Financial Advisor Compensation Models

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Rob Oliver explains how financial advisors get paid and suggests questions to ask advisors about how they are compensated.

Resource links:

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Please note that this blog post and video are for educational purposes only and should not be construed as advice specific to your situation. You should get advice from a legal, accounting, or investment professional before deciding what course of action is appropriate for you.

Recommended Reading: Debt-Free U

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One of my financial planning colleagues recently suggested I read Debt-Free U by Zac Bissonnette. Although I was in the middle of three other books, I decided to buy Debt-Free U since I wanted to try out an e-book on my new iPad.

At first, I thought the book was about general debt reduction. Turns out that Debt-Free U is focused on paying for college without going into debt. (The U in the title stands for University.) The full title is Debt-Free U: How I paid for an outstanding college education without loans, scholarships, or mooching off my parents.

The author, Zac Bissonnette, challenges our society’s conventional view on the value of a name-brand college education and on the wisdom of taking out student loans to pay for college. He argues (with supporting data) that post-college success has more to do with the student’s work ethic than which college she attends.

For example, let’s say that your child is smart and diligent enough to get into both Stanford University and the University of Michigan where she qualifies for in-state tuition. Is it worth it for you and her to pay nearly $30,000 more per year* to go to Stanford? Not according to Mr. Bissonnette. (Although he might rethink that after a long winter in Ann Arbor.)

Debt-Free U efficiently covers a lot of ground and will help you think through:

  • How much you can afford to pay for college (spoiler alert: not your “Expected Family Contribution” from the FAFSA),
  • Which colleges provide the best value, and
  • How to pay for college (spoiler alert: not loans).

If you have kids who are nearing college age, Debt-Free U is required reading. I also recommend it to parents of young children who are just getting started planning for college expenses. It may just change your view on how you will pay for college. It changed mine.

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* Peterson’s Undergraduate and Graduate Institution Databases

Numbers to Know for 2011

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Happy 2011! Below is a list of the essential numbers and phaseout ranges for this year.

  • Maximum contribution to a Traditional or Roth IRA: $5,000 + $1,000 catch-up if age 50 or over (no change).
  • Maximum contribution to a 401(k) or 403(b) plan: $16,500 + $5,500 catch-up if age 50 or over (no change).
  • Income (modified adjusted gross income) phase out range for deductible Traditional IRA contribution, married filing jointly and covered by employer sponsored retirement plans: $90,000-$110,000.
  • Income phase out range for deductible Traditional IRA contribution, married filing jointly and spouse covered by employer sponsored retirement plan: $169,000-$179,000.
  • Phase out range for deductible Traditional IRA contribution, filing single and covered by employer sponsored retirement plan: $56,000-$66,000 (no change).
  • Phase out range for deductible Traditional IRA contribution, filing single and not covered by employer sponsored retirement plan: no limit.
  • Phase out range for Roth IRA contribution, married filing jointly: $169,000-$179,000.
  • Phase out range for Roth IRA contribution, filing single: $107,000-$122,000.
  • Social Security Cost of Living Adjustment: 0%.
  • Annual gift tax exclusion amount: $13,000 (no change).
  • Marginal income tax rates.
  • Tax changes passed in the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010.
  • Maximum deductible contribution to the Michigan Education Savings Program for Michigan residents: $5,000 single, $10,000 married (no change).

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Please note that this blog post is for educational purposes only and should not be construed as advice specific to your situation. You should get advice from a legal, accounting, or investment professional before deciding what course of action is appropriate for you.

Year End Planning Tips

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With the end of 2010 right around the corner, I offer the following year-end financial planning tips:
  • Contribute to your state’s 529 Plan by the end of the year. Many states, such as Michigan, offer a state income tax deduction if you make contributions to the plan that the state sponsors.
  • Convert your Traditional IRA to a Roth IRA by year end. The IRS created a special election for conversions made in 2010 that will allow you to spread the income from the conversion over 2011 and 2012. You can learn about Roth conversions at Vanguard and use its Roth IRA Conversion Calculator to decide if conversion is right for you.
  • Lock-in capital gains and pay at current capital gains rates. Long-term capital gains rates are scheduled to increase in 2011 unless new laws are enacted. If you have unrealized capital gains in a taxable investment account, consider selling your long-term winners and pay at the 15% rate (or 0% if you are in the 10% or 15% ordinary income tax brackets). You can even sell and immediately re-buy the same security to reset its cost basis. The wash sale rule does not apply to gains. You can learn more about this strategy and whether it is in your best interest by reading this article at Fairmark.com.
  • Avoid buying mutual funds in a taxable account late in the year. Mutual funds are required to distributed realized gains each year, and you should avoid paying taxes on distributions when you were not around to participate in the gain. Many fund companies report their expected distributions prior to year-end. Check for planned distributions before you buy or wait until the new year.
  • Take Required Minimum Distributions (RMD) from your IRAs or employer-sponsored retirement plans if you have reached age 70 1/2. Failure to take a required withdrawal can result in a 50% penalty on the amount not withdrawn.
  • Make annual exclusion gifts before year-end. You can give $13,000 in 2010 to an unlimited number of individuals free of gift tax. You cannot carry over unused exclusions from one year to the next.

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Please note that this blog post is for educational purposes only and should not be construed as advice specific to your situation. You should get advice from a legal, accounting, or investment professional before deciding what course of action is appropriate for you.

Personal Finance Links

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  1. Visit Dinkytown for free personal finance calculators.
  2. If you invest in TIAA Traditional through your employer’s retirement plan with TIAA-CREF, I suggest you read this
  3. Phased out of making Roth IRA contributions? Try the backdoor.
  4. Check out Susan Beacham’s blog if you are interested in kids and money.
  5. Vanguard recently rolled out new exchanged traded funds and a new index fund.
  6. I see eye to eye with Rick Ferri who encourages Forbes readers to buy, hold, and rebalance.
  7. Educate yourself on personal finance through NAPFA’s consumer series. It’s free but you have to register.
  8. Do bonds confuse you? You’re not alone. Learn about bonds courtesy of Vanguard.
  9. Morningstar’s Natalie Choate provides tips and traps about IRA conversions. Scroll down the page to May 4, 2010.
  10. Get credit report tips from Gerri Detweiler via the Garrett Planning Network.
  11. Rick Ferri writes about a new trend in index funds to keep an eye on.

529 Plan Red Flag

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There are a number of clear signs that your financial advisor may not have your best interest in mind. Is your IRA invested in a variable annuity? Red flag! Do the names of your mutual funds end in “A” or “B”? Red flag!

When it comes to saving for college education expenses, it’s hard to beat 529 tuition savings plans. I regularly recommend them to my clients. Each state has its own plans and it usually makes sense to use a plan sponsored by your state. If your advisor recommended that you use another state’s plan, it’s another red flag that he or she may not be working in your best interest.

I’m advising new clients who are residents of Ohio but are using a 529 Plan from Maine. I happen to know that Ohio has a very strong 529 Plan that offers low-cost investment options and a state tax deduction for Ohio residents. It’s a no-brainer for Ohio residents to use it. So why is this couple using one of Maine’s plans? The answer is clear to me – because their former advisor can’t sell Ohio’s plan and earn a commission. Instead, he directed them to an advisor-sold plan that did pay him a commission.

Unfortunately, I see this breach of fiduciary duty on a regular basis. I’m not saying that there aren’t reasons to use another state’s 529 Plan, but when I see it, it’s usually for the wrong reasons.

How can you make sure that you are using the right 529 Plan?

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Please note that this blog post is for educational purposes only and should not be construed as advice specific to your situation. You should get advice from a legal, accounting, or investment professional before deciding what course of action is appropriate for you.

Ideas and Links from the NAPFA Conference

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I attended the national conference for the National Association of Personal Financial Advisors (NAPFA) in Chicago this week. NAPFA is a professional organization for financial advisors who are committed to Fee-Only and comprehensive financial planning. Below are some of the new ideas and time-tested reminders that I took away from the conference.

Estate Planning

  • If you are the parent of a minor and you do not have a Will, a court will determine his or her guardian. Please prioritize putting a Will in place if you are in this boat.
  • You may need to appoint a short-term guardian in your Will if the primary guardian for your minor child does not live nearby. This will prevent your child from ending up in the care of an agency until your primary guardian arrives.
  • A presenter recommended the book Who Gets Grandma’s Yellow Pie Plate for help in determining how to divide assets in your estate plan.
  • Use an attorney who specializes in estate planning to draft your estate planning documents. You wouldn’t let your general practitioner perform brain surgery on you, so don’t let your real estate attorney draft your estate planning documents.
  • Visit www.martindale.com and www.actec.org to find attorneys in your area who specialize in estate planning.
  • Use this checklist provided by the American Bar Association to think through decisions you will need to make in your medical directives.

Property Division in Divorce

Debt Management

Healthcare Reform

College Education Savings

  • A speaker, Jean Chatzky, recommended paying for college education in thirds: 1/3 from savings, 1/3 from cash flow while your child is in college, and 1/3 from student loans taken by the student. She feels that this approach allows the student to have some skin in the game. Research has shown that students who pay for part of their tuition take college more seriously.
  • In 2011, all colleges that participate in Title IV student financial aid programs will required to have net price calculators on their websites.

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Please note that this blog post is for educational purposes only and should not be construed as advice specific to your situation. You should get advice from a legal, accounting, or investment professional before deciding what course of action is appropriate for you.

Year-end Financial Planning Tips

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Even though the end of the year is rapidly approaching, there is still time for you to take advantage of these year-end financial planning tips:

  • Use up any balances in your Medical Flexible Spending Account. Remember that you will lose any balances that you do not use. Check with your plan provider for eligible expenses and for any grace period into the new year.
  • Schedule medical appointments and procedures before year-end if you have already met your health care plan’s out-of-pocket deductible.
  • Offset capital gains and losses in your taxable investment accounts.
  • Avoid buying any mutual funds that are planning a year-end capital gains distribution. Most mutual fund families will publish a list of estimated year-end distributions like this one from American Funds.
  • If you are over age 70½ and have an IRA or other pre-tax account, be sure to take your required minimum distribution for 2009 or opt out this year. You also have until the end of the year to make a tax-free charitable rollover to a qualified non-profit organization.
  • Maximize your annual gift tax exclusion. If you’re fortunate enough to be able to gift money to your loved ones, you can give each individual up to $13,000 this year with no gift tax ramifications. If you’re married, you and your spouse can each give $13,000 to anyone you want. But you need to do so by year-end.
  • Fund your 529 plan to maximize your state’s tax deduction. For example, a married couple who are Michigan residents can deduct up to $10,000 of contributions to the State’s MESP 529 Plan made during 2009 from their 2009 Michigan income tax return.
  • Create a 2009 tax file if you haven’t already so you have a one place for all of your tax documents to land when they start arriving in the mail.

If you have other year-end tips you would like to share, feel free to e-mail

me at [email protected].

Please keep in mind that this blog post is for educational purposes only and should not be construed as advice specific to your situation. You should get advice from a legal, accounting, or investment professional before deciding what course of action is appropriate for you.