Taxation of Social Security Benefits

Taxation of Social Security Benefits

Keep an eye on your income amounts when claiming Social Security

Many people are often surprised to learn that once they are retired and start collecting Social Security that they may have to pay taxes on their benefit.  Throughout our working career we have probably all seen the money that gets deducted to fund Social Security. However, when you start drawing your Social Security benefit there is a strong likelihood that you will have to pay taxes on a portion of that income.  These numbers have not been adjusted for inflation and with higher balances in retirement plans and a rising stock market this can lead to more taxation. Also, with retirees taking part time work while on Social Security, those amounts can also increase income making more Social Security taxable. 

Calculation for taxable amount

The first step in determining whether any portion of Social Security is taxable is to calculate what they refer to as “provisional income.” This income is can be thought of as a combination of different income sources.  This income consists of:

  • Adjusted Gross Income
  • Any tax-exempt interest income, example municipals bonds
  • Half of any Social Security benefits

 

Once this amount is calculated it is then compared to the income threshold amounts. 

For single taxpayers:

            Income below $25,000 Social Security is tax free

Income between: $25,000 – $34,000 and 50% of the Social Security benefit is taxed

Income above $34,000 results in up to 85% taxable

For married filing jointly:

            Income below $32,000 Social Security is tax free

            Income between $32,000 – $44,000 up to 50% of Social Security benefit is taxed

            Income above $44,000 up to 85% of Social Security benefit is taxed

One thing to keep in mind is what is all included in your Adjusted Gross Income, by definition gross income includes your wages, dividends, capital gains, business income, retirement distributions as well as other income. Adjustments to your gross income includes, alimony, student loan interest, educator expenses and contributions to a retirement account. 

Here is a quick example of how the taxes would work on a Social Security benefit.

Steve and Mary have an AGI of $27,000 and also have municipal bond interest of $1,000. Their Social Security amount is $20,000 per year. Therefore, to calculate what amount may be taxable they would add $27,000 + $1,000 + $10,000(one half of benefit) = $38,000 of combined income. This is $6,000 over $32,000 threshold, therefore, $3,000(50% of $6,000) of their benefit amount is taxable.

 

One way that you could potentially reduce the taxes you pay on your Social Security benefit is to convert your pretax retirement accounts into a Roth IRA. This would need to be done before you start claiming your Social Security benefit.  This would cause you to pay taxes in the year that you converted, however, if this is before you start claiming Social Security this amount would no longer be included in your pretax account. As long as the Roth IRA is opened for a least 5 years, and you are over the age of 59.5 any withdrawal from that Roth IRA would not be included in income for that year. Therefore, this amount would not be used in the calculation for your taxable Social Security amount. 

 

Keep in mind you can check you Social Security statement which shows the amount of your future benefit by logging into www.ssa.gov

 

 

 

 

 

 

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Studying Berkshire Hathaway’s Annual Letter

Studying Berkshire Hathaway’s Annual Letter

“Never Bet Against America” – Warren Buffett

Warren Buffett, the Oracle of Omaha is one of the best investors the world has ever known. Accumulating a fortune that was over $80Billion at certain times.  Studying the words and publications of Warren Buffett has always been a common practice amongst investors. Warren Buffett started investing at the age of 10 and if there is anyone that exemplifies playing the long game it is Buffett.  Buffett is still running his company, Berkshire Hathaway, at the age of 90. He works alongside his long time business partner, Charlie Munger, who is 97 years of age.  Buffett is a great example of the power of compounding and the miraculous effect it can have on multiplying your wealth.  $81.5 Billion of Buffett’s $84.5 Billion net worth came after the age of 65.  Each year Buffett writes a letter to the shareholders of Berkshire Hathaway to give an update on their business. This has traditionally been something that is highly valued by all investors, not just shareholders of Berkshire, because of the investment insight it can help to provide.  Buffett is known as a value investor, that is someone that studies the fundamentals of a company relative to the price it is trading at, and if that is low enough, will purchase shares of the stock.  Coca-Cola is one of his most famous investments, big blue chip companies that have a track record for paying and growing their dividend. Coca-Cola has been able to continue to grow its dividend for 57 years.

Should investors still put an emphasis on these letters?

Buffett has had a track record of compounded annual returns of 20% since 1965 compared to 10% compounded return of the S&P 500 during that same time frame.  However, last year he made some ill timed trades, including selling out of all his airline stocks at what seemed to be their bottom. He also sold a large portion of his bank stocks and invested in Barrick Gold. I already stated his massive net worth which has come from his investment knowledge and temperament.  The returns and his success are reasons why investors pay so close attention to his letters and his 13F. This and because when these positions get post publicly it can oftentimes cause the price of those stocks to see a nice pop.  However, with underperformance against the S&P 500 and some questionable trades made in 2021, many people are starting to wonder if these letters and 13F disclosures hold the same amount of weight that they used to.  After all, everyone now has a microphone when it comes to investing and there were or are now others that can make public statements that seem to drive up the price of a stock (think Elon Musk, Donald Trump) or message boards that have that same effect. Another reason why some believe that the Buffett positions do not hold as much weight is the underperformance of value stocks in recent years.  Growth stocks have drastically outperformed value stocks over the past 10 years. Buffett is known for being a famed value investor. Here are Berkshire Hathaway’s largest positions.

Key Takeaways from this letter

One of the things I love about Warren Buffett is his entrepreneurial spirit and belief in the American Dream.  Buffett used one of his most famous quotes again in this letter when he stated, “Never bet against America.” This quote may cause many to stay the course and keep a long-term perspective in mind. That in and of itself is a good enough reason for many to read his letters.  Buffett gives great explanations of Berkshire Hathaway and how they use three key elements to decide an investment purchase: 1. A steep competitive advantage 2. Managers who have character and are capable 3. Price.  Buffett highlighted several businesses that were on the brink of elimination and found a way to turn things around to thrive for years to come. He mentioned See’s Candies, whose business is over 100 years old and has employed thousands of men and women. Another successful venture for Berkshire Hathaway has been GEICO which recently did $35 billion in business and has been around since 1937.  It would be difficult to find someone with a track record like Buffet’s it comes to investing and helping to build businesses over the long term. However, there have been fund managers that have well outpaced Buffett during their time, Jim Simons, of Renaissance Technologies averaged 66% over his tenure but did not start investing until the age of 50. Most recently Cathie Wood has been producing astonishing returns for her ETF, ARKK. It is yet to be seen if they can have the same staying power that Buffett has had throughout his career. Here is a full copy of the annual Berkshire Hathaway letter. 

https://www.berkshirehathaway.com/letters/2020ltr.pdf 

 

 

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Would a $15 Minimum Wage Work?

Would a $15 Minimum Wage Work?

By 2025 it is estimated that a $15 minimum wage would reduce employment by 1.4 million workers

The debate of a $15 minimum wage has been in the news lately and seems to be a talking point for most politicians.  However, taking politics out of this, would this truly be better for the United State economy? According to statistics there are approximately 1.7 million workers who work for minimum wage.  That is approximately 2.3% of US workers.  The industry that employs the most minimum wage workers is leisure and hospitality. Frankly, the industry that has been hit hardest by the pandemic. Raising the minimum wage to $15 would more than double the US Federal minimum wage of $7.25.

 

There are people that believe that by increasing the minimum wage this would help to stimulate the economy by giving workers more money that they spend which could very well be the case. This could also allow some workers to provide a better livelihood for their families.  However, by implementing these changes this could cause sweeping job cuts and reduction in the work force.  When talking to several business owners they were very opposed to this proposition because of the impact it would have on their workforce. They expressed that by doubling the minimum wage this would cause business owners to have to cut back on their staff. Not only would this cause stress for the employees that are laid off, but also added stress for the remaining staff. The reduction in employees would force workers still employed to take on extra duties and responsibilities that they may not have had to do before.  This would also cause many to wonder that if they are laid off, where could they find additional work.  

 

A doubling of the minimum wage could be a big hurdle for companies that are struggling to make it through the pandemic.  This would cause them to close their doors.  Another effect of this would be the increase in much of the food and products we eat and use.  Many believe this would cause widespread price increases making it harder for families to afford basic goods.  Some companies in the private sector have taken it upon themselves to issue their own minimum wage, such as Amazon and Walmart that have implemented $15 minimum wages.  These companies have the size and scale to increase minimum wage.  Other companies have already started to increase automation and the use of machines to run their business. Simply look at the self-checkout lanes and ordering kiosks to see what the future could look like.

Below is an article that shows what other financial advisors have to say about a $15 minimum wage.

Where financial advisers sit on the $15 minimum wage divide

This is a recent study by the Congressional Budge Office that goes into details about what a $15 minimum wage would mean.

https://www.cbo.gov/system/files/2021-02/56975-Minimum-Wage.pdf

 

 

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Investing in Disruptive Innovation Part 1

Investing in Disruptive Innovation Part 1

Over the course of two blog posts I will be cover the topic of investing in innovative disruption.  It has been said that the pandemic has drastically sped up the adoption of technology and innovation. This thought could be seen amongst the stocks that many considered to be the “stay at home” stocks. Examples of these stocks include: Zoom, Peloton, Etsy, Netflix and Wayfair. These stocks had tremendous returns over the past 12 months.  Many have stated that they may have just frontloaded the growth for these stocks and have them all in one year as opposed to the growth they would have seen over the next 3-5 years. However, looking beyond just these stay at home names, 2020 has introduced certain trends that will be here to stay. Although many believe these stocks might be overvalued many now have a fear of missing the next best innovative stock or company. One investment company that is tapping right into this innovation trend is Ark Invest. Ark Invest is an investment manager that invests solely in disruptive innovation.  As their website states: “ARK’s thematic investment strategies span market capitalizations, sectors, and geographies to focus on public companies that we expect to be the leaders, enablers, and beneficiaries of disruptive innovation. ARK’s strategies aim to deliver long-term growth with low correlation to traditional investment strategies.” You can visit ARK’s website here: https://ark-invest.com

Ark invests with a long term perspective in mind and since inception in 2016 this approach has paid off handily for investors. Some of Ark’s (symbol ARKK) top holdings are: Tesla, Roku, Spotify, Crispr Therapeutics, Square and Teladoc Health. This fund now has around $22.6 Billion in assets.   One of the ways that ARK helps to educate it’s investors is through the publishing of their “Big Ideas” for the year. They published their “Big Idea’s” insights back in January of 2021. Today I will cover 3 topics that jumped out to me while reading their big ideas for 2021.

 

1.Electric Vehicles (EV)

ARK forecasts that EV sales should increase roughly 20-fold from 2.2 million in 2020 to 40 million units in 2025.  One of the major reasons for this increase is that the cost of the electric vehicles will start to cost the same as the gas-powered vehicles. This will be driven by the decreasing costs of the battery that is used in EV vehicles. The mass production of these batteries is starting to drive down the cost of the battery. Image of EV costs.

ARK believes that Tesla will still lead in the electric vehicles space in both the United States and China. They also see Baidu playing a significant role in the EV space. 

2. Bitcoin

Ark was an early investor in bitcoin and they have been investing in bitcoin through the ETF symbol: GBTC.  Bitcoin has started and continued to gain adoption and credibility throughout 2020. Bitcoin has gain credibility through major institutions starting to invest their cash and also accepting bitcoin as payment.  There are several appeals to bitcoin and one of them is the decentralization of bitcoin as a truly global currency.  Most recently we have seen Tesla make an investment in bitcoin and allow for the use of bitcoin to buy their cars.  Another situation was Mass Mutual adding bitcoin to its balance sheet to the tune of $100M dollars.  Bitcoin is one of the only asset classes that has consistently low correlations to other asset classes. ARK believes that bitcoin has now earned a spot in well diversified portfolio. This chart demonstrates how the incorporation of large institutions using bitcoin can have an effect on the price of bitcoin.

3.Multi Cancer Screenings

According to ARK’s research use of innovative technologies has pushed the cost of multi-cancer screening down by 20-fold from $30,000 in 2015 to $1,500 today and it should drop to $250 by 2025.  The ability to have these multi screened cancer studies can lead to early detection through a more robust testing process. The Big Idea’s template states “Routine blood-based, multi- cancer screening combined with improvements in single-cancer screening could prevent 40% of metastatic diagnoses and increase loco-regional diagnoses by 10%.”  This could also move the recommended age of cancer screenings from 45 down to 40 to help with early detection.

 

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Instead Of Picking Stocks – Do These 3 Things First

Instead Of Picking Stocks – Do These 3 Things First

I recently read the book “Everything you need to know about saving for retirement” by Ben Carlson Link to book and enjoyed the simple but not easy suggestions he makes to lead to a strong financial foundation.  I recommend the book for anyone interested in personal finance.  Today I wanted to discuss a few things that were mentioned in the book that everyone should take some time to consider evaluating.  Those three items are: your savings rate, your asset allocation and your investment plan.  These items should be evaluated in that order and that is where they rank in level of importance.  These three things are simple to evaluate but can take time to tweak and get right.  In the paragraphs below I will cover what you should be looking at when you evaluate the three items I mentioned above.

1. Review your Savings Rate

The percentage that you are saving is the single most important metric when you are considering establishing financial independence. This obviously goes hand and hand with your income and spending. Your savings rate is the first step to investing and to becoming financially independent.  The earlier you can start saving the better. This comes in many different forms including saving for retirement, saving for a large purchase, saving for education expenses and saving for health care expenses.  In general, your goal should be to save 15-20% of your gross income.  This can be hard to do for most but can be something that is worked up to. This amount of savings will give you a cushion for when life throws you curves.  Here are some steps you can take to actively increase your savings: treat it like a bill, automatic increase through your retirement plan, ask for a raise.  Mastering a skill and learning how to sell yourself are vitally important. The impact of asking for a getting a raise can pay immense dividends over the course of your career.

2. Review your Asset Allocation

The next most important item to review is your asset allocation. This is your mix of stocks, bonds and cash. This determines the level of risk you are taking in your portfolio. This is a high-level view of your investments. The old adage of investing: the higher risk, the higher potential review, speaks to asset allocation.  The amount of your money that you are looking to grow should be allocated to equities and the amount of money that you are looking to preserve should be allocated to bonds and cash.  Determining your goals, time horizon and risk tolerance are the first steps in determining your asset allocation.  In general, the younger you are the more risk you can afford to take on. This is due to the fact that the longer you stay invested the higher likelihood will be that you will have a positive return, as the chart below demonstrates.  David Swenson, manager of the Yale Endowment fund and author of bestselling book “Unconventional Success, A Foundational Approach to Personal Investment”Link to book he determines that asset allocation is the 3 sources of return behind savings rate and market return. It is also one of the variables that is in your control as an investor. He states that asset allocation will determine 90% of the investors return, therefore, much more emphasis should be placed on your overall allocation than picking stocks.  This is due to the fact that most investors will be in a broadly diversified portfolio.

3. Review your investment plan

Financial writer Nick Murray once said “A portfolio is not, in and of itself, a plan. And a portfolio that is not in service to a plan is just a form of speculation; it can have no other goal than to beat most other people’s portfolios. But “outperformance” isn’t a financial goal.”

The plan is the foundation that drives the implementation of your investment portfolio.  Your investment plan determines expectations on risk and return; therefore, you plan drives how your assets should be allocated.  Someone that is nearing retirement and looking to have their money last the rest of their life should not be trying to keep pace with the returns of the S&P 500 index.  Instead, they will need to have a portion of their portfolio protected from the downside risk of a stock market correction.  Alternatively, a younger investor who is in the early stages of their career needs their money to grow and accumulate over time. Therefore, their plan should be to be properly allocated to risk.  Picking stocks may be more fun to talk about at parties or with your friends but having the right asset allocation and investment plan will lead to long term success.

 

 

 

 

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