You’re probably wondering what happened to 2010. It blew through quickly and might have left you spinning. But you can make smart moves now that will help you start 2011 on the right foot. black enterprise spoke with financial experts who came up with a game plan for assessing six indicators of financial health: credit, taxes, insurance, estate planning, retirement planning, and savings.
Whether you’re single, married, divorced, or widowed, it’s vital to do a financial checkup regularly. Dr. Hughan Frederick and his wife, Nekeidra Frederick, understand the importance of staying on top of their finances. With two young sons–Hughan, age 3, and Caelen, age 18 months–the Fredericks know it’s important for them to keep track of every dollar they earn, spend, and save. “Doing a financial checkup pays off,†says Hughan, an obstetrician and gynecologist who has opened his own practice, Isis OB/GYN, in Alpharetta, Georgia. “We know where our money goes. We can account for it.â€
Hughan and Nekeidra, ages 37 and 35, respectively, talk frequently with their financial planner, with whom they meet in person annually. They also meet with each other quarterly to discuss their budget and major purchases, and to set financial goals. “This economy has been a reminder that nothing is guaranteed,†says Nekeidra, who owns a public relations consulting business, Gunner Marketing Group. “We buy what we need instead of everything we want. We also review our finances to ensure that we are meeting our goals.†One of their goals is to make sure their sons are taken care of in the event that one or both of them should die. The couple has drafted wills and set up a 529 college savings plan for each child. They’re also vigilant about managing their credit, making sure to check their credit reports quarterly and pay off balances in full each month. During their annual financial checkup, the Fredericks make sure they’re on target with college savings, retirement, and insurance needs. They pay specific attention to whether they’re saving enough for college, whether their retirement accounts are properly diversified, and whether their insurance is adequate for their current stage in life.
Here are some guidelines to help you conduct your own financial checkup.
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CREDIT
Order your credit reports. Before you can conduct a credit checkup, you’ll need to order credit reports from each of the three major credit reporting agencies (Equifax, Experian, and TransUnion). You’ll be charged less than $20 for each report. Each year, you can order one free report from each bureau by visiting AnnualCreditReport.com (www.annualcredit report.com), so you can monitor your credit at no cost by ordering a report from one of the bureaus every four months. But for this end-of-year checkup, it’s best to have all three reports. Adam Levin, chairman and founder of Credit.com, a consumer advocacy site, suggests that you ask yourself the following as you conduct your review: Am I keeping balances on my credit cards reasonable? Am I making payments on time? Also be sure to check for errors. To correct any mistakes, write to the credit bureau and enclose copies–never originals–of any supporting documents, and ask for a correction or deletion.
Purchase your credit score. You can obtain your credit score for less than $20 from MyFICO.com. Many credit scores are available, and some lenders use their own scores, but the FICO score is the one most widely used by bankers and lenders. What’s a good score? John Ulzheimer, president of consumer education at Credit.com, says 700 used to be an excellent score, but it’s now considered average. “An elite score is now 750 or higher,†he says.
Monitor your credit utilization. Your credit utilization ratio makes up 30% of your FICO score. This ratio measures how much credit you’re using of the credit you have available. It’s best to use less than 10% of your available credit. Ulzheimer says, “Those with FICO scores of 760 or higher use just 7% of their available credit.†Having a lot of credit cards isn’t an issue, but using more than 10% of your available credit is. Once you have your credit report in hand, determine how much outstanding debt you have. Resolve to pay down as much of it as you can, because using too much of your available credit–even if you pay your bills on time–will lower your credit score. Most financial experts do not recommend closing credit card accounts, however.
Identify and change bad habits. All poor scores are not created equal. You could be missing payments, running up large credit card debts, applying for too many retail store cards, or all of the above. “Identify what you’re doing wrong and stop doing it,†says Levin. “Only then will your scores get to where you’d like them to be.â€
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TAXES
Keep track of deductions and credits. Now is the time to prepare for filing your 2010 tax return. Because 2011 tax rates are expected to revert to pre-2001 rates, William Perez, an enrolled agent with Perez Tax Associates in San Francisco, advises planning this year’s taxes with an eye toward what may be higher tax rates in 2011. “You may want to accelerate income into 2010 to lock in a known tax rate now,†he says. “Similarly, you may want to defer any tax deductions until 2011, so they will offset next year’s income at presumably higher rates.†As this is likely the last year for energy-related tax credits, consider buying, if needed, energy-efficient appliances, or upgrading windows and doors, or making other
Pay attention to changes in tax law. If you’ve been preparing your own taxes you might want some help this year and next. “Some states are increasing tax rates for 2010 or reducing deductions,†says Perez, citing New York, New Jersey, Connecticut, and California. Many federal tax breaks and credits will expire this year. The top marginal income tax rate (for those with incomes above $200,000, or for married couples earning more than $250,000) is expected to revert from 35% to 39.6%; the top capital gains rate returns to 20% (affecting those same high earners); federal estate tax rates of up to 55% will return for net estates exceeding $1 million; and those in the 10% income bracket may go in to the 15%. More married couples may be affected by the so-called marriage penalty, in which some married taxpayers who file jointly may pay more in taxes than they would if they were single. Under the pre-2001 tax law, the penalty affected about 42% of couples, requiring them to pay an average of nearly $1,400 in additional taxes; however, about 51% received a tax bonus or a decrease in their tax bill, by an average of about $1,300.
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INSURANCE
Assess your needs. Are you properly protected? Do you have adequate life, health, home, car, and disability coverage? If you’re not sure how much life insurance you need, start by calculating what replacement income your family would need in the event of your death, says Michelle Oliver, president of the Oliver Financial Group, an independent insurance and financial services agency. Some financial planners recommend $1 million if you have minor children, but work with a fee-only planner to determine your family’s unique needs. To get an idea, use an online life insurance calculator like the one at Bankrate.com. As for what type to buy, weigh factors like affordability, your goals, your income, and your age. Most finance experts recommend term as the better option for most people. A 35-year-old nonsmoking man in very good health would pay around $60 a month for a $1 million, 20-year term policy, according to MetLife.
Don’t overpay. For example, if you purchase your own health insurance, make sure you’re not paying more than you need to for the coverage you actually use. According to eHealthInsurance.com, which sells health insurance online in all 50 states, the average monthly premium of policies it sold was $392 for families and $167 for individuals. (Premiums in New York and Massachusetts are much higher than the average.) Also, consider your utilization patterns over
the past year. If you’re self-employed, you may be able to deduct health insurance premiums paid for yourself and your dependents as an “above the line†(without itemizing) business expense on your federal tax returns. Even if you’re not self-employed, if your qualifying medical expenses exceed 7.5% of your adjusted gross income, you may qualify to deduct expenses above that threshold. Before buying, discuss with a tax professional the tax implications of any health plan you’re considering.Review existing insurance policies. Michael Kay, certified financial planner and president of Financial Focus L.L.C., offers a few questions for thought. Have you experienced any life changes that need to be reflected in your coverage, such as marriage, death, or birth? Are your health insurance deductibles too low? Can you lower your premiums by covering some risk yourself? Or, are your deductibles too high? They are if you don’t have the cash flow or savings to cover them. Also, don’t assume that employer-paid life insurance coverage is adequate; it typically equals just one year’s salary, hardly enough to keep your family going long term. Plus, if you lose your job you lose that life insurance. It’s a good idea to purchase your own policy and consider the employer-paid policy supplemental.
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ESTATE PLANNING
Start now. “As long as you’re not dead, there’s time to do estate planning,†says Lori Anne Douglass, a partner in the trusts and estates practice at the law firm of Moses & Singer in New York City. At a minimum, everyone should have a will and medical and financial directives in place. “Without a will, state law prevails,†says Douglass, and the state might not distribute your assets as you would like. What is most important: A will is the only place where parents of minor children can legally designate a guardian for them, Douglass notes.
Keep track of changes. The most significant news on the estate planning front is the expected rise in federal estate tax rates. Net estates that exceed $1 million in value may be taxed at the rate of 55%; only the first $1 million will be exempt. In 2009, the first $3.5 million was exempt. If the bar is lowered, many more people could be affected, says Douglass, who points out that $1 million isn’t hard to reach with real estate in the equation. “You need to know the federal and state laws and work with a lawyer who can help you plan for them,†says Douglass.
Take note of assets and changes. Identify assets that have increased significantly in value, and account for changes such as divorce or death that will affect your beneficiaries. Evaluate whether your estate documents are appropriate for where you are in your life now. If you expect to
have assets valued at $1 million or more in 2011, have a financial professional do an estate tax analysis now to determine what your estate tax liability will be and to explore options for reducing or deferring it, advises Karen Lawrence-Webster, CPA, vice president and district manager with AXA Advisors.(Continued on next page)
RETIREMENT PLANNING
Determine how much you’ll need. Generally, says Dawn Brown, a senior financial adviser with Altfest Personal Wealth Management, 10% of gross pay should be put aside for retirement, but much depends on your goals. Figure out an annual withdrawal rate of at least 4%, she adds, assuming a 60% equities and 40% fixed income portfolio. Don’t just guess how much you’ll need for retirement; tally your exact requirements annually using a retirement calculator such as the one at Bankrate.com.
Don’t underestimate your time horizon. You don’t want to risk running out of money during retirement. “Plan for a longer time horizon than your parents or grandparents,†says Barbara Walker-Green, personal wealth and retirement planning adviser with Advanced Wealth and Retirement Planning Concepts. Generally, the longer the time horizon for your investments, the more risk you’ll be able to take on. “Many people make the mistake of assuming too little risk because they focus on short-term volatility,†she says. “They may end up with portfolios that underperform and that keep them from reaching their goals.â€
Maximize your employer-sponsored plan. Contribute at least the amount your employer will match. Make sure your portfolio is diversified among various types of investments and holdings and that the allocation fits your age, retirement goals, and time frame. Also, anticipate obstacles. “Think about significant changes that might occur in 2011, such as a child graduating, which may free up more cash. Or a teenager who will be driving and want a car, which may reduce how much you can save toward retirement,†advises Lisa Baskfield, a CPA and CEO of Baskfield and Associates CPAs.
SAVINGS
To keep your financial plan intact, you’ll need sufficient savings. Most financial planners recommend saving the equivalent of six to eight months of expenses. If you haven’t started building a cash cushion, now is the time. Make saving easier by having a set amount automatically deducted from your checking account regularly, or set up an automatic deposit into an online high-yield savings account from your paycheck. When an emergency occurs, this savings will keep you from maxing out your credit cards or raiding your 401(k).
Now that you know what to look for, start reviewing your finances. Conduct a thorough inventory, and commit to monitoring your progress as you go through 2011. By this time next year, you’ll be well on your way toward building wealth for you and your family.
–Additional reporting by Sheiresa Ngo