means of income that will likely be stable in retirement
    • You can handle a loss of 20%+ to your investments in a bad market
  35. Why Diversify?

    Slide 38 - Why Diversify?

    • Good investing increases expected return and decreases risk
    • Diversification decreases risk without sacrificing return!
    • The Nobel Prize in Economics was given to financial researchers who theorized that diversifying your investments can reduce risk while keeping the same expected return
    • While only a theory, it is widely accepted and used across the financial industry
    • More info: http://en.wikipedia.org/wiki/Modern_portfolio_theory
    • Expected Return
    • Risk
  36. What is Diversification?

    Slide 39 - What is Diversification?

    • Diversification is investing in a variety of generally uncorrelated things, including:
    • Part ownership of corporations (stocks)
    • Loans to a corporation or government (bonds)
    • Cash
    • Before investing in any of those things, it is important to understand what each of them is:
    • First we’ll look at the details of stocks, bonds, and cash
    • Then we’ll look at mutual funds and ETFs, which are investments that allow for easy and broad diversification
    • Your Portfolio
    • Stocks
    • Bonds
    • Cash
  37. What are Stocks?

    Slide 40 - What are Stocks?

    • Owning stock represents partial ownership of a corporation
    • An owner of a stock is called a shareholder
    • Stocks are bought and sold in different stock exchanges around the world (New York Stock Exchange, Tokyo Stock Exchange, etc.)
    • Stocks typically give value to shareholders in two ways:
    • Appreciation is an increase in the price of the stock itself (people are willing to pay more than before for a share of that stock)
    • You bought a stock at $25 and it appreciated to $30, giving you an unrealized gain of $5 (profit yet to be cashed in)
    • You sell the stock, giving you a realized gain of $5
    • Dividends are payments of a portion of the corporation’s profits distributed to shareholders from time to time
    • Not all stocks pay dividends; many companies (like Google) choose to reinvest all profits into the company to try to boost growth
    • Whereas appreciation/depreciation result in unrealized gains/losses, dividends result in cash paid directly to shareholders
    • Stocks can also lose value for shareholders in two ways:
    • Stocks can depreciate, the opposite of appreciation
    • Corporations can reduce or stop dividends
    • COKE
    • Coca-Cola Bottling Co.
    • Your Portfolio
  38. Stock Example

    Slide 41 - Stock Example

    • A share of COKE was worth $62.56 in Sep 2013 and $74.60 in Sep 2014
    • During that year, COKE gave a dividend payment of 25¢ once a quarter
    • After that year, an owner of one share of COKE:
    • Had an unrealized gain of $74.60 - $62.56 = $12.02 through appreciation
    • Had received 4 payments of 25¢ = $1 through dividends
    • So, simply viewing a chart of stock value over time only tells you one part of the profit you could have made; you must also account for profit from dividends
    • COKE
    • Coca-Cola Bottling Co.
    • Your Portfolio
    • Appreciation
    • Dividends
    • http://www.google.com/finance?chdnp=0&chdd=1&chds=1&chdv=1&chvs=maximized&chdeh=0&chfdeh=0&chdet=1412110639236&chddm=98532&chls=IntervalBasedLine&q=NASDAQ:COKE&ntsp=0&ei=KBkrVICyGernigLRrYHoDw
  39. What Kinds of Stocks Exist?

    Slide 42 - What Kinds of Stocks Exist?

    • You can buy stocks in corporations worldwide:
    • You can buy stocks in corporations of all sizes:
    • COKE
    • Coca-Cola Bottling Co.
    • Your Portfolio
    • US
    • Corporations in the US
    • International
    • Corporations outside the US
    • Emerging Market
    • Corporations in countries with developing markets (Brazil, India, Russia, China, etc.)
    • Large
    • Called large capitalization (large cap) corporations
    • Medium
    • Called medium capitalization (med cap) corporations
    • Small
    • Called small capitalization (small cap) corporations
  40. Are Stocks Risky?

    Slide 43 - Are Stocks Risky?

    • Stocks have risk:
    • Corporations can depreciate
    • Corporations can reduce or stop paying dividends
    • These risks are caused by:
    • COKE
    • Coca-Cola Bottling Co.
    • Your Portfolio
    • Business risk
    • Poor commercial performance by the corporation
    • Market risk
    • Overall market volatility
    • Political risk
    • Changes to law or government that adversely impact the corporation
  41. Are Stocks Risky?

    Slide 44 - Are Stocks Risky?

    • US stocks have less risk than international stocks because of the relative stability of US laws and government (that is, US stocks generally have less market and political risk than international stocks)
    • International stocks in more stable countries (U.K., Japan, etc.) have less risk than stocks in emerging markets for the same reason
    • Less Risk
    • More Risk
    • US Stocks
    • International Stocks
    • Emerging Market Stocks
  42. Are Stocks Risky?

    Slide 45 - Are Stocks Risky?

    • Large cap stocks have less risk than medium cap stocks because they are often more regulated and scrutinized by more people
    • Similarly, medium cap stocks have less risk than small cap stocks
    • Less Risk
    • More Risk
    • Large Cap Stocks
    • Medium Cap Stocks
    • Small Cap Stocks
  43. Example

    Slide 46 - Example

    • What are Bonds?
    • A bond is a loan to some entity for some term at some interest rate
    • Here is an example of a bond:
    • Ben buys a $1,000 20-year bond from the US government
    • The bond is a loan of $1,000 that Ben gave to the US government, for which he shall receive repayment with interest after 20 years
    • Bonds can be bought from different places:
    • US government / Treasury bonds are issued by the US government
    • Agency bonds are issued by government agencies like Ginnie Mae, Freddie Mac, and Fannie Mae
    • Treasury-Inflation Protected Securities (TIPS) are issued by the US government that protect the lender from losing value due to inflation
    • Municipal bonds are issued by states and localities (interest from these bonds are usually exempt from income taxes)
    • Corporate bonds are issued by corporations
    • Bonds can have different terms:
    • Short-term bonds mature in <5 years
    • Intermediate-term bonds mature in 5-10 years
    • Long-term bonds mature in >10 years
    • Term
    • $$$$
    • $$$
    • Your
    • Portfolio
    • Now
    • Later
    • US Government
  44. Are Bonds Risky?

    Slide 47 - Are Bonds Risky?

    • Bonds have risk because the borrower may not pay back part or all the loan
    • When this happens, it is called a default
    • Credit bureaus rate each borrower on a scale of how likely they are to default (on these scales, “A”s mean a low chance of default, “B”s are worse, etc.)
    • Corporate bonds are riskier than government bonds because the US government is more stable than any company and has ways to avoid default
    • So why would anyone invest in a corporate bond over a government bond? Because corporations pay a higher interest rate than government bonds to compensate buyers for taking higher risk
    • Some corporate bonds have less risk than others
    • Term
    • $$$$
    • $$$
    • Your
    • Portfolio
    • Now
    • Later
    • US Government
  45. Example

    Slide 48 - Example

    • Are Bonds Risky?
    • Bonds have risk because they can lose value:
    • Today, I buy a 1-year bond yielding 5% for $100 (in 1 year, I get $105)
    • Later that day, I can easily sell the bond for $100 to someone else since they’d know that they will earn 5% interest (in 1 year, they get $105)
    • But what if interest rates increased to 6% that day? If I tried to sell the bond at $100, a buyer would get $105 after 1 year; but no one would do that because they could just buy a new bond at 6% to earn $106!
    • I can only sell my 5% yield bond by discounting it! My bond lost value!
    • Bonds with longer terms are riskier than those with shorter terms because:
    • There is more time in which the lender could default
    • There is more time in which the market’s interest rate could change, which could cause the bond to lose value
    • So why would anyone invest in a long-term bond over a short-term bond? Because lenders pay a higher interest rate for longer term bonds to compensate buyers for taking higher risk
    • Bonds generally have less risk than stocks
    • Conceptually this is true because there is much higher chance for a corporation to depreciate than for a corporation to go into default
    • Less Risk
    • More Risk
    • Govern-ment bonds
    • Corporate bonds
    • Stocks
    • Less Risk
    • More Risk
    • Short-term bonds
    • Intermediate term bonds
    • Long-term bonds
    • Term
    • $$$$
    • $$$
    • Your
    • Portfolio
    • Now
    • Later
    • US Government
  46. Bond Growth Example

    Slide 49 - Bond Growth Example

    • Adapted from https://personal.vanguard.com/pdf/icrdir.pdf
    • Capital losses begin (bonds lose value) because interest rates begin to rise
    • Despite capital losses, the investment has still grown overall due to income from interest paid on the bonds
    • In this example, it just so happens that compound interest more than offsets the capital losses at its worst point
  47. Example

    Slide 50 - Example

    • What is Cash?
    • Cash is currency or an equivalent that can be used immediately or near-immediately
    • Examples of cash include:
    • Certificate of Deposits (CDs) are technically bonds, but their role in your finances are closer to cash
    • Dollar bills
    • Money in your savings and checking accounts
    • Certificate of Deposits (CDs)
  48. What are CDs?

    Slide 51 - What are CDs?

    • A Certificate of Deposit (CD) is a deposit in a bank or credit union that earns interest at a stated frequency (monthly, quarterly, annually, etc.) for some term at the end of which the CD is said to mature and the deposit is returned
    • The deposit can be withdrawn before maturity at penalty
    • CDs with longer terms generally pay more interest
    • CDs are very similar to bonds, except whereas bonds have risk of the institution defaulting, CDs can be insured against the bank or credit union going bankrupt
    • This insurance is called deposit insurance and is handled for banks by the Federal Deposit Insurance Corporation (FDIC) and for credit unions by the National Credit Union Administration (NCUA) for deposits up to $250,000
    • CDs should always be bought from a bank that is insured by the FDIC or a credit union that is insured by the NCUA
    • CDs should never be bought for deposits above $250,000 (minus the interest to be earned)
    • $$$
    • $$$
    • Your
    • Portfolio
    • Now
    • Bank
    • /
    • Credit Union
    • Term
    • $
    • Interest
    • $
    • Interest
    • Maturity
  49. Example

    Slide 52 - Example

    • How are CDs Used?
    • CDs are best used as a savings vehicle for money that must be available in full within a short amount of time (< 5 years—too short to safely invest in stocks)
    • CD laddering allows a good balance between access to your deposit and higher interest of longer-terms:
    • You want to hold $5,000 in CDs, so you buy:
    • CD 1 for $1,000 with a maturity of 1 year
    • CD 2 for $1,000 with a maturity of 2 years
    • CD 3 for $1,000 with a maturity of 3 years
    • CD 4 for $1,000 with a maturity of 4 years
    • CD 5 for $1,000 with a maturity of 5 years
    • When CD 1 matures, buy $1,000 5-year CD 6
    • When CD 2 matures, buy $1,000 5-year CD 7
    • Etc.
    • You can make the terms used in your CD ladder longer (for higher overall yields) or shorter (for more frequent access to your deposit)
    • CD 1
    • Time
    • CD 2
    • CD 3
    • CD 4
    • CD 5
    • CD 6
    • CD 7
    • CD 8
    • CD 9
    • CD 10
    • CD 11
    • CD 12
    • CD 13
    • CD 14
  50. Example

    Slide 53 - Example

    • Is Cash Risky?
    • Cash has risk because it can lose its buying power
    • This is called inflation
    • Example: If there was inflation over the past year, your money would be able to buy less today than it did last year
    • But cash has less risk (and therefore less return) than bonds or stocks:
    • Less Risk
    • Less Return
    • More Risk
    • More Return
    • Cash
    • Bonds
    • Treasury Corporate
    • Stocks
    • L cap M cap S cap
    • US Int’l Emerging Market
  51. What are Mutual Funds?

    Slide 54 - What are Mutual Funds?

    • A mutual fund is a company that buys a bunch of related investments on behalf of investors
    • The mutual fund simplifies management for investors who want to buy a wide variety of related investments
    • Mutual funds are like a basket of related investments – buying a share of a mutual fund is equivalent to buying a portion of every underlying investment contained in the basket, but without the hassle of managing each underlying investment individually
    • A stock fund a mutual fund that invests in a group of related stocks; a bond fund is a mutual fund that invests in a group of related bonds
    • Dividends and interest from all the underlying investments are collected throughout the year by the mutual fund and distributed to investors periodically as dividends
    • Mutual Fund
    • AAPL
    • GOOG
    • XOM
    • Stocks
    • Fund
    • Your Portfolio
  52. Ex

    Slide 55 - Ex

    • Ex
    • What are Mutual Funds?
    • A market index is a measurement of the value of one section of the market
    • The Dow Jones Industrial Average (the “Dow”) measures the value of 30 of the largest public US companies
    • The S&P 500 measures the value of 500 of the largest public US companies
    • A mutual fund’s underlying investments are all related in that they are all tracked by the same market index
    • Mutual fund of S&P 500 stocks
    • AAPL
    • GOOG
    • XOM
    • S&P 500
    • Fund
    • Your Portfolio
  53. What are Mutual Funds?

    Slide 56 - What are Mutual Funds?

    • Each block below represents a different section of the global stock market
    • Each block can further be split into smaller blocks of market sub-sections
    • Indexes exist to measure each block (a given mutual fund only tracks a single block)
    • Two example stocks will be traced to show how they exist in different sections
    • Total US Stock Market
    • Every publicly traded US corporation
    • S&P 500
    • 500 large US corporations
    • Extended Market
    • Every publicly traded US corporation minus those in the S&P 500
    • Large Cap
    • Large US corporations
    • Mid Cap
    • Medium US corporations
    • Small Cap
    • Small US corporations
    • Total International Stock Market
    • Every publicly traded non-US corporation
    • Developed
    • Corporations in developed markets
    • Emerging
    • Corporations in emerging markets
    • Total World Stock Market
    • Every publicly traded corporation in the world
    • REIT
    • US corporations that specialize in owning real estate
    • L Cap Int’l
    • M
    • S
    • Dow
    • Microsoft (MSFT is a part of the Total World Stock Market, the Total US Stock Market, the Dow, the S&P 500, the group of all large US corporations, but is not a REIT
    • MSFT
    • CapLease exists in the total world stock market, the total US stock market, the Extended Market, the group of all small US corporations, and is a REIT
    • LSE
  54. What are Mutual Funds?

    Slide 57 - What are Mutual Funds?

    • Another popular way to split the stock market is by various industrial sectors:
    • Financial services
    • Technology
    • Etc.
    • A mutual fund can also track an index that tracks one of these industrial sectors
    • Total US Stock Market
    • Every publicly traded US corporation
    • Financial Services
    • US corporations that specialize in financial services
    • Technology
    • US corporations that specialize in technology
  55. Example

    Slide 58 - Example

    • What are Mutual Funds?
    • Mutual funds are different from stocks in that they are only bought and sold at the end of a trading day (thus their prices are only updated at the end of the trading day)
    • Mutual funds have ticker symbols like stocks:
    • Mutual fund symbols are usually 5 letters, whereas individual stocks are usually 1-4 letters long
    • The first letter of a mutual fund symbol gives a hint as to the investment company associated with that mutual fund
    • VFINX is the ticker symbol for the mutual fund called “Vanguard 500 Index Fund Investor Shares”
    • VFINX starts with a V because it is associated with the investment company Vanguard
    • VFINX invests in portions of every stock in the S&P 500
    • Buying a share of VFINX effectively buys you shares in every one of those 500 companies
    • VFINX
    • AAPL
    • GOOG
    • XOM
    • S&P 500
    • VFINX
    • Your Portfolio
  56. Who Manages Mutual Fund Investments?

    Slide 59 - Who Manages Mutual Fund Investments?

    • The underlying investments in a mutual fund are decided on by the fund’s investment manager:
    • An
    • actively managed
    • mutual fund has an investment manager who tries to beat an index by researching corporations in that index and then deciding which to buy or sell
    • An
    • indexed
    • (passively managed) mutual fund has an investment manager that simply tries to match an index by buying stocks or bonds that are in the index
  57. What costs do Mutual Funds have?

    Slide 60 - What costs do Mutual Funds have?

    • When you buy a mutual fund, you pay not only for the underlying investments (bonds, stocks, etc.)—you also pay for administration
    • You can think of these fees as the cost of easy diversification
    • Expense ratio (ER) is the percentage of the fund’s net worth each year that goes toward these administrative management fees
    • ERs are typically between 0.02% to 2%
    • Loads are commissions paid to the money management company through which you buy the fund
    • Many mutual funds are no-load, which mean there are no commissions
  58. Example

    Slide 61 - Example

    • Mutual Fund Share Classes
    • Some mutual funds are part of a family of funds that invest in the exact same things, but have lower expense ratios
    • Lower expense ratios are given only to investors willing to commit a larger amount of money; this is reflected in the funds having higher minimum investments
    • These lower expense ratio funds with higher minimums are usually called “institutional” funds because they are usually only accessible by large investment institutions
    • Note, however, that many employer-provided retirement plans, like 401(k)s, are given special access to institutional funds
    • Vanguard has this family of 3 funds that all track the S&P 500 index:
    • Symbol
    • Class
    • ER
    • Minimum Investment
    • VIIIX
    • Institutional Plus
    • 0.02%
    • $200,000,000
    • VINIX
    • Institutional
    • 0.04%
    • $5,000,000
    • VFINX
    • Investor
    • 0.17%
    • $3,000
  59. Mutual Fund Examples: Fidelity

    Slide 62 - Mutual Fund Examples: Fidelity

    • Vanguard has similar mutual funds available, many more of which are cheaper, indexed funds!
    • Here are examples of some mutual funds run by Fidelity:
    • Market Segment
    • Symbol
    • Management
    • ER %
    • Fund Name
    • US: Total US Stock Market
    • FSTMX
    • Indexed
    • 0.10
    • Fidelity Spartan Total Market Index
    • US: S&P 500
    • FUSEX
    • Indexed
    • 0.10
    • Fidelity Spartan 500 Index
    • US: Large Caps
    • FCNTX
    • Active
    • 0.74
    • Fidelity Contrafund
    • US: Mid Caps
    • FSEMX
    • Indexed
    • 0.10
    • Fidelity Spartan Extended Market Index
    • US: Real Estate
    • FRESX
    • Active
    • 0.84
    • Fidelity Real Estate Investment Portfolio
    • Int’l: Total Int’l Stock Market
    • FSIIX
    • Indexed
    • 0.20
    • Fidelity Spartan International Index
    • Int’l: Emerging Markets
    • FTEMX
    • Active
    • 1.40
    • Fidelity Total Emerging Markets Fund
    • US: Total US Bond Market
    • FTBFX
    • Active
    • 0.45
    • Fidelity Total Bond Fund
    • US: TIPS
    • FINPX
    • Active
    • 0.45
    • Fidelity Inflation-Protected Bond Fund
  60. What are ETFs?

    Slide 63 - What are ETFs?

    • ETFs (exchange-traded funds) can be thought of in the same way as mutual funds since they are very similar:
    • ETFs are like a basket of investments (stocks or bonds)
    • ETFs are usually not actively managed, so their ERs are low
    • ETFs track the same indexes as mutual funds
    • But, ETFs are traded exactly like stocks:
    • Brokerages generally charge money to buy and sell ETFs
    • They can bought and sold throughout the trading day, whereas mutual funds can only be traded at the end
    • There is no major difference between buying a mutual fund versus an ETF if both track similar indexes
    • Note: ETFs are structured in such a manner that there is a small tax advantage in holding an ETF over a mutual fund, but for index funds this advantage is small
    • Advanced Tactic
    • If you find an ETF that tracks the same index as a mutual fund, but the ETF has a lower ER, then it is likely worth the brokerage fee to buy (and later sell) the ETF, given the long-term savings from the ETF’s lower ER
    • If you find an ETF that tracks the same index as a mutual fund, but the ETF has a higher ER, then it is almost always better to buy the mutual fund, since the ETF costs money to trade and it has a higher ER
    • Mutual Fund
    • ETF
  61. Money Market Mutual Funds

    Slide 64 - Money Market Mutual Funds

    • In addition to stock and bond funds, there are also money market funds that invest in short-term investments that can be easily converted to cash
    • Unlike stock and bond funds, money market funds are designed to maintain a price of $1.00 per share, so all their return is given to investors via dividends
    • Like bank accounts and CDs, money market funds are another way of holding cash that generally return slightly higher returns
    • Those higher returns come at the cost of slightly higher (though still very low) risk because money market funds are not insured by the FDIC like bank accounts and CDs can be
  62. How Do I Diversify My Portfolio?

    Slide 65 - How Do I Diversify My Portfolio?

    • Invest in mutual funds instead of individual stocks and bonds
    • Invest in both stock funds and bond funds
    • Invest in different corporations of different sizes in different industries:
    • Choose a stock fund that tracks a broad stock index (e.g. total US stock market)
    • Invest in both corporate bonds and treasury bonds:
    • Choose a bond fund that tracks a broad bond index (e.g. total US bond market)
    • Invest in corporations that are in different countries
    • Buy at least one international stock fund
    • Store your cash in money market mutual funds, CDs, and bank accounts
    • We’ll soon look at portfolios (containing as few as one mutual fund!) that do all the above
  63. Investment Costs

    Slide 67 - Investment Costs

    • Investing costs money
    • Investors must pay brokerages to buy stocks for them
    • Investors must pay mutual funds to manage the basket of investments
    • Investors must pay banks to hold cash
    • These costs directly reduce your return on your investments
    • So minimize your investment costs!
  64. Minimize Investment Costs

    Slide 68 - Minimize Investment Costs

    • The orange investor buys an expensive 1.5% ER S&P 500 mutual fund until retirement at 65
    • The blue investor buys a cheap 0.5% ER S&P 500 mutual fund until retirement at 65
    • The blue investor effectively earns 1% more from his investments every year, which compounds every year
    • After 40 years, the blue investor ends up saving enough for 6 more years of retirement
    • $322,000+
    • extra savings
    • at age 65
    • 6 extra years
    • of retirement
  65. How to Minimize Investment Costs

    Slide 69 - How to Minimize Investment Costs

    • 1. Favor mutual funds over individual stocks
    • 2. Favor mutual funds with low ERs
    • 3. Favor no-load mutual funds
  66. Favor Mutual Funds over Individual Stocks

    Slide 70 - Favor Mutual Funds over Individual Stocks

    • You could diversify by buying thousands of individual stocks instead of buying a mutual fund
    • However, each time you buy and sell a different stock, you pay a transaction fee to the brokerage
    • These fees end up being much more expensive than the annual ER of a mutual fund
    • It also takes a lot of manual work to rebalance the amount of each stock you own as different stocks change in value
    • Favor mutual funds over individual stocks
  67. Favor Mutual Funds with Low ERs

    Slide 71 - Favor Mutual Funds with Low ERs

    • Actively managed mutual funds usually have ERs >1.5% to pay investment managers to try to beat the benchmark index they compare themselves to
    • Actively managed mutual funds vary greatly in their success over the long term
    • Studies have shown that actively managed mutual funds often underperform in years following their success, thereby reverting back to have the same performance as the benchmark index, but with higher ERs that erode returns
    • Indexed mutual funds usually have ERs <0.50% since the investment manager merely follows a simple formula for purchases
    • A Princeton economist Burton Malkiel argues that one cannot consistently outperform market averages and that it is statistically unlikely that an average investor would happen to select those few actively managed mutual funds which will outperform their benchmark index over the long term
    • As such, it is generally better to buy the much cheaper indexed mutual funds that simply track the benchmark index
    • Many great indexed mutual funds have ERs <0.20%!
    • Favor mutual funds with lower ERs
  68. Favor No-Load Mutual Funds

    Slide 72 - Favor No-Load Mutual Funds

    • Some mutual funds charge loads
    • Loads can be charged at purchase, at sale, or even while you own the mutual fund
    • Loads are different from ERs in that loads are given as sales commissions to a company that sells the mutual fund to investors, whereas ERs are used to manage the fund itself
    • A huge amount of great mutual funds charge no loads
    • There is no advantage to buying mutual funds that charge any kind of load
    • Favor no-load mutual funds
  69. How to Minimize Investment Costs

    Slide 73 - How to Minimize Investment Costs

    • 1. Favor mutual funds over individual stocks
    • 2. Favor mutual funds with low ERs
    • 3. Favor no-load mutual funds
  70. Slide 74

    • 1. Background
    • 2. Common Methods
    • 3. Advanced Methods
  71. Background: Taxes

    Slide 75 - Background: Taxes

    • US federal, state, and local governments fund their operation by requiring individuals, corporations, and other organizations to pay them money, called tax
    • The Internal Revenue Service (IRS) is the US government agency responsible for collecting taxes and interpreting the US tax code
    • Different levels of government impose taxes on a wide variety of things:
    • Federal
    • State
    • Local
    • Income
    • Earners of money pay a percentage of the amount of money they earned
    • X
    • X
    • X
    • Payroll
    • Employers and employees pay a percentage of salaries for social security, Medicare, etc.
    • X
    • X
    • X
    • Sales
    • Purchasers of some goods and services pay a percentage of the purchase price
    • X
    • X
    • Property
    • Property owners pay taxes, usually based on the property’s value
    • X
    • Estate
    • Someone who dies pays a percentage of the dollar value of all material passed to their heirs
    • X
    • X
    • Gift
    • Donors pay a percentage of the dollar value of donated property
    • X
    • X
    • Import
    • Importers pay taxes usually based on the imported object’s value
    • X
    • And more!
    • This presentation focuses on income tax because there are many ways to reduce it, whereas most other taxes are not as easily reduced
  72. Ex

    Slide 76 - Ex

    • Background: Income Tax
    • Income tax is the requirement for earners of money (individuals, corporations, etc.) to pay a percentage of money earned in the year
    • Taxpayers are responsible for calculating and paying their own income tax
    • Federal tax returns are reports filed with the IRS to report tax owed
    • Taxpayers often pay the balance of taxes owed when filing their tax return
    • Tax returns are due once per year on April 15 (or first business day thereafter)
    • You earned money in 2013, so you must file an income tax return to the IRS reporting all income you received in the 2013 calendar year by April 15, 2014
    • Tax returns can cover more than just income tax
    • Income tax is also levied by states and some local governments in much the same way as federal income tax, sometimes with certain items taxed differently; because of the similarity, we only cover federal income tax
  73. Example

    Slide 77 - Example

    • Background: Income Tax Withholding
    • Income tax is actually paid throughout the year by most taxpayers through tax withholding
    • Tax withholding is the requirement for employers to withhold some money from wages and pay it to the IRS as a prepayment of the employee’s income tax
    • Employees tell their employer how much tax to withhold by filing Federal Form W-4 with their employer
    • When tax is due, the amount that was withheld in the year is credited to the employee as tax already paid:
    • If the employee owes less tax than the amount withheld, the employee gets a refund
    • If the employee owes more tax than the amount withheld, the employee owes additional tax (and if the amount owed is larger than a certain limit, the employee is penalized)
    • Ben starts a new job at Microsoft on January 1
    • On his first day, Ben fills out a W-4 and provides it to Microsoft
    • Microsoft determines based on the W-4 to withhold $400/month from Ben’s paycheck
    • As of December 31, Microsoft withheld $400 x 12 months = $4,800, which was already paid as tax
    • Scenario B: Ben does his taxes and calculates a total federal tax bill of $5,000. Even though $4,800 was already withheld, Ben still owes $200 in income tax.
    • Scenario A: Ben does his taxes and calculates a total federal tax bill of $4,000. Since $4,800 was already withheld, Ben overpaid $800 and will receive that as an income tax refund.
  74. Slide 78

    • Background: Income Tax
    • There are three types of income, each with different tax rates:
    • There are multiple tax rates for capital gains and ordinary income: higher income earners have higher rates
    • Lawmakers can change the tax rates from time to time
    • At a high level, the total income tax you owe each year is simply:
    • We’ll continually add more detail to this equation as we proceed through this section on tax background
    • First, we’ll add detail to the method for calculating tax owed from ordinary income
    • Type
    • Source
    • Tax Rate
    • Tax-Exempt
    • Income from municipal bonds
    • Not taxed
    • Capital Gains
    • Profit from selling an asset
    • Capital gains tax rate
    • Ordinary
    • All other income (wages, sales, interest, etc.)
    • Ordinary income tax rates
    • Capital Gains You Received
    • Ordinary Income You Received
    • +
    • Your Capital Gains Tax Rate
    • x
    • Your Ordinary Income Tax Rates
    • x
  75. Example

    Slide 79 - Example

    • Background: Ordinary Income Tax Rates
    • The Federal government taxes each dollar of your ordinary income at different rates:
    • Many people incorrectly think that being in the 25% marginal tax bracket means paying 25% tax on all their income
    • A single taxpayer with $100,000 in taxable ordinary income would look up their income in the “Taxable Income” row and conclude that they are in the 28% tax bracket
    • They then incorrectly think they owe $100,000 x 28% = $28,000 in income tax
    • Such people fear getting “bumped up” into a higher marginal income tax bracket because they think their whole income will be taxed at a higher rate
    • But in fact, only the dollars in that higher marginal tax bracket are taxed at that higher rate
    • The next slides show how to correctly calculate income tax owed
    • 2013
    • Single
    • Joint
    • Head of Household
    • Taxable Income
    • $0
    • to
    • $8,925
    • $8,925 
    • to $36,250
    • $36,250 to $87,850
    • $87,850 to $183,250
    • $183,250 to $398,350
    • $398,350 to $400,000
    • $400,000
    • and
    • up
    • $0
    • to $17,850
    • $17,850 
    • to $72,500
    • $72,500 to $146,400
    • $146,400 to $223,050
    • $223,050 to $398,350
    • $398,350 to $450,000
    • $450,000
    • and
    • up
    • $0
    • to $12,750
    • $12,750 to $48,600
    • $48,600 to $125,450
    • $125,450 to $203,150
    • $203,150 to $398,350
    • $398,350 to $425,000
    • $425,000
    • and
    • up
    • Rate
    • 10%
    • 15%
    • 25%
    • 28%
    • 33%
    • 35%
    • 39.60%
    • 10%
    • 15%
    • 25%
    • 28%
    • 33%
    • 35%
    • 39.60%
    • 10%
    • 15%
    • 25%
    • 28%
    • 33%
    • 35%
    • 39.60%
  76. Background: Ordinary Income Tax Rates

    Slide 80 - Background: Ordinary Income Tax Rates

    • $100,000
    • Income
    • A single taxpayer earns $100,000 in taxable ordinary income in 2013
  77. Background: Ordinary Income Tax Rates

    Slide 81 - Background: Ordinary Income Tax Rates

    • 2013
    • Single
    • Taxable Income
    • $0
    • to
    • $8,925
    • $8,925 
    • to $36,250
    • $36,250
    • to
    • $87,850
    • $87,850
    • to
    • $183,250
    • $183,250
    • to
    • $398,350
    • $398,350
    • to
    • $400,000
    • $400,000
    • and
    • up
    • Rate
    • 10%
    • 15%
    • 25%
    • 28%
    • 33%
    • 35%
    • 39.6%
    • $8,925
    • $36,250
    • $87,850
    • $183,250
    • $100,000
    • Income
    • Since the taxpayer is single, we use the blue area for single filers
  78. 2013

    Slide 82 - 2013

    • Single
    • Taxable Income
    • $0
    • to
    • $8,925
    • $8,925 
    • to $36,250
    • $36,250
    • to
    • $87,850
    • $87,850
    • to
    • $183,250
    • $183,250
    • to
    • $398,350
    • $398,350
    • to
    • $400,000
    • $400,000
    • and
    • up
    • Rate
    • 10%
    • 15%
    • 25%
    • 28%
    • 33%
    • 35%
    • 39.6%
    • Background: Ordinary Income Tax Rates
    • $8,925
    • $36,250
    • $87,850
    • $183,250
    • $100,000
    • Income
    • Taxed at 10%
    • $8,925 x 10% = $893
    • The first $8,925 are taxed at 10%
  79. 2013

    Slide 83 - 2013

    • Single
    • Taxable Income
    • $0
    • to
    • $8,925
    • $8,925 
    • to $36,250
    • $36,250
    • to
    • $87,850
    • $87,850
    • to
    • $183,250
    • $183,250
    • to
    • $398,350
    • $398,350
    • to
    • $400,000
    • $400,000
    • and
    • up
    • Rate
    • 10%
    • 15%
    • 25%
    • 28%
    • 33%
    • 35%
    • 39.6%
    • Background: Ordinary Income Tax Rates
    • $8,925
    • $36,250
    • $87,850
    • $183,250
    • $100,000
    • Income
    • Taxed at 10%
    • $8,925 x 10% = $893
    • Taxed at 15%
    • ($36,250 - $8,925) x 15% = $4,099
    • The next $27,325 dollars are taxed at 15%
  80. 2013

    Slide 84 - 2013

    • Single
    • Taxable Income
    • $0
    • to
    • $8,925
    • $8,925 
    • to $36,250
    • $36,250
    • to
    • $87,850
    • $87,850
    • to
    • $183,250
    • $183,250
    • to
    • $398,350
    • $398,350
    • to
    • $400,000
    • $400,000
    • and
    • up
    • Rate
    • 10%
    • 15%
    • 25%
    • 28%
    • 33%
    • 35%
    • 39.6%
    • Background: Ordinary Income Tax Rates
    • $8,925
    • $36,250
    • $87,850
    • $183,250
    • $100,000
    • Income
    • Taxed at 10%
    • $8,925 x 10% = $893
    • Taxed at 15%
    • ($36,250 - $8,925) x 15% = $4,099
    • Taxed at 25%
    • ($87,850 - $36,250) x 25% = $12,900
    • The next $51,600 dollars are taxed at 25%
  81. 2013

    Slide 85 - 2013

    • Single
    • Taxable Income
    • $0
    • to
    • $8,925
    • $8,925 
    • to $36,250
    • $36,250
    • to
    • $87,850
    • $87,850
    • to
    • $183,250
    • $183,250
    • to
    • $398,350
    • $398,350
    • to
    • $400,000
    • $400,000
    • and
    • up
    • Rate
    • 10%
    • 15%
    • 25%
    • 28%
    • 33%
    • 35%
    • 39.6%
    • Background: Ordinary Income Tax Rates
    • $8,925
    • $36,250
    • $87,850
    • $183,250
    • $100,000
    • Income
    • Taxed at 10%
    • Taxed at 15%
    • Taxed at 25%
    • Taxed at 28%
    • $8,925 x 10% = $892
    • ($36,250 - $8,925) x 15% = $4,099
    • ($87,850 - $36,250) x 25% = $12,900
    • ($100,000 - $87,850) x 28% = $3,402
    • The final $12,150 dollars are taxed at 28%
  82. 2013

    Slide 86 - 2013

    • Single
    • Taxable Income
    • $0
    • to
    • $8,925
    • $8,925 
    • to $36,250
    • $36,250
    • to
    • $87,850
    • $87,850
    • to
    • $183,250
    • $183,250
    • to
    • $398,350
    • $398,350
    • to
    • $400,000
    • $400,000
    • and
    • up
    • Rate
    • 10%
    • 15%
    • 25%
    • 28%
    • 33%
    • 35%
    • 39.6%
    • Background: Ordinary Income Tax Rates
    • $8,925
    • $36,250
    • $87,850
    • $183,250
    • $100,000
    • Income
    • Taxed at 10%
    • Taxed at 15%
    • Taxed at 25%
    • Taxed at 28%
    • $8,925 x 10% = $892
    • ($36,250 - $8,925) x 15% = $4,099
    • ($87,850 - $36,250) x 25% = $12,900
    • ($100,000 - $87,850) x 28% = $3,402
    • Total tax = $21,293
    • +
    • The total tax is calculated by summing the tax levied at each tax bracket
    • Note also that the total income tax owed is only $21,293, which is much less than the incorrectly calculated 28% of $100,000 = $28,000
  83. 2013

    Slide 87 - 2013

    • Single
    • Taxable Income
    • $0
    • to
    • $8,925
    • $8,925 
    • to $36,250
    • $36,250
    • to
    • $87,850
    • $87,850
    • to
    • $183,250
    • $183,250
    • to
    • $398,350
    • $398,350
    • to
    • $400,000
    • $400,000
    • and
    • up
    • Rate
    • 10%
    • 15%
    • 25%
    • 28%
    • 33%
    • 35%
    • 39.6%
    • Background: Ordinary Income Tax Rates
    • $8,925
    • $36,250
    • $87,850
    • $183,250
    • $100,000
    • Income
    • Taxed at 10%
    • Taxed at 15%
    • Taxed at 25%
    • Taxed at 28%
    • $8,925 x 10% = $892
    • ($36,250 - $8,925) x 15% = $4,099
    • ($87,850 - $36,250) x 25% = $12,900
    • ($100,000 - $87,850) x 28% = $3,402
    • Total tax = $21,293
    • +
    • Understanding your marginal income tax bracket is important because it tells you the rate charged for any additional income you make
    • This taxpayer is considered to be in the 28% marginal income tax bracket
  84. Slide 88

    • Background: Income Tax
    • Now that we’ve seen how multiple tax rates are used in calculating ordinary income tax, we can see why our equation uses the plural form: “ordinary income tax rates”:
    • Next, we will look at how to calculate tax owed from capital gains
    • Capital Gains You Received
    • Ordinary Income You Received
    • +
    • Your Capital Gains Tax Rate
    • x
    • Your Ordinary Income Tax Rates
    • x
  85. Example

    Slide 89 - Example

    • Background: Capital Gains Taxation
    • When you buy a stock, bond, or real estate, the amount you pay for it is called your cost basis
    • When you sell the asset, you either:
    • Sell it for more than you bought it, where the money made is called a capital gain
    • Sell it for less than you bought it, where the money lost is called a capital loss
    • If, before you sold, you held the asset for:
    • ≥ 1 year, it is a long-term capital gain / loss
    • < 1 year, it is a short-term capital gain / loss
    • Short-term capital gains are considered ordinary income so they’re taxed at the ordinary income tax rate
    • Long-term capital gains are explicitly taxed at a different tax rate, called the capital gains tax rate
    • The capital gains tax rate schedule for 2014 is:
    • Historically, a person’s capital gains tax rate is lower than their ordinary income tax rate
    • Capital losses offset capital gains if both long-term or if both short-term; here is an example of someone selling stocks in one tax year:
    • You had a long-term capital gain of $500 from selling AAPL
    • You had a long-term capital loss of $400 from selling GOOG
    • You have a net long-term capital gain of $100, on which you will pay tax at the capital gains tax rate
    • Capital gains/losses only apply to assets sold! If an asset has appreciated, but you haven’t sold it, there is absolutely no tax impact until you sell.
    • Taxpayers in 10% and 15% marginal tax brackets
    • 0%
    • Taxpayers in 25-35% marginal tax brackets
    • 15%
    • Taxpayers in 39.6% marginal tax bracket
    • 20%
    • Sell a stock, bond, or real estate
    • For a gain
    • For a loss
    • Having owned it >= 1 year
    • Having owned it < 1 year
    • Having owned it >= 1 year
    • Having owned it < 1 year
    • Long-term
    • capital gain
    • Short-term
    • capital gain
    • Long-term
    • capital loss
    • Short-term
    • capital loss
  86. Background: Income Tax

    Slide 90 - Background: Income Tax

    • We can now update our table of income types to include both long-term capital gains and short-term capital gains:
    • Now we update our equation to show that the total income tax you owe each year is:
    • Next, we look at the tax treatment for dividends
    • Tax Type
    • Income Type
    • Tax Rate
    • Tax-Exempt
    • Income from municipal bonds
    • Not taxed
    • Capital Gains
    • Long-Term
    • Profit from selling an asset held over a year
    • Capital gains tax rate
    • Short-Term
    • Profit from selling an asset held under a year
    • Ordinary income tax rates
    • Ordinary
    • All other income (wages, sales, interest, etc.)
    • Ordinary income tax rates
    • Long-Term Capital Gains You Received
    • Ordinary Income You Received Including short-term capital gains
    • +
    • Your Capital Gains Tax Rate
    • x
    • Your Ordinary Income Tax Rates
    • x
  87. Background: Dividend Taxation

    Slide 91 - Background: Dividend Taxation

    • Just as capital gains are taxed, dividends are also taxed
    • There are two kinds of dividends, each with different tax treatments:
    • Mutual funds that own stocks that pay both qualified and non-qualified dividends will collect all the qualified dividends received from its stock holdings and pay them to you in a qualified dividend on some schedule; it does the same for non-qualified dividends
    • Dividend Type
    • Description
    • Tax Rate
    • Qualified
    • Dividends paid by most US corporations to stockholders that have held the stock for a certain amount of time (~60 days before the dividend is paid)
    • Capital gains tax rate
    • Non-Qualified
    • All other dividends (things that are typically taxed at ordinary income tax rates, like taxable interest from a money market mutual fund, dividends from stocks held less than the required holding period of ~60 days, short-term capital gains, etc.)
    • Ordinary income tax rates
  88. Background: Income Tax

    Slide 92 - Background: Income Tax

    • We can now update our table of income types to include qualified and non-qualified dividends:
    • Now we update our equation to show that the total income tax you owe each year is:
    • We can further update our equation by looking at reductions: deductions and credits
    • Tax Type
    • Income Type
    • Tax Rate
    • Tax-Exempt
    • Income from municipal bonds
    • Not taxed
    • Capital Gains
    • Long-Term
    • Profit from selling an asset held over a year
    • Capital gains tax rate
    • Short-Term
    • Profit from selling an asset held under a year
    • Ordinary income tax rates
    • Dividends
    • Qualified
    • Dividends from most US corporations
    • Capital gains tax rate
    • Non-Qualified
    • All other dividends
    • Ordinary income tax rates
    • Ordinary
    • All other income (wages, sales, interest, etc.)
    • Ordinary income tax rates
    • Long-Term Capital Gains
    • Ordinary Income You Received Including short-term capital gains and non-qualified dividends
    • +
    • Your Capital Gains Tax Rate
    • x
    • Your Ordinary Income Tax Rates
    • x
    • Qualified Dividends
  89. Example

    Slide 93 - Example

    • Background: Deductions
    • You can reduce your ordinary income through deductions
    • Deductions reduce the amount of income the IRS considers you to have made in the tax year
    • Deductions are allowed by the government to:
    • 2010:
    • 1. Incur
    • $7,000 capital loss
    • 2. Deduct $3,000
    • 3. $4,000 capital loss remains
    • 2011:
    • 1.
    • Deduct $3,000
    • 2. $1,000 capital loss remains
    • 2012:
    • Deduct $1,000
    • Encourage certain behaviors
    • Buying homes (interest you pay on a mortgage is tax deductible)
    • Donating to charity (donations to qualified charities are tax deductible)
    • Saving for retirement (contributions to qualified retirement accounts are tax deductible)
    • Account for money that was used to actually produce the income being taxed
    • Expenses a business incurs to make money (gas, advertising, a landlord fixing broken appliances, etc.)
    • Account for money was used to financially support yourself or a dependent
    • Medical expenses are tax deductible if those expenses are above a certain portion of your income
    • Reduce the financial burden of capital loss
    • If you have a net capital loss in a tax year (by having more capital losses than gains), you can deduct the entire loss, $3,000 per year ($1,500 if married filing separately) until your entire loss is deducted:
  90. Background: Tax Credits

    Slide 94 - Background: Tax Credits

    • Tax credits reduce your final tax bill dollar for dollar
    • Deductions only reduce your taxable ordinary income
    • So, tax credits save you more money than deductions
    • The government gives tax credits to reduce the tax burden on certain individuals, including:
    • Individuals with low income
    • Elderly and disabled
    • First-time homebuyers
    • Disaster victims
    • Purchasers of alternative energy vehicles
    • Many more
    • Total tax
    • — Tax credits
    • Total tax due
  91. Background: Income Tax

    Slide 95 - Background: Income Tax

    • With that background covered, we can show a final equation to calculate the total income tax you owe each year:
    • Your Capital Gains Tax Rate
    • x
    • Ordinary Income You Received
    • Including Short-Term Capital Gains and Non-Qualified Dividends
    • Minus Deductions
    • Your Ordinary Income Tax Rates
    • x
    • +
    • Sum
    • Total income tax you owe
    • Minus Tax Credits
    • Long-Term Capital Gains
    • Qualified Dividends
  92. Slide 96

    • 1. Background
    • 2. Common Methods
    • 3. Advanced Methods
  93. Common Methods to Minimize Taxes

    Slide 97 - Common Methods to Minimize Taxes

    • Having covered the background of taxes in the US, we will now look at common methods to minimize taxes:
    • Tax Withholding Optimization
    • Retirement Accounts
  94. 1. Tax Withholding Optimization

    Slide 98 - 1. Tax Withholding Optimization

    • A poor strategy for tax withholding is to have your employer withhold lots more money than you will owe in taxes
    • In this case, that extra money is held by the government until you receive it back as a refund
    • This money earns you 0% interest for the entire time—a bad investment!
    • Instead, you should have your employer withhold less than you will owe in taxes
    • You can then invest that difference in a safe investment like a bank account
    • When taxes are due, you can withdraw that money to pay taxes owed
    • However, you should not have your employer withhold so little that you are penalized. This penalty can generally be avoided by:
    • Owing <$1,000 in tax after withholdings and credits
    • Withholding ≥90% of the tax owed for the current year
    • Withholding 100% of the tax owed for the previous year
    • Amount withheld
    • You are withholding too much
    • This money is earning 0% interest
    • You are withholding the right amount
    • Not more than the taxes owed
    • Not so little you are penalized
    • Exact amount of taxes owed
    • Amount below which you will be penalized
    • You are withholding too little
    • You will lose money to tax penalties
  95. 2. Retirement Accounts

    Slide 99 - 2. Retirement Accounts

    • The US government encourages taxpayers to save for retirement by giving tax advantages when putting money in retirement accounts
    • There are several types of tax-advantaged accounts; the two most popular are IRAs and EPRPs:
    • An individual may have multiple IRAs and EPRPs
    • IRA
    • Contributions:
    • You transfer money
    • EPRP
    • Contributions: Each paycheck
    • Name
    • Ex.
    • Contributions
    • Investment Management
    • IRA
    • Individual retirement account
    • You transfer money to your IRA custodian (an investment management company like Fidelity or Vanguard)
    • Managed by yourself, so it can hold any stocks, bonds, and mutual funds
    • EPRP
    • Employer-provided retirement plan
    • 401(k)
    • 403(b)
    • 457(b)
    • You employer routes a portion of your paycheck to your employer’s chosen EPRP administrator (an investment management company like Fidelity or Vanguard)
    • Managed through your employer, so it can only hold investments your employer chooses
    • Investments:
    • You decide
    • Investments: Employer chooses
  96. Example

    Slide 100 - Example

    • Specifics for EPRPs
    • There is no limit on who can contribute to an EPRP based on their income: anyone working at an employer that provides an EPRP can contribute with a tax benefit
    • Most employers match a portion of your contributions to an EPRP
    • One common benefit employers give is to match half of your contributions up to 6% of your salary, which means for every dollar you contribute, the employer adds 50¢ on your behalf
    • This is a 50% return on investment for almost no risk, so it should be a high priority to take advantage of this benefit
    • The EPRP administrator (Fidelity, Vanguard, etc.) determines the set of available investments
    • Most plans provide a variety of mutual funds
    • Some plans only provide expensive, actively-managed mutual funds
    • No matter the investment options, pick the funds that work best for you, while diversifying and minimizing investment costs
    • When you leave your job, you can:
    • Leave your EPRP where it is
    • Move the money into your new company’s EPRP (called a rollover)
    • Move it into an IRA
    • Your monthly salary is $10,000
    • You set your contribution to 10% ($1,000)
    • Your employer matches the maximum half of 6%: $300
    • Example
    • Your monthly salary is $10,000
    • You set your contribution to 5% ($500)
    • Your employer matches half of that: $250
  97. Types of Tax Advantages

    Slide 101 - Types of Tax Advantages

    • IRAs and EPRPs can have one of two different tax advantages: Traditional or Roth
    • The major differences between them are as follows:
    • Traditional accounts are often referred to as tax deferred accounts since contributions are not taxed up front, but withdrawals are taxed in retirement
    • Roth accounts are often referred to as tax free accounts since contributions are taxed up front, but withdrawals are not taxed at all
    • Contributions
    • Growth (cap gains + dividends)
    • Pre-Retirement Withdrawals
    • Retirement Withdrawals
    • Other
    • Traditional
    • Not taxed
    • Not taxed until withdrawal 
    • Taxed as ordinary income and penalized
    • Taxed as ordinary income
    • (since you haven’t yet paid tax on the contributions)
    • A minimum amount is required to be withdrawn yearly after you are 70½
    • Roth
    • Taxed as ordinary income
    • Not taxed
    • Contributions (not growth) can be withdrawn penalty- and tax-free
    • Not taxed
    • (since you already paid tax on the contributions)
    • No withdrawal requirements
  98. Should I Use Traditional or Roth?

    Slide 102 - Should I Use Traditional or Roth?

    • Traditional accounts essentially defer taxes to when you’re retired, when your marginal tax bracket may be lower since you no longer have income from a job
    • The general advice is:
    • If you think your marginal tax bracket will be lower at retirement, use Traditional accounts
    • If you think your marginal tax bracket will be higher at retirement, use Roth accounts
    • This advice is somewhat useless since:
    • No one can be sure whether their marginal tax bracket will be higher or lower in retirement
    • No one can be sure the US government will not change the tax treatment of either type of account between now and your retirement
    • These are some principles that may help you decide which kind of account to use:
    • If your marginal tax bracket is currently low (≤15%), consider contributing to Roth accounts while your tax bracket is still low to lock in that low tax rate
    • Otherwise, have a slight preference for using Traditional accounts because:
    • You benefit immediately from lower taxes (it is possible that you never receive the benefit from a Roth account due to changes in the law or an unfortunate early death)
    • You can always convert Traditional to Roth (by paying tax on the conversion amount at your current ordinary income tax rate), but not vice versa
    • You can also simply split your investments between each type to diversify your tax strategy
  99. Many Account Types

    Slide 103 - Many Account Types

    • You can have up to 4 types of tax-advantaged retirement accounts!
    • IRA
    • Roth
    • EPRP
    • Roth
    • IRA
    • Traditional
    • EPRP
    • Traditional
    • Individual
    • Retirement
    • Accounts
    • Employer-
    • Provided
    • Retirement
    • Plans
    • Traditional tax advantages
    • Roth tax
    • advantages
  100. Slide 104

    • Operating IRAs: Basics
    • Creation
    • Create an IRA by opening an account with an investment firm
    • At creation, tell the firm whether it should be a Traditional or Roth account
    • You can open multiple IRAs at different investment firms
    • The US government will view all of your Traditional accounts as one big Traditional account
    • They will also view all your Roth accounts as one big Roth account
    • Contribution
    • You make contributions by sending money to your investment firm and telling them to credit it to whatever IRA you like
    • You can consider contributions to have been made in the previous calendar year if the contribution is made before April 15 of the current year (example: On April 14, 2014, you can choose to make a contribution for the 2013 tax year)
    • You can make contributions in any amount as many times as you want up to the annual contribution limit (see next slide)
    • Taxes
    • You can deduct up to the deduction limit (see later slide) for contributions made to Traditional IRAs
    • 2014 Income: $50,000
    • Traditional IRA Contribution: $5,500
    • Remaining Income Subject to Taxes: $44,500
  101. Ex

    Slide 105 - Ex

    • Ex
    • Operating IRAs: Contribution Limits
    • The government limits the amount of money that workers can contribute to IRAs per year; these are called contribution limits
    • Contribution limits are higher for investors close to retirement (≥ age 50)
    • Contribution limits apply across all of a worker’s IRAs, both Traditional and Roth
    • If you are < age 50 with a Traditional IRA and a Roth IRA, you can contribute $5,500 maximum between those IRAs
    • Contribution limits are capped at the worker’s taxable income
    • If you are < age 50 and your taxable income in 2014 was $4,900, you can contribute $4,900 maximum to your IRAs in 2014, even though your contribution limit is $5,500
    • Contribution limits generally increase each year to account for inflation
    • 2014
    • < Age 50
    • >= Age 50
    • Traditional IRA
    • $5,500
    • $6,500
    • Roth IRA
    • $5,500
    • $6,500
    • More info: http://www.irs.gov/Retirement-Plans/Plan-Participant,-Employee/Retirement-Topics-IRA-Contribution-Limits
  102. Operating IRAs: Roth Contribution Limits

    Slide 106 - Operating IRAs: Roth Contribution Limits

    • The contribution limits for Roth IRAs are adjusted further based on your filing status and modified AGI (your total income minus some adjustments; you can estimate your modified AGI by looking at your adjusted gross income line on your previous year’s 1040 tax form):
    • If Your Filing Status Is...
    • And Your Modified AGI Is...
    • Then You Can Contribute...
    • Single, head of household, or married filing separately and you did not live with your spouse at any time during the year
    • <$114,000
    • Up to contribution limit
    • ≥$114,000 but <$129,000
    • A reduced amount
    • ≥$129,000
    • 0
    • Married filing jointly or qualifying widow(er)
    • <$181,000
    • Up to contribution limit
    • ≥$181,000 but <$191,000
    • A reduced amount
    • ≥$191,000
    • 0
    • Married filing separately and you lived with your spouse at any time during the year
    •  <$10,000
    • A reduced amount
    • ≥$10,000
    • 0
    • More info: http://www.irs.gov/Retirement-Plans/Plan-Participant,-Employee/Amount-of-Roth-IRA-Contributions-That-You-Can-Make-for-2014
    • 2014
    • < Age 50
    • >= Age 50
    • Roth IRA
    • $5,500
    • $6,500
  103. Operating IRAs: Traditional Deduction Limits

    Slide 107 - Operating IRAs: Traditional Deduction Limits

    • The IRS limits the tax-deductible portion of your annual Traditional IRA contribution
    • Since only Traditional IRAs are tax deductible, deduction limits only apply to Traditional IRAs, not Roth IRAs
    • Deduction limits are complicated; refer to this IRS website for more specifics
    • The deduction limit is based on: 1) whether or not you have a retirement plan at work, 2) your filing status, and 3) your modified AGI
    • If you are covered by a retirement plan at work:
    • If Your Filing Status Is...
    • And Your Modified AGI Is...
    • Then You Can Take...
    • single orhead of household
    • <$59,000
    • a full deduction up to the amount of your contribution limit
    • $59,000 - $69,000
    • a partial deduction
    • $69,000+
    • no deduction
    • married filing jointly or qualifying widow(er)
    • $95,000 or less
    • a full deduction up to the amount of your contribution limit
    • $95,000 - $115,000
    •  a partial deduction
    •  $115,000+
    •  no deduction
    • married filing separately
    • <$10,000
    •  a partial deduction
    •  $10,000+
    •  no deduction
    • If you are not covered by a retirement plan at work:
    • If Your Filing Status Is...
    • And Your Modified AGI Is...
    • Then You Can Take...
    • single, head of household, or qualifying widow(er)
    • any amount
    • a full deduction up to the amount of your contribution limit
    • married filing jointly or separately with a spouse who is not covered by a plan at work
    •  any amount
    • a full deduction up to the amount of your contribution limit
    • married filing jointly with a spouse who is covered by a plan at work
    • <$178,000
    • a full deduction up to the amount of your contribution limit
    • $178,000-$188,000
    • a partial deduction
    • $188,000+
    • no deduction
    • married filing separately with a spouse who is covered by a plan at work
    • <$10,000
    •  a partial deduction
    •  $10,000+
    •  no deduction
    • If you file separately and did not live with your spouse at any time during the year, your IRA deduction is determined under the "Single" filing status.
    • 2014
    • < Age 50
    • >= Age 50
    • Traditional IRA
    • $5,500
    • $6,500
  104. Operating EPRPs: Basics

    Slide 108 - Operating EPRPs: Basics

    • Creation
    • Your employer chooses account types to offer: Traditional, Roth, or both
    • You instruct your employer’s EPRP administrator (Fidelity, Vanguard, TIAA-CREF, etc.) to open one or more of the offered accounts
    • Contribution
    • You choose how much of each paycheck to contribute to each accounts
    • If contributing to a Traditional account, your employer will deduct the contribution from your salary before calculating taxes:
    • Monthly Salary: $1,000
    • Monthly Traditional EPRP Contribution: $250
    • Remaining Salary Subject to Taxes: $750
  105. Ex

    Slide 109 - Ex

    • Ex
    • Operating EPRPs: Contribution Limits
    • The government limits the amount of money that employees can contribute to Traditional and Roth EPRPs per year; these are called contribution limits for elective deferrals (deferrals of your paycheck)
    • For 401(k)s:
    • Contribution limits are higher for investors close to retirement (≥ age 50)
    • Contribution limits apply across all of an employee’s EPRPs (excluding 457 plans)
    • If you are < age 50 with a Traditional 401(k) and a Roth 401(k), you can contribute a $17,500 maximum across both
    • Contribution limits are capped at the employees’ taxable income
    • If you are < age 50 and your taxable income in 2014 was $16,000, you can contribute a $16,000 maximum to your 401(k) in 2014, even though your contribution limit is $17,500
    • Contribution limits generally increase each year to account for inflation
    • 2014
    • < Age 50
    • ≥ Age 50
    • Traditional EPRP
    • $17,500
    • $23,000
    • Roth EPRP
    • $17,500
    • $23,000
    • More info: http://www.irs.gov/Retirement-Plans/Plan-Participant,-Employee/Retirement-Topics-Contributions
  106. Buying and Selling in Retirement Accounts

    Slide 110 - Buying and Selling in Retirement Accounts

    • Usually, when you sell a stock, bond, ETF, mutual fund, or other investment, any profit that you made is a capital gain and is subject to capital gains tax (see earlier slide)
    • However, when you sell an investment in an IRA or an EPRP, the profit stays in the account and is not considered a capital gain, so no capital gains taxes are owed
    • This means you can buy and sell investments in IRAs or EPRPs without worrying about capital gains tax consequences
  107. Example

    Slide 111 - Example

    • Example
    • 2. Retirement Accounts
    • Minimize taxes by putting as much money as possible into tax-advantaged retirement accounts
    • A $10,000 investment with an annual 6% return grows much faster in tax-deferred accounts than in taxable accounts because taxes on dividends and interest are not levied each year (see graph)
    • However, recall that you can be penalized for withdrawing money from some retirement accounts, so only contribute money that can stay in the account until retirement age
    • If you are saving for a large purchase that will occur before retirement age, you should keep those savings outside of a retirement account
  108. Slide 112

    • 1. Background
    • 2. Common Methods
    • 3. Advanced Methods
  109. Advanced Methods to Minimize Taxes

    Slide 113 - Advanced Methods to Minimize Taxes

    • These advanced methods are more difficult to implement than the common methods and are only available/useful for people in specific circumstances:
    • Method
    • Specific Circumstances for Availability
    • Tax-Efficient Fund Placement
    • Taxpayers with a taxable account
    • Tax Loss Harvesting
    • Taxpayers with a taxable account
    • Donating Appreciated Securities
    • Donating taxpayers with taxable capital gains
    • Donor-Advised Funds
    • Donating taxpayers with taxable capital gains
    • Flexible Spending Account
    • Employees whose employer provides them
    • Health Savings Account
    • Employees whose employer provides them
    • Backdoor Roth IRA
    • Taxpayers with income too high for deductible IRAs
    • Mega Backdoor Roths
    • Employees whose employer provides them
    • College Savings Plans
    • Taxpayers with children
  110. Slide 114

    • Tax-Efficient Fund Placement
    • Different types of mutual funds/ETFs have different tax characteristics:
    • Bond index funds generate most of its returns as non-qualified dividends, which are taxed as ordinary income (this is an example of a tax-inefficient fund)
    • Stock index funds generate the bulk of its returns as appreciation, with a small amount in dividends and capital gains due to selling of stocks to maintain holdings that match the index it tracks (this is an example of a tax-efficient fund)
    • Actively managed stock funds generally generate more capital gains than index funds because managers frequently sell stocks with gains to capture returns
    • Tax-managed funds (funds that minimize taxes by allowing their holdings to deviate from the index they track) are designed to minimize capital gains
    • Different types of investment accounts have different tax characteristics:
    • Funds held in a tax-advantaged retirement accounts are not charged taxes on dividends nor capital gains
    • Funds held in a taxable investment account (like a brokerage account) are charged taxes on dividends and capital gains
    • Due to the above, you can minimize taxes by placing tax-inefficient funds in tax-advantaged accounts and tax-efficient funds in taxable accounts
    • Note that if you only have tax-advantaged accounts, you gain almost no tax benefits by changing fund placements between accounts
    • Tax-Efficient
    • Low-yield money market, cash, short-term bond funds
    • Tax-managed stock funds
    • Large-cap and total-market stock index funds
    • Balanced index funds
    • Small-cap or mid-cap index funds
    • Value index funds
    • Moderately tax-inefficient
    • Moderate-yield money market, bond funds
    • Total-market bond funds
    • Active stock funds
    • Very tax-inefficient
    • Real estate or REIT funds
    • High-turnover active funds
    • High-yield corporate bonds
    • For taxpayers with a taxable account
    • Roadmap
    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
  111. Roadmap

    Slide 115 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Tax-Efficient Fund Placement
    • For taxpayers with a taxable account
    • Are all your investments in tax-advantaged accounts?
    • Are you contributing the maximum to all tax-advantaged accounts available to you?
    • Consider contributing the maximum to all tax-advantaged accounts available to you, then start a taxable account
    • You don’t need to take into account tax-efficient fund placement
    • 1. Fill your tax-advantaged accounts with your least efficient funds
    • 2. Place international stock funds into your taxable account to get a US tax credit for foreign taxes paid by the international fund
    • 3. Place high-growth stock funds into Roth accounts since they have no required minimum distributions in retirement and their income is not counted for making Social Security taxable
    • 4. Place tax-efficient funds anywhere
    • Yes
    • No
    • No
    • Yes
    • Start
  112. Roadmap

    Slide 116 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Tax Loss Harvesting
    • Tax loss harvesting reduces your tax bill (sometimes over multiple years) by selling an investment at a loss then buying a similar investment. This allows you to:
    • Stay in the market
    • Maintain your asset allocation
    • Reduce your tax bill
    • Tax loss harvesting is only possible when you have an investment in your taxable account that is worth less than when you bought it
    • In reaction to the decrease in value, you might simply wait for the fund to recover, but this gains you nothing
    • Instead, tax loss harvest to gain a tax deduction
    • For taxpayers with a taxable account
  113. Roadmap

    Slide 117 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Tax Loss Harvesting
    • There are two main methods to tax loss harvest an investment in your taxable account that has depreciated (which we call fund A):
    • Sell fund A at a loss then immediately buy a fund B that is similar but not identical to fund A:
    • Sell fund A at a loss then wait more than 30 days to rebuy fund A (if you buy fund A back before 31 days, the IRS considers it a wash sale, which disqualifies your from deducting losses from that sale):
    • For taxpayers with a taxable account
    • Fund A
    • Fund B
    • Fund A
    • Fund A
    • 30 days
    • Capital loss
    • Capital loss
  114. Example

    Slide 118 - Example

    • Roadmap
    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Tax Loss Harvesting
    • By selling fund A at a loss using either method, you book a capital loss and can use that to reduce taxes. Recall from the section on tax background and capital gains/loss that:
    • The capital loss first offsets any other realized capital gains you may have had in that same year
    • Any remainder of that capital loss up to $3,000 can then be deducted from your ordinary income for the year in which you had the loss
    • Any remainder after the $3,000 deduction can further be deducted from ordinary income of successive years at a maximum of $3,000 per year until the entire capital loss is used up
    • Because capital gains tax rates are currently lower than ordinary income tax rates, you should aim to use tax loss harvesting in a year that will offset ordinary income instead of capital gains:
    • You are in the 35% ordinary income tax bracket, which has a 15% capital gains tax rate
    • This year, you booked capital gains of $3,000, so you will pay $3,000 * 15% = $450 in capital gains tax
    • You have a fund that is currently at a loss of $3,000 that you have not yet sold
    • Option 1: This year, tax loss harvest the fund to book a capital loss of $3,000, saving $450 in capital gains tax
    • Option 2: Wait until next year to tax loss harvest the fund
    • If the fund is still at a loss of $3,000, then you tax loss harvest to book the capital loss; you can then deduct $3,000 from your ordinary income, which is taxed at 35%. This saves you $1,050 of tax instead of the $450 in Option 1!
    • If the fund has increased since last year, then you’ve made money back on your investment, which could more than offset the $450 in capital gains tax you paid
    • For taxpayers with a taxable account
  115. Roadmap

    Slide 119 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Tax Loss Harvesting: Example
    • For taxpayers with a taxable account
    • 2008 Plan
    • In your taxable account, you have $100,000 invested in fund A
    • You plan to stay the course and keep your money invested similarly for years
    • The market falls and your investment in fund A is now worth $92,000
    • You sell fund A, booking an $8,000 long-term capital loss
    • You immediately buy $92,000 of fund B which is similar but not identical to fund A
    • 2008 Tax Return
    • In 2008, you also had a long-term capital gain of $1,000 from selling another mutual fund
    • You cancel out that $1,000 long-term capital gain using $1,000 of your $8,000 capital loss; $7,000 capital loss remains
    • You deduct from your 2008 income the max $3,000 of your $7,000 remaining 2008 long-term capital loss; $4,000 long-term capital loss remains
    • 2009 Tax Year
    • In 2009, you also had long-term capital gains of $500 from selling another mutual fund
    • You cancel out that $500 long-term capital gain using $500 of your remaining $4,000 2008 long-term capital loss; $3,500 long-term capital loss remains
    • You deduct from your 2009 income the max $3,000 of your remaining $3,500 2008 long-term capital loss; $500 long-term capital loss remains
    • 2010 Tax Year
    • You deduct from your 2010 income the remaining $500 of your 2008 long-term capital loss
    • This keeps you in the market and your asset allocation intact
    • 2008 Tax Loss Harvest
  116. Roadmap

    Slide 120 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Tax Loss Harvesting: Tax Impact
    • Tax loss harvesting doesn’t eliminate tax; it merely defers it into the future, which may or may not result in an overall tax reduction:
    • If you wait until retirement to sell your fund and you are in a lower tax bracket than when you tax loss harvested, you save in taxes
    • If you sell your fund when you are in a higher tax bracket than when you tax loss harvested (or tax rates go up), you pay more in taxes
    • If you do not sell your fund until your death, you eliminate taxes because your heirs receive the investments at a stepped up cost basis (the IRS considers the cost basis for an heir to be the value of the investment on the date of death of the deceased)
    • Tax loss harvesting can only be done in taxable accounts since tax-advantaged accounts do not incur capital gains or loss
    • For taxpayers with a taxable account
  117. Example

    Slide 121 - Example

    • Roadmap
    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Donating Appreciated Securities
    • If you have appreciated investments (investments that are worth more than you paid for them—a capital gain) in your taxable account, you must pay capital gains tax if you sell them:
    • If you instead donate those appreciated investments (that you’ve held for at least 1 year) to an eligible charity, neither you nor the charity need to pay capital gains tax, giving more money to the charity:
    • In 2011, you bought mutual fund A for $5,000
    • In 2013, you donate your holdings of fund A, which are now worth $9,000
    • For tax year 2013, you can deduct $9,000 from your income
    • For donating taxpayers with taxable capital gains
    • Appreciated Investments
    • Cash
    • Taxes
    • Charity
    • Appreciated Investments
    • Cash (No tax for charitable organizations)
    • Charity
    • Sale
    • Don-ation
    • Sale
    • Don-ation
  118. Slide 122

    • $x Appreciated Securities / Cash
    • Investment Style Recommendation
    • Roadmap
    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Donor-Advised Funds (DAF)
    • A donor-advised fund is an intermediary charity that provides a convenient way to manage and grow charitable contributions
    • You are an advisor, giving recommendations on investment style and grants to charities
    • DAFs charge fees, have minimums to open, and have minimum grant amounts
    • For donating taxpayers with taxable capital gains
    • Charitable Giving Receipt for $x
    • Growth of Investment to $x+
    • Charity Grant Recommendations
    • Charities
    • You (Advisor)
    • DAF
    • Cash Grants
    • Easy Management
    • Growth
    • Sell Investments to Fund Grants
  119. Roadmap

    Slide 123 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • DAF Benefits
    • For donating taxpayers with taxable capital gains
    • Tax Savings
    • You can donate appreciated securities, which some charities may accept only with lots of paperwork or may not accept at all
    • Timed Giving
    • You can make a lump sum deductible contribution in one year (a high income year) and make grants over time after research
    • Small Gifts
    • Without a DAF, it can be hard to gift small amounts via appreciated securities
    • Growth
    • A donor's account value has the potential to increase over the years from investment, resulting in larger charitable grants
    • Generational Giving
    • You can set up your DAF with the ability to continue a gifting tradition by naming successor advisors
    • Paperwork Simplification
    • Paperwork is reduced since you are only donating to one charity organization: the DAF
    • Optional Anonymity
    • You can choose whether each grant is anonymous or not
    • Asset Hiding
    • Assets in a DAF are not counted as part of your assets in any way (for bankruptcy or college financial aid)
  120. Roadmap

    Slide 124 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • DAF Strategies
    • Maintain Asset Allocation: You can donate your most-appreciated shares held for over 1 year to a DAF, then immediately buy the same amount back to maintain your asset allocation
    • Donate Quickly: DAFs charge a small fee for assets under management, so minimize this fee by making donations soon after contribution to the DAF
    • Hide Assets: Assets in a DAF are not counted as part of your assets in any way (for bankruptcy or college financial aid)
    • Low-Cost, Low-Minimums: Choose a DAF provider like Fidelity or Vanguard, who have low fees, low minimums to open the DAF, and low grant minimums for small gifts
    • For donating taxpayers with taxable capital gains
  121. Roadmap

    Slide 125 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Flexible Spending Accounts (FSA)
    • FSAs are accounts into which employees can contribute a portion of their paycheck free of income taxes
    • Money in the FSA is available to use on qualified expenses incurred during the calendar year
    • Money in the FSA is lost if not used by the end of the calendar year or before the employee leaves the employer
    • There are two types of FSAs that are commonly supported by employers, each allowing spending on different types of expenses:
    • Medical expenses FSA: Medical and dental expenses not paid for by insurance, usually used for deductibles, copayments, and coinsurance
    • Dependent care expenses FSA: Expenses used to care for dependents who live with someone else while the employee is at work, usually used for child care
    • Not all employers provide FSAs to their employees
    • If you are enrolled in an HSA, you are only eligible for a more limited FSA that only covers dental and vision expenses
    • For employees whose employer provides them
  122. Roadmap

    Slide 126 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • FSA Example Usage
    • For employees whose employer provides them
    • 1. Sign up with your employer to have an FSA for the calendar year
    • 2. Tell your employer the amount of your paycheck to contribute to the FSA per pay period
    • 3. Spend money on a qualified expense
    • 4. Seek reimbursement from your FSA, or use a special FSA debit card to pay
  123. Roadmap

    Slide 127 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Health Savings Accounts (HSA)
    • HSAs are accounts into which employees can contribute a portion of their earnings free of federal income taxes (and state income taxes in many states, but not in California)
    • Money in the HSA is available to use on qualified medical expenses incurred at any time
    • You can reimburse yourself from your HSA for a qualified medical expense that you incurred even decades earlier with no tax liability or penalty!
    • Be sure to keep your medical receipts in case the IRS audits you and requires proof that you used the HSA money for a qualified medical expense)
    • Money in the HSA is rolled over from year to year
    • You are able to invest the money in your HSA into whatever set of investments is provided by your HSA administrator
    • Only employees enrolled in a high-deductible health plan (HDHP) are eligible for an HSA
    • Not all employers provide HDHPs and HSAs to their employees
    • For employees whose employer provides them
  124. Roadmap

    Slide 128 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Health Savings Accounts (HSA)
    • HSAs have the best characteristics from FSAs and traditional IRAs:
    • FSA
    • HSA
    • Traditional IRA
    • Contributions
    • Not taxed
    • Not taxed
    • Not taxed
    • Contributions are tax-deductible no matter your income?
    • Yes
    • Yes
    • No
    • Growth (cap gains + dividends)
    • Not taxed
    • Not taxed
    • Not taxed
    • Withdrawals before retirement
    • For qualified expenses: not taxed nor penalized
    • For qualified medical expenses: Not taxed or penalized
    • Penalized
    • For non-qualified medical expenses: Taxed and penalized
    • Withdrawals after retirement
    • N/A
    • For qualified medical expenses: Not taxed
    • Taxed
    • For non-qualified medical expenses: Taxed
    • Withdrawal time limit
    • Calendar year
    • None
    • None
    • Money rolled over year to year?
    • No
    • Yes
    • Yes
    • Money is invested by employee?
    • No
    • Yes
    • Yes
    • For employees whose employer provides them
  125. Roadmap

    Slide 129 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • HSA Example Usage: Basic
    • For employees whose employer provides them
    • 1. Sign up with your employer to have an HSA
    • 2. Tell your employer the amount of your paycheck to contribute to the HSA per pay period
    • 3. Spend money on a qualified medical expense
    • 4. Seek reimbursement from your HSA, or use a special HSA debit card to pay
  126. Roadmap

    Slide 130 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • HSA Example Usage: Tax Advantage
    • HSAs can be used as additional tax-sheltered space. If you already contributed the max tax-deductible amount to a traditional IRA, or if your income is above the limit to be able to make tax-deductible contributions to a traditional IRA, you can use the HSA to defer or eliminate taxes on more of your income:
    • For employees whose employer provides them
    • 1. Sign up with your employer to have an HSA
    • 2. Tell your employer the amount of your paycheck to contribute to the HSA per pay period
    • 3. Pay for medical expenses out of pocket, not using HSA money
    • 4. Allow your investments in the HSA to grow tax free
    • 5. In retirement, after years of tax-free growth:
    • Eliminate taxes: Continue to use HSA money tax free for qualified medical expenses, or
    • Defer taxes: Withdraw the HSA money taxed at ordinary income (like a traditional IRA) for non-qualified medical expenses
  127. Roadmap

    Slide 131 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Backdoor Roth IRAs
    • Recall that contribution limits for Roth IRAs are reduced based on your filing status and modified AGI:
    • For taxpayers with income too high for deductible IRAs
    • If Your Filing Status Is...
    • And Your Modified AGI Is...
    • Then You Can Contribute...
    • Single, head of household, or married filing separately and you did not live with your spouse at any time during the year
    • <$114,000
    • Up to contribution limit
    • ≥$114,000 but <$129,000
    • A reduced amount
    • ≥$129,000
    • 0
    • Married filing jointly or qualifying widow(er)
    • <$181,000
    • Up to contribution limit
    • ≥$181,000 but <$191,000
    • A reduced amount
    • ≥$191,000
    • 0
    • Married filing separately and you lived with your spouse at any time during the year
    •  <$10,000
    • A reduced amount
    • ≥$10,000
    • 0
    • 2014
    • < Age 50
    • >= Age 50
    • Roth IRA
    • $5,500
    • $6,500
  128. Roadmap

    Slide 132 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Backdoor Roth IRAs
    • For taxpayers with income too high for deductible IRAs
    • There is a process that circumvents these income limitations; Roth IRAs created through this process are called backdoor Roth IRAs
    • The process is made possible thanks to two specific allowances in the tax code:
    • Non-deductible contributions to Traditional IRAs can be made by taxpayers of any income
    • Traditional IRAs can be converted to Roth IRAs by taxpayers of any income
    • Image credit: Paul Hoppe
  129. Roadmap

    Slide 133 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Backdoor Roth IRAs
    • For taxpayers with income too high for deductible IRAs
    • There is a process that circumvents these income limitations; Roth IRAs created through this process are called backdoor Roth IRAs
    • The process is made possible thanks to two specific allowances in the tax code:
    • Non-deductible contributions to Traditional IRAs can be made by taxpayers of any income
    • Traditional IRAs can be converted to Roth IRAs by taxpayers of any income
    • Image credit: Paul Hoppe
  130. Roadmap

    Slide 134 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Backdoor Roth IRAs: Process
    • Open a Traditional IRA at an investment brokerage like Vanguard or Fidelity
    • Make a non-tax-deductible contribution to a Traditional IRA up to your contribution limit
    • Convert to Roth your entire Traditional IRA
    • At tax time, pay tax on any gains made between Steps 1 and 2 (minimized by doing Step 2 shortly after Step 1)
    • For taxpayers with income too high for deductible IRAs
    • 2014
    • < Age 50
    • >= Age 50
    • Traditional IRA
    • $5,500
    • $6,500
    • Image credit: Paul Hoppe
    • You now have $5,500-$6,500 more in a Roth IRA, which will grow tax-free and can be withdrawn tax-free in retirement!
  131. Roadmap

    Slide 135 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Backdoor Roth IRAs: Process
    • Open a Traditional IRA at an investment brokerage like Vanguard or Fidelity
    • Make a non-tax-deductible contribution to a Traditional IRA up to your contribution limit
    • Convert to Roth your entire Traditional IRA
    • At tax time, pay tax on any gains made between Steps 1 and 2 (minimized by doing Step 2 shortly after Step 1)
    • For taxpayers with income too high for deductible IRAs
    • Notes
    • You can repeat this process once per year
    • At the end of the process, you have no Traditional IRA (since it was converted to Roth in Step 3), so you must start with Step 1 again
    • Step 4 is completed by filing Form 8606 at tax time
    • Note that using the Backdoor Roth IRA doesn’t provide an immediate tax deduction like a deductible Traditional IRA contribution; it simply allows you to funnel more money into your Roth IRA, which grows tax-free and can be withdrawn tax-free after retirement
  132. Example

    Slide 136 - Example

    • Roadmap
    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Backdoor Roth IRAs: Caution!
    • If you already have a Traditional IRA anywhere, be careful of using the Backdoor Roth IRA! The conversion of the Traditional IRA to Roth in Step 3 is considered by the IRS to affect all your Traditional IRAs based on the ratio of not-yet-taxed money to after-tax money
    • Over the past years, you have amassed a $20,000 Traditional IRA at Fidelity
    • Today, you make a non-deductible (after tax) contribution of $5,000 to a Traditional IRA at Vanguard as step 2 of your Backdoor Roth IRA creation
    • You tell Vanguard that you wish to convert your Traditional IRA to Roth
    • To the IRS, this conversion is effective for all your Traditional IRAs, including the $20,000 in your Fidelity Traditional IRA: the IRS treats both your Traditional IRAs as one package of $25,000, where:
    • 20% ($5,000 / $25,000) are after-tax
    • 80% ($20,000 / $25,000) are not-yet-taxed
    • So $5,000 (the 20% after tax) has no taxes due, but the $20,000 (the 80% not-yet-taxed money) has taxes due since you’ve converted it to Roth!
    • To avoid the above, you can see if your 401(k) plan allows IRAs to be rolled in:
    • If you can, you can roll all your Traditional IRAs into your 401(k) before creating your backdoor Roth IRA
    • If you cannot and you have a large amount of not-yet-taxed money, you should avoid the backdoor Roth IRA since it could cause you to pay more taxes than you may save
    • For taxpayers with income too high for deductible IRAs
  133. Roadmap

    Slide 137 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Mega Backdoor Roths
    • There is another method to circumvent the Roth IRA income limitations that uses your 401(k) instead of an intermediary Traditional IRA, so the previous slide’s caution does not apply here
    • This method allows for Roth contributions far in excess of what pure Roth IRA contributors can contribute yearly (which is why it’s called the Mega Backdoor Roth):
    • Unfortunately, not everyone can use Mega Backdoor Roths; you can use it only if your employer’s 401(k) plan allows both the below:
    • After-tax contributions
    • Non-hardship, in-service withdrawals of after-tax contributions
    • The basic operation of a Mega Backdoor Roth is to make after-tax contributions and then ask your 401(k) administrator to do a non-hardship, in-service withdrawal of those after-tax contributions into a Roth IRA or Roth 401(k)
    • For employees whose employer provides them
    • 2014 Contribution Limits
    • Limited By
    • < Age 50
    • >= Age 50
    • Backdoor Roth IRA
    • Traditional IRA contribution limit
    • $5,500
    • $6,500
    • Mega Backdoor Roths
    • 401(k) overall contribution limit
    • Up to $34,500
  134. Roadmap

    Slide 138 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Mega Backdoor Roths
    • Employees often believe they cannot contribute more than $17,500 to their 401(k) because, as discussed in the section on EPRPs, the limits are:
    • These limits do exist, but they only apply to elective deferrals: contributions to Traditional and Roth portions of their 401(k)
    • There are actually several types of 401(k) contributions, each having different limits:
    • Elective deferral contributions are limited to $17,500
    • Catch-up contributions are limited to $5,500 (this explains where the contribution limit of $23,000 for those ≥ age 50 comes from: $17,500 + $5,500)
    • There is also an overall limit on all types of contributions to a 401(k) of $57,500
    • All this means you can make after-tax contributions up to $57,500 - $5,500 - $17,500 = $34,500!
    • For employees whose employer provides them
    • For more information, see http://www.irs.gov/Retirement-Plans/Plan-Participant,-Employee/Retirement-Topics-Contributions
    • and http://www.irs.gov/Retirement-Plans/Plan-Participant,-Employee/Retirement-Topics-401k-and-Profit-Sharing-Plan-Contribution-Limits
    • Employer Non-Elective
    • Employer 401(k) contribution matching
    • Catch-Up
    • Additional contributions allowed for older employees
    • After-Tax
    • Non-deductible contributions made from post-tax dollars that are investable in 401(k) fund options but have no tax benefit
    • Elective Deferral
    • Contributions to Traditional and Roth
    • $57,500
    • $17,500
    • $5,500
    • 2014
    • < Age 50
    • ≥ Age 50
    • Traditional EPRP
    • $17,500
    • $23,000
    • Roth EPRP
    • $17,500
    • $23,000
  135. Roadmap

    Slide 139 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Mega Backdoor Roths: Usage
    • For employees whose employer provides them
    • Traditional or Roth 401(k)
    • After-Tax 401(k)
    • $17,500 per year
    • $20,000+
    • Traditional or Roth 401(k)
    • Up to $34,500 per year
    • In-service Rollover
    • Roth 401(k)
    • Roth IRA
    • or
    • Gains
    • You now have up to $34,500 more in a Roth retirement account, which will grow tax-free and can be withdrawn tax-free in retirement!
    • 1. Optional: Contribute the maximum $17,500
    • to Traditional
    • and/or Roth 401(k) to first reap those tax benefits
    • 2. Make after-tax contributions up to your employer’s maximum (the IRS maximum is $52,000 - $17,500 = $34,500)
    • 3. Contact your 401(k) administrator to do an
    • in-service rollover
    • of Step 2’s after-tax contribution to your choice of a Roth 401k or to a Roth IRA
    • 4. Pays taxes on any
    • gains made between Steps 2 and 3
    • (which are minimized by doing Step 3 shortly after Step 2)
  136. Roadmap

    Slide 140 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Mega Backdoor Roths: Notes
    • The Mega Backdoor Roth allows you to funnel a maximum of $34,500 into Roth-tax-advantaged accounts (either 401(k) or IRA)
    • It is still best to first take advantage of the straight-forward $17,500 contributions to the basic Traditional/Roth 401(k) before doing a Mega Backdoor Roth
    • Even if your employer provides the mechanisms required for a Mega Backdoor Roth, not everyone can afford to take full advantage of it since it can be difficult to set aside $52,000 ($17,500 401(k) + $34,500 Mega Backdoor Roth) for retirement each year
    • If you have Traditional IRAs that preclude you from a normal Backdoor Roth IRA, but you have access to the Mega Backdoor Roth, you can just use the Mega Backdoor Roth to funnel money into your Roth IRA!
    • You can do both the normal and the Mega Backdoor Roth strategies in the same year
    • For employees whose employer provides them
  137. Roadmap

    Slide 141 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • College Savings Plans
    • College savings plans give some tax benefit to parents saving for college
    • There are several different types of college savings plans, including 529s and ESAs
    • 529s are the most common and broadly applicable type, so this presentation focuses on them
    • For taxpayers with children
    • 529s
    • ESAs
    • Contribution Limits
    • Total: Up to $300,000 (varying by state)
    • Annually: Annual gift tax exclusion without incurring gift taxes
    • ESAs only allow up to $2,000 per year
    • Income Restrictions
    • None
    • If you file jointly, you must earn less than $220,000 per year
    • Qualified Spending
    • Qualified higher education costs only
    • K-12 and qualified higher education costs
    • State Tax Deductions
    • Allow state tax deductions for contributions in some states (not California)
    • Do not allow state tax deductions for contributions
  138. Roadmap

    Slide 142 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • What are 529s?
    • A 529 plan is a tax-advantaged way to save money for a relative’s college expenses
    • There are 51 different 529 college savings plans run by each of the 50 states and the District of Columbia
    • You can pick any state’s plan
    • Each state offers different investment choices:
    • Age-based choices are fund of funds that change its asset allocation over time (more bonds and less stock over time to reduce risk as the student approaches college age)
    • Static allocation choices are fund of funds that keep the same asset allocation over time
    • Individual fund choices provide a single index fund
    • 529 plans have tax advantages:
    • Growth (capital gains + dividends) is not taxed
    • Withdrawals are not taxed when used for qualified education expenses (tuition, fees, books, supplies, equipment required for enrollment or attendance at an eligible educational institution)
    • Non-qualified withdrawals are proportionally drawn from a) your contributions and b) account growth (cap gains + dividends)
    • The portion of the non-qualified withdrawal from your contributions are tax-free and penalty-free
    • The portion of the non-qualified withdrawal from growth are taxed at ordinary income rate + 10% penalty
    • Many states offer tax incentives to residents for investing in their state of resident’s plan, which may make a marginally more expensive in-state plan competitive with a lower-cost out-of-state plan
    • For taxpayers with children
  139. Roadmap

    Slide 143 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • Details for 529s
    • Contributions
    • You can contribute $14,000 per child per parent per year (= $28,000 for a married couple per year) without incurring gift tax
    • You can also frontload 5 years of contributions in a single year (= $140,000 for a married couple)
    • Beneficiaries can be changed at any time:
    • If your children don’t go to college, you can give to other relatives while keeping the tax advantages
    • You can even use the money on yourself or a spouse by going back to school
    • Assets in a 529 do show up as assets on FAFSA
    • Free Application for Federal Student Aid, a form that determines college student eligibility for financial aid based on the student/family’s assets, income, etc.
    • For taxpayers with children
  140. Roadmap

    Slide 144 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • 529 Strategies
    • Try to max out retirement contributions in 401(k)s, IRAs etc. before starting a 529 as 529s are less versatile (education only)
    • Contributions to Roth accounts (if held for over 5 years) can be used for college too (and any other expenses you want)
    • Save for your retirement first since it’s harder for you to get guaranteed work than for a newly graduated student to find work over time
    • The tax benefits of retirement accounts are better than those of 529s
    • The optimal contribution strategy is to contribute as quickly as you can, without sacrificing other tax-advantaged investments
    • A rule of thumb is to contribute 75% of the current tuition for a top school ($180,000 in 2014)
    • There’s no way to know in advance exactly how much to contribute
    • If you over-contribute it’s not that bad since you can withdraw the money when you retire with penalty, but you are often more than compensated by the many years of tax-free compounding
    • For taxpayers with children
  141. Roadmap

    Slide 145 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • 529s are Valuable to High-Earners
    • For most Americans, 529s are not a clear investment option. There are many disadvantages:
    • For high-earners, 529s are outstanding options:
    • For taxpayers with children
    • The average American doesn't go to college
    • Many Americans pay 0% tax in long term capital gains even without a 529
    • The average American's chances for financial aid could be hurt by a 529
    • Their taxable tax rate is very high so the tax-deferred compounding in a 529 is attractive
    • Their income precludes the use of educational tax credits
    • They will not be eligible for financial aid so using a 529 does not hurt them
    • They save at high rates for a long time, so tax-deferred compounding occurs over several decades
    • They use the 529 to move assets out of their estate for estate tax purposes, while still retaining control of the money (can take it back at any time)
    • They can afford to take risk by investing in an asset class with a high expected return to further benefit from tax-free growth
    • They can happily pay for their grandkids, nieces, nephews, etc. to go to college if their own children don’t use the whole 529
    • They already max out all other tax-advantaged opportunities available to them
  142. Roadmap

    Slide 146 - Roadmap

    • Tax-Efficient Fund Placement
    • Tax Loss Harvesting
    • Donating Appreciated Securities
    • Donor-Advised Funds
    • Flexible Spending Account
    • Health Savings Account
    • Backdoor Roth IRA
    • Mega Backdoor Roths
    • College Savings Plans
    • 529s: How to Choose a State for a 529
    • As of 2014, these states offer no tax deductions nor matching contributions (so, if you live in one of these states, simply choose a state plan with the lowest fees):
    • As of 2014, these states offer tax-deductible contributions no matter what state’s plan you choose (so if you live in one of these states, simply choose a state plan with the lowest fees and claim your deduction on your tax return):
    • California
    • Delaware
    • Florida
    • Hawaii
    • Kentucky
    • Massachusetts
    • Nevada
    • New Hampshire
    • New Jersey
    • South Dakota
    • Tennessee
    • Texas
    • Wyoming
    • For taxpayers with children
    • Arizona
    • Kansas
    • Maine
    • Missouri
    • Pennsylvania
  143. Simplify

    Slide 148 - Simplify

    • These slides offer many guidelines, but that doesn’t mean you need to have a complicated portfolio of many mutual funds
    • The split of your money into different investments is called asset allocation
    • Try to allocate your assets in as few investments as possible to simplify management of your assets
    • You can diversify your portfolio, minimize investment costs, and minimize taxes using 4 or fewer different mutual funds
    • To illustrate this, the next slides present to 3 sample asset allocations
    • We’ll start with the simplest asset allocation: a 1-fund asset allocation
    • We’ll then see 3-fund and 4-fund asset allocation
  144. 1-Fund Asset Allocation

    Slide 149 - 1-Fund Asset Allocation

    • Make your portfolio consist of just one mutual fund by buying a target retirement mutual fund, or target fund
    • A target fund is a mutual fund of mutual funds!
    • Instead of acting as a basket of stocks, it acts as a basket of funds
    • The target fund becomes more conservative over time to match the decreasing risk tolerance of investors as they get closer to retirement
    • Target funds usually have a stock index, an international index, and a bond index
    • Target funds become more conservative over time by buying more of the bond index and selling some of the stock and international index
    • A mutual fund company will have an array of target funds, targeting different retirement ages:
    • Target Retirement 2060 (for investors who plan to retire in 2060)
    • Target Retirement 2055 (for investors who plan to retire in 2055)
    • Etc.
    • Target funds make your asset allocation very simple!
    • But target funds also have slightly higher ERs than if you implemented a 3-fund or 4-fund asset allocation yourself
    • Stock Fund
    • Bond Fund
    • Int’l Fund
    • Holdings of the “Target Retirement 2040” target fund in 2020
    • Stock Fund
    • Bond Fund
    • Int’l Fund
    • Holdings of the “Target Retirement 2040” target fund in 2030
    • Stock Fund
    • Bond Fund
    • Int’l Fund
    • Holdings of the “Target Retirement 2040” target fund in 2040
  145. 3-Fund Asset Allocation

    Slide 150 - 3-Fund Asset Allocation

    • The 3-fund asset allocation is simple in that you can set it and forget it. However, it is advisable to increase the % of Total Bond Index every 2-5 years so it becomes a bigger part of your portfolio to reduce the riskiness of your portfolio as you near retirement.
    • Great international stock index mutual funds to consider:
    • Vanguard Total International Stock Index Fund (VGTSX; ER: 0.22%)
    • Fidelity Spartan International Index Fund (FSIIX; ER: 0.20%)
    • Great total bond index funds to consider:
    • Vanguard Total Bond Market Index Fund (VBMFX; ER: 0.22%)
    • Fidelity Spartan US Bond Index Fund (FBIDX; ER: 0.22%)
    • Great total stock index funds to consider:
    • Vanguard Total Stock Market Index Fund (VTSMX; ER: 0.18%)
    • Fidelity Spartan Total Market Index Fund (FSTMX; ER: 0.10%)
  146. 4-Fund Asset Allocation

    Slide 151 - 4-Fund Asset Allocation

    • The 4-fund asset allocation is a bit more complicated than the other sample asset allocations, but it adds some protection against inflation
    • There are 3 steps to creating your 4-fund asset allocation
  147. 4-Fund Asset Allocation

    Slide 152 - 4-Fund Asset Allocation

    • Step 1 of 3: Find a ratio of stocks to bonds for your portfolio
    • Recall a) risk tolerance goes down with age, and b) bonds have less risk than stocks, so a rule of thumb is to hold your age in bonds (adjusted for risk tolerance).
    • This ratio will change as you get older, so you will have to adjust your holdings every 2-5 years.
    • Examples for a 30-year-old
  148. 4-Fund Asset Allocation

    Slide 153 - 4-Fund Asset Allocation

    • Step 2 of 3: For the bond portion of your portfolio, split it evenly between a total bond fund and a TIPS fund (to protect against inflation)
    • Examples for a 30-year-old
  149. 4-Fund Asset Allocation

    Slide 154 - 4-Fund Asset Allocation

    • Step 3 of 3: For the stock portion of your portfolio, split it evenly between a total US stock fund and an international stock fund
    • Examples for a 30-year-old
  150. Example

    Slide 156 - Example

    • Many Accounts, One Portfolio
    • You may have investments in your spouse’s 401(k), your own 401(k), your own IRA, and a taxable investment account
    • Once you’ve determined your asset allocation, follow that allocation across all your investment accounts
    • The following slides illustrate three methods for doing so using the following example:
    • You want to implement the 3-fund asset allocation
    • You have $10,000 in your 401(k)
    • You have $20,000 in your spouse’s IRA
  151. Many Accounts, One Portfolio: Method 1

    Slide 157 - Many Accounts, One Portfolio: Method 1

    • Apply the same asset allocation in both the 401(k) and IRA:
    • In your 401(k), find 3 funds that fit your asset allocation and split the $10,000 among those 3 funds
    • In your spouse’s IRA, find 3 funds that fit your asset allocation split the $20,000 among those 3 funds
    • $3.3k Stock Fund
    • $3.3k Bond Fund
    • $3.3k Int’l Fund
    • Your 401(k)
    • $6.6k Stock Fund
    • $6.6k Bond Fund
    • $6.6k Int’l Fund
    • Your spouse’s IRA
  152. Many Accounts, One Portfolio: Method 2

    Slide 158 - Many Accounts, One Portfolio: Method 2

    • Apply the asset allocation across both the 401(k) and IRA:
    • In your 401(k), find the lowest cost fund available that fits your 3-fund asset allocation and put all $10,000 into that
    • In your spouse’s IRA, evenly split the $20,000 between the remaining 2 funds
    • Your 401(k)
    • $10k
    • Bond Fund
    • Your spouse’s IRA
    • $10k Stock Fund
    • $10k
    • Int’l Fund
  153. Many Accounts, One Portfolio: Method 3

    Slide 159 - Many Accounts, One Portfolio: Method 3

    • Use target funds everywhere:
    • Your 401(k)
    • Your spouse’s IRA
    • $10k Target Fund
    • $20k
    • Target Fund
  154. Note: Paying Off Debt is an Investment

    Slide 161 - Note: Paying Off Debt is an Investment

    • Before talking about prioritizing where your money goes, it is important to note that paying off debt is also an investment:
    • For a credit card that charges 15% interest, every dollar you use to pay down that balance gets you a 15% rate of return!
    • This is equivalent to an investment that returns 15% (which is an amazing investment, since savings accounts are paying ~1% interest in 2012)!
    • equal returns
  155. Prioritize Where Your Money Goes

    Slide 162 - Prioritize Where Your Money Goes

    • Money not used for expenses or your emergency fund should be used to invest or pay down loans
    • Put your money in the investment option with the highest expected rate of return
    • If you can put no more money in that option, move to the next best option
    • Here is a typical priority order for where to put your money (start at the left and go right):
    • 50% to 100%
    • Rate of return
    • 10%
    • to
    • 30%
    • 5%
    • to
    • 8%
    • 5%+ Tax Free
    • 4%+
    • 0%
    • to
    • 3%
    • 1%
    • +
    • Peace of Mind
    • 5%+ w/ Tax Advantages
    • 4%+ w/ Tax Advantages
    • Save for your retirement before your child’s education
    • 4%+
    • Pay down credit cards
    • Pay down non-deductible auto, EDU, etc. loans
    • Max 401(k) w/ low-cost options
    • Pay down subsidized loans
    • Fill emergency fund
    • Max 401(k) employer match
    • Max HSA
    • Max Traditional / Roth IRA
    • Max Mega Backdoor Roth
    • Pay down deductible mortgage / EDU loans
    • Taxable investments
    • Max a 401(k) w/ high-cost options
    • Contribute
    • to 529s
  156. Prioritizing Other Investments

    Slide 163 - Prioritizing Other Investments

    • If you have other investments available, add it to your priority list by estimating their expected return
    • Let’s look at ESPP as an example:
    • ESPP stands for Employee Stock Purchase Plan
    • ESPP is a program that some corporations provide for employees to purchase the corporation’s stock at a discount
    • Let’s calculate the expected rate of return for a sample ESPP that has a 10% discount on stock given once a year on the end-of-year stock price
    • Note that we seek to calculate the rate of return for the ESPP separately from changes in the stock price
    • To ensure changes in stock price don’t affect our calculation, simply assume that the employee sells the stock immediately after purchase for no gain or loss from stock price change
    • Doing this means the only gain is from the ESPP discount
  157. Calculation of ESPP Rate of Return

    Slide 164 - Calculation of ESPP Rate of Return

    • Set aside $900 to buy stock at the end of the year
    • At the end of the year, the stock price is $10/share
    • The stock is purchased at a 10% discount = $9/share
    • The original investment of $900 can thus buy 100 shares
    • Sell the 100 shares immediately, when the stock price is still $10/share
    • You receive a return of $1,000
    • ESPP’s rate of return = return / original investment = $1,000 / $900 = 11.1%
    • An investment returning 11.1% is quite good for the little risk involved!
  158. Calculation of ESPP Rate of Return

    Slide 165 - Calculation of ESPP Rate of Return

    • An ESPP of this style with a 10% discount gives an 11.1% rate of return
    • An ESPP of this style with a 15% discount gives a 17.6% rate of return
    • An ESPP of this style with a 20% discount gives a 25.0% rate of return
    • Note:
    • The rate of return is the same no matter how many times a year the ESPP allows employees to purchase discounted stock
    • Some ESPPs allow you to use the lower stock price between the price at the beginning of the period and the price at the end of the period; these ESPPs have an even greater rate of return because you are essentially given an additional discount by using the lower stock price
    • Investing in your company’s ESPP locks up some money for the ESPP period (usually 3-6 months), so make sure you have enough income to cover your expenses during that period without the money going toward the ESPP
  159. Prioritize Where Your Money Goes

    Slide 166 - Prioritize Where Your Money Goes

    • 50% to 100%
    • Rate of return
    • 10%
    • to
    • 30%
    • 5%
    • to
    • 8%
    • 5%+ Tax Free
    • 4%+
    • 0%
    • to
    • 3%
    • 1%
    • +
    • Peace of Mind
    • 5%+ w/ Tax Advantages
    • 4%+ w/ Tax Advantages
    • Save for your retirement before child EDU
    • 4%+
    • 11%
    • Insert here
    • Use your 10% discount ESPP and sell immediately
    • Pay down credit cards
    • Pay down non-deductible auto, EDU, etc. loans
    • Max 401(k) w/ low-cost options
    • Pay down subsidized loans
    • Fill emergency fund
    • Max 401(k) employer match
    • Max HSA
    • Max Traditional / Roth IRA
    • Max Mega Backdoor Roth
    • Pay down deductible mortgage / EDU loans
    • Taxable investments
    • Max a 401(k) w/ high-cost options
    • Contribute
    • to 529s
  160. Stay the Course by Rebalancing

    Slide 168 - Stay the Course by Rebalancing

    • Over time, your portfolio may drift further and further away from your desired asset allocation
    • This happens because stocks may outperform bonds or vice versa, causing the outperforming asset class to grow faster than the rest
    • Course correct every once every quarter or every year to bring your portfolio back to your desired asset allocation; this is called rebalancing
    • The best way is to add money into investments that have less money than desired
    • An alternative way is to sell investments that have more money than desired
    • This approach is generally bad for taxable accounts since selling can cause capital gains, which means taxes are due on that gain
    • This approach is acceptable for tax-advantaged retirement accounts since capital gains are not taxed
  161. Example

    Slide 169 - Example

    • Stay the Course by Sticking to Your Allocation
    • Never try to time the market for two reasons:
    • Economic markets are incredibly complex systems, so they are very difficult to forecast accurately
    • A large body of research shows that typical mutual fund investors perform far worse than the mutual funds they invest in because they tend to:
    • Buy after a fund has done well
    • Sell what they own shortly after it has done poorly
    • Instead of timing the market, maximize your time in the market
    • Invest as much as possible as early as possible to let your investments compound
    • One interesting and extreme implementation of this strategy is to max out your retirement contributions as early as possible in the year; for example, contribute 100% of your paycheck to your 401(k) until you max out your annual contribution, living on savings in the interim)
    • Determine your asset allocation and stick to it, only adjusting for aging or life events)
    • Rebalance at preset intervals (last day of each quarter, New Year’s day, etc.)
  162. Appendix

    Slide 171 - Appendix

    • The appendix contains work in progress or information on peripheral topics
  163. Credit: Background

    Slide 172 - Credit: Background

    • A credit report is a record of your past borrowing and repayments
    • A credit reporting agency is a organization that tracks credit histories
    • In the United States, there are 3 major agencies that track credit history: Experian, Equifax, and TransUnion
    • All 3 major credit reporting agencies are mandated by law to allow American consumers to receive a free credit report once per year via https://www.annualcreditreport.com/
    • A credit score is a number calculated by credit reporting agencies (each slightly differently from each other) that rates how likely you are to repay your debts, with higher numbers being a higher likelihood of repayment
  164. Improving Your Credit Score

    Slide 173 - Improving Your Credit Score

    • Having a good credit report and score are important for many things:
    • Prospective employers may consider your credit history in hiring
    • Companies thinking of extending you credit (mortgage lenders, car dealerships, credit card companies, mobile phone companies) are more willing to extend you credit at lower interest rates with a good credit score
    • These are some good ways to achieve and keep a high credit score:
    • Check your credit report for fraud at least once a year by getting your free credit report
    • Always pay off all obligations on time
    • Have a high amount of available credit with a low amount of money owed
    • Have a single credit card that you’ve had for a long time
    • You can do this up to 3 times a year, getting your free credit report from each of the 3 different credit reporting agencies
    • Obligations include utility bills, credit cards, mortgages, parking tickets, etc.
    • This can be achieved by having several credit cards with high maximums but keeping the balances on those credit cards very low
    • Your credit score takes into account how long you’ve had a credit history
  165. Identity Theft

    Slide 174 - Identity Theft

    • Identity theft is when someone pretends to be another person to commit crimes, make fraudulent charges, or open new lines of credit
    • One of the most common forms of identity theft is when someone obtains your credit card information and uses it to make fraudulent charges
    • A less common (and more difficult to detect) form of identity theft is when someone obtains more sensitive information like your social security number and uses it to open lines of credit (like new credit cards) in your name
  166. Identity Theft: Monitoring

    Slide 175 - Identity Theft: Monitoring

    • You can tell if you’ve been a victim of identity theft by:
    • Monitoring your credit card statements on a regular basis (at least once a month) for fraudulent charges
    • Monitoring your credit report on a regular basis (at least a few times a year) for lines of credit that you did not open
    • You can also hire companies to monitor your credit for you (not recommended because you can all this yourself for free):
    • Services like LifeLock cost around $120-300 per year that monitor your credit reports and file fraud reports for you
    • Services like http://www.freecreditreport.com provide you a free credit report in exchange for signing up for a monthly membership fee
  167. Identity Theft: Prevention

    Slide 176 - Identity Theft: Prevention

    • Request a security freeze at each of the 3 major credit reporting agencies
    • A security freeze has a credit reporting agency prevent anyone from accessing your credit information unless you explicitly call for a temporary lifting of the freeze
    • This is widely regarded as the most effective way to prevent identity theft
    • Doing this means you will need to go through the hassle of temporarily lifting the security freeze whenever you need to apply for new credit to buy a car, get a mortgage, apply for a new credit card, get a background check, etc.
    • Shop online only at reputable merchants
    • Avoid giving your social security number whenever possible
    • Shred or save in a safe place any documents you receive that contain information like credit card numbers or your social security number
    • Check your credit report several times a year
    • Check your financial statements regularly (including those for credit cards, brokerage, retirement, bank account)
    • Don’t download or run programs from untrusted sources
    • Use strong passwords for all online financial sites and make them unique per site
  168. Identity Theft: Recovery

    Slide 177 - Identity Theft: Recovery

    • Contact the police to make a report
    • Consider filing a claim with your insurance company
    • Alert the appropriate bank or credit card company if a credit card was stolen or used fraudulently
    • Report the incident to the Federal Trade Commission at www.ftc.gov/idtheft
  169. Types of Insurance

    Slide 178 - Types of Insurance

    • As there are many different possibilities for financial loss, there are many different types of insurance:
    • Type
    • Typical Events Covered
    • Auto
    • Property damage due to car accident
    • Medical care resulting from car accident
    • Deposit
    • Loss of money deposited at a financial institution due to failure of the institution (provided to FDIC-insured institutions by the US government via the FDIC)
    • Dental
    • Routine dental care
    • Damage to teeth from accidents
    • Disability
    • Inability to work due to disability
    • Health
    • Routine medical care
    • Emergency care
    • Prescription drugs
    • Long-term care
    • Personal care for normal daily activities if unable to care for yourself due to physical illness, disability, or cognitive impairment
    • Homeowner’s
    • Loss of property due to covered circumstances (e.g. fire, but not earthquake)
    • Damage to a person incurred while on your property
    • Renter’s
    • Accidents, damage, losses for the renter’s belongings
    • Type
    • Typical Events Covered
    • Landlord’s
    • Losses connected to the rented property, but not the contents within
    • Life
    • Death of the insured
    • Accidental death and dismemberment
    • Death of the insured
    • Loss of limb, finger, sight, paralysis, etc.
    • Private mortgage
    • Mortgage borrower defaults on the mortgage
    • Professional
    • Losses caused to clients due to malpractice or other errors
    • Title
    • Loss of land and buildings due to flaws in the chain of prior ownership of the land and buildings
    • Traveler’s
    • Trip cancellation or interruption
    • Baggage loss
    • Umbrella
    • Claims alleging your negligence or inappropriate action resulting in bodily injury or property damage
    • Warranty
    • Purchased good is defective or damaged
  170. Medical Insurance

    Slide 179 - Medical Insurance

    • Premiums
    • Copayment
    • Coinsurance
    • Tax deduction for 2% AGI
    • Company subsidy for premiums
  171. Buying a Home

    Slide 180 - Buying a Home

    • Buying versus renting
    • Mortgage
    • Title
  172. The best time to plant a tree is twenty years ago…

    Slide 181 - The best time to plant a tree is twenty years ago…

    • Even if you feel behind in your financial knowledge, wishing you saved more and invested more when you were younger, you can still start today.
    • The second-best time is today.