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Bucks: When the Tax Tail Wags Your Investment Dog

October 8, 2012 by Leave a Comment

Carl Richards

Carl Richards is a certified financial planner in Park City, Utah, and is the director of investor education at BAM Advisor Services. His book, “The Behavior Gap,” was published this year. His sketches are archived on the Bucks blog.

With less than a month to go until Election Day, it’s hard to miss all of the speeches about taxes. Tax rates, tax codes, tax deductions. So it’s easy to see why we’re so tempted to get really focused on our own personal tax situation and how to eke out a better result for ourselves.

But you know the old saying that we shouldn’t miss the forest because we’re so focused on the trees? Well, it happens with our investment decisions and taxes on a regular basis.

I had a recent conversation with some friends about a rental home they owned. They were evaluating their options for the property. Should they keep it? Remodel it? Sell it and look for an alternative investment?

As we walked through the details, it became clear to all of us that they have a great little investment in the context of their overall financial plan. Based on the price they paid years ago, the money they put into the house, the rental history and the income they collect, it appeared to be a much better investment than the alternatives they were considering, even when we accounted for the risk associated with rental properties.

But as soon as we came to that conclusion, they asked me this: “Why did our accountant tell us the opposite?”

Now, their accountant prefaced his advice with the disclosure that his job was to focus on taxes. Based on that perspective, his advice was to sell it because they currently qualified for a substantial tax savings on the capital gain that would not be available to them in the near future.

To be clear, the accountant didn’t give my friends bad advice. Instead he gave them advice based on one perspective, taxes. The reality is that smart, long-term financial decisions need to take more than one thing into consideration. But because taxes are associated with so much emotion (given how much people truly hate paying them), it’s incredibly easy to let taxes become our sole focus. And that can lead to bad decisions.

In this particular example, even when you included the tax savings, it still made sense to keep the property once we zoomed out and considered the decision in the context of their overall plan. In this instance, we were trying to avoid the trap of the tax tail wagging the investment dog.

Another situation where taxes can cloud our judgment comes in the form of spending more to deduct more. I’ve heard one of my doctor friends say that she’d been told to buy a larger home with a bigger mortgage so she could receive the greater interest deduction.

Now there may be other reasons to buy a bigger home, but spending another dollar in interest just so you can get something far less than that back in taxes just doesn’t make sense unless it’s part of some bigger plan.

Taxes and the way we feel about them can pull us into emotional quicksand. And when we make taxes our primary focus for financial decisions, it’s no wonder we get trapped into making decisions we may regret later. In the case of my friends, if they’d skipped over their initial assessment and made the decision to keep or sell the rental property based solely on the tax advice, they most likely would have regretted it.

Yes, we need to know the tax implications of our decisions, and getting good advice on the issue is helpful. But we need to be really careful to not let one perspective keep us from seeing the forest and making the wiser decision for our overall plan.

 

Article source: http://bucks.blogs.nytimes.com/2012/10/08/when-the-tax-tail-wags-your-investment-dog/?partner=rss&emc=rss

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Bucks Blog: There Is No Perfect (or Permanent) Financial Plan

January 24, 2012 by Leave a Comment

Carl Richards

Carl Richards is a certified financial planner in Park City, Utah. His new book, “The Behavior Gap,” was published earlier this month. His sketches are archived here on the Bucks blog.

Given the amount of time in each day and the number of resources we have at our disposal, it’s only natural that we have an expectation that we’re going to get the decisions we make about money “perfect.”

Over time, we figure out how much money we should spend and define our financial priorities. But then things change and we have to make another decision, leaving us frustrated.

If we have to keep making the decisions over and over, then what’s the point?

Whether we like it or not, life is not static. We don’t live in bubbles. And even though one day may look very much like another, life is rarely the exact same every week let alone from year to year. Perhaps the basics stay the same — work, school, relationships — but little things change, and we learn to adapt to those changes.

We need to think the same way about money. Even after we make smart decisions life will continue to happen.

The decision to save money each month may need to change if someone loses a job. The decision to have another child may mean that you need to buy a new car sooner than planned. The decision to retire early may be put on hold after a health emergency. In each example, no one did anything wrong; life happened.

The unavoidable reality we face is that few financial decisions are set in stone. At some point, we’ll need to recalibrate, to take into account new circumstances that change our decisions. Too often people get caught up in thinking that this recalibration is a sign they made a mistake. Hardly. They just have a life.

In fact, in many ways, if you aren’t recalibrating your decisions as you go, then you’re likely ignoring decisions that will turn into mistakes and compound over time.

But, even as you look to recalibrate, you can’t ignore that some of these inputs will be outside your control, which takes us back to the idea of making perfect decisions. At any given point, we may make what appears to be a “perfect” decision, but there’s only so much that’s in our control.

It all brings the Serenity Prayer to mind:

God grant me the serenity to accept the things I cannot change; courage to change the things I can; and wisdom to know the difference.

Our goal shouldn’t be to pursue perfection in our decision making, but to get really good at knowing when we need to make a change. It will take practice and likely be something you need to do for the rest of your life.

Article source: http://feeds.nytimes.com/click.phdo?i=966bee683872ca2b86781ca9d29d6fbf

Filed Under: Your Money Tagged With: , ,

Bucks Blog: Everyone Should Use the Overnight Test

January 6, 2012 by Leave a Comment

Carl Richards

Carl Richards is a certified financial planner in Park City, Utah. His new book, “The Behavior Gap,” was published this week, and we’ll be running excerpts all week long. Meanwhile, his sketches are archived here on the Bucks blog.

A friend of mine recommends what he calls the Overnight Test. Ask yourself what you would do if someone came in and sold all of your investments overnight. The next morning you wake up and you’re left with 100 percent cash in your account.

Here’s the test: you can repurchase the same investments at no cost. Would you build the same portfolio? If not, what changes would you make? Why aren’t you making them now?
 

Patricia Wall/The New York Times

People have a tough time with this one. Maybe they’ve long since forgotten why they bought those investments in the first place (there must have been some reason, right?). It’s kind of like certain relationships: you grow apart, your lives take different directions and there’s nothing much left to talk about … but you keep hanging around with each other because change would require work.

In the case of investments, you can’t afford that kind of stagnation. You need investments that make sense given your current goals, which means you need to take a look at those goals, which means … work. This is why some people who take the Overnight Test just want to ask (Please!) for their old investments back. They may not admit it, but they just don’t want to do the work of coming up with new ones.

I understand. We’re busy. We have a lot on our minds. Who wants to add another item (in this case, “review investment portfolio”) to their to-do list? Unfortunately, this is one to-do that really needs to get done. I’m not talking about change for the sake of change. Buying and selling investments costs money. I’m saying you need to know what you own, and why you own it.

Excerpted from “The Behavior Gap: Simple Ways to Stop Doing Dumb Things With Money,” published by Portfolio/Penguin. Copyright © Carl Richards, 2012. Reprinted with permission.

Article source: http://feeds.nytimes.com/click.phdo?i=cdb240c291fd9d11592af5b3d4d44fad

Filed Under: Business News Tagged With: , ,

Bucks Blog: Stranger Danger: Personal Finance Really Is Personal

January 4, 2012 by Leave a Comment

Carl Richards

Carl Richards is a certified financial planner in Park City, Utah. His new book, “The Behavior Gap,” was published this week, and we’ll be running excerpts all week long. Meanwhile, his sketches are archived here on the Bucks blog.

Take it from me (a stranger): following the advice of strangers is a tricky business.

Let’s say you’re planning a vacation. You read a magazine article about someone who had a great time at a dude ranch in Montana. The pictures look fantastic. You go — and the bugs drive you crazy and you hate the heat and the food and the horses. Maybe the travel writer actually had a great time. But you’re not him.

Patricia Wall/The New York Times

The financial press, personal finance bloggers and best-selling authors are all sources of information. They may have good ideas, which you may find useful. But they can’t tell you how the information and the ideas apply to your situation. They don’t know you. More to the point, they aren’t you.

My friend Tim Maurer is a financial planner, educator and author. His favorite line goes like this: “Personal finance…is more personal than it is finance.”

It’s true. Planning for your financial future is personal. It has to be. A good plan will be unique to your situation, and what is right for your situation may be a disaster for your neighbor. So ponder how the advice you encounter applies to you before you make important decisions about your money.

Excerpted from “The Behavior Gap: Simple Ways to Stop Doing Dumb Things With Money,” published by Portfolio/Penguin. Copyright © Carl Richards, 2012. Reprinted with permission.

Article source: http://feeds.nytimes.com/click.phdo?i=63794f4f117aa3b2a488e41f3b62ee85

Filed Under: Business News Tagged With: , ,

Bucks Blog: A Plan for 2012 That You’ll Actually Follow

December 26, 2011 by Leave a Comment

Carl Richards

Carl Richards is a certified financial planner in Park City, Utah. His sketches are archived here on the Bucks blog. His new book, “The Behavior Gap,” will be out in January.

For 2012, I have a challenge for you: make financial decisions on purpose. Too much of what we do is based on habits and assumptions instead of a thoughtful plan. During the next year, see what happens when you do these three things:

1) Define your current reality. I used to think this was the easy part. Turns out I was wrong. Most people don’t know where they actually stand financially.

After the last few years, it’s tough to face the reality of our situations. Even if you have a sense that things have gone well for you financially, building a personal balance sheet doesn’t rank very high on the fun meter, but it has to be done. It makes it hard to reach any goal if you have no idea where you are starting from.

2) Set some goals. This step hangs people up because often we have no idea what we will be doing in five days, let alone five years. Still, it’s really hard to get somewhere if you don’t know where you’re going.

Let go of the need for precision. These are guesses, so make the best guess you can and move on. How important is paying for college for your child or children (or grandchildren)? Define it a bit. How much will it cost, what can you save, when will it happen?

Be honest. Be realistic. Of course part of this process will involve making some assumption about rates of return you will earn. Be conservative and focus instead on having realistic goals and saving more. If you can’t save more, maybe spend some time trying to earn a bit on the side.

3) Commit to course corrections. Plan on then, in fact. Break down what you have to do into quarterly action steps, and then revisit the plan every three months.

If you are off course, make changes while you’re only a little bit off. If you leave Los Angeles on a flight to New York City and you’re a half inch off course, it’s much easier to adjust when you are over Nevada than it will be a few miles outside of Miami.

Planning for a better financial future is an continuing process, not a single event. It is also short-term boring but long-term exciting.

In 2012, commit to doing small, simple things consistently and over time. It will be the opposite of what we’ll hear in the news every day about making enormous changes, so part of the challenge will be to ignore the constant call for rash actions and sweeping reform.

Let’s make 2012 about subtle, small actions so we can make progress towards our goals over a long period of time.

Article source: http://feeds.nytimes.com/click.phdo?i=9edc478e04e957a5eec4fc72e2355ff5

Filed Under: Your Money Tagged With: , ,

Bucks: Why ‘I Don’t Know’ Is Often Your Best Money Answer

December 20, 2011 by Leave a Comment

Carl Richards is a certified financial planner in Park City, Utah. His sketches are archived here on the Bucks blog. His new book, “The Behavior Gap,” will be out in January.

Of all the phrases in the financial planning world, “I don’t know” may well be the most powerful.

There are other phrases like “it depends” that are similar, but underlying them all is the fact that we are trying to make money decisions without a great deal of certainty. The reality is that we just don’t know what the next five, 10 or 20 years are going to look like.

Sure we can model it based on history, but that would just be a model. One of the most dangerous things I see in the investment and financial planning world is a false sense of precision.

In fact, I think there is a tremendous sense of freedom that comes with recognizing that we just don’t know what the future will look like. At that point, the process of financial planning becomes about making the best guess we can about that future. Then we consistently course correct as we go, before we get too far off track.

You may have heard me use this example before, but I often put it in terms of a pilot’s flight plan. Pilots take the process of preparing a flight plan very seriously, but they also know that the moment they take off, their plan will probably need to be changed. The weather may change, birds may start migrating or the airport they’re headed to may close halfway there. All they know for sure is that they’ll need to make ongoing course corrections throughout the flight.

Accepting the fact that we just don’t know allows us to let go of any anxiety around the idea that we should be able to find someone who does know. And let me share a secret with you about that: There isn’t anyone who knows what the next week, month, year or even decade will look like in the stock market. Anyone who says they do is someone you should run from.

What are some other things we just don’t know?

1) When our certificate of deposit rates are going to move up.

This comes with all sorts of implications. If you are waiting to refinance your house because gurus are telling you that interest rates will go down, please realize that they just doesn’t know what they’re talking about.

How many people have been sitting in money market accounts earning virtually zero because C.D. rates were “only” 1.5 percent and surely they would be going up soon? The reality is no one knows when interest rates will go up.

In fact, the academic evidence is pretty clear. The best estimate for future interest rates is today’s interest rates, meaning we just don’t know.

2) The direction of housing prices.

3) When the economy is going to turn around.

4) What’s going to happen to Apple (or Google or G.E. or Pepsi) stock.

The reality is no one knows. Jim Cramer doesn’t know. The teams of experts from the large banks and brokerage firms don’t know. And we all know what happens when you rely on a Federal Reserve chairman knowing. It turns out he doesn’t know either.

It’s so tempting to believe that there’s someone out there, someone with a big enough computer or access to a huge research staff. But there isn’t. And even if there is, it’s highly improbable that you or anyone will identify them beforehand, when their predictions will be of any value.

Sure, there are plenty of people who can claim that they got a certain prediction correct after the fact. But remember, if you’re in the prediction or forecasting business, you’re bound to get a few right, just like a broken clock is right at least twice a day.

If you choose to get help making financial decisions, look for someone with the experience to help you navigate the uncertainty. Someone who understands that the really important part is the ongoing course corrections based on what you learn in the future.

Sorting out our financial lives involves process, not products, and it means making the best decisions we can, learning new information as we go, making subtle tweaks based on that information and continuing to do so over and over and over again.

Article source: http://feeds.nytimes.com/click.phdo?i=6a6df8d6fbae9856a94f8762d51d26f3

Filed Under: Your Money Tagged With: , ,

Bucks Blog: The Ever-Shifting Balance Between Resources and Dreams

September 21, 2011 by Leave a Comment

Carl Richards

Carl Richards is a certified financial planner in Park City, Utah. His sketches are archived here on the Bucks blog and on his personal Web site, BehaviorGap.com.

Most of us have limited resources, like time, money, energy and skills. At the same time, we have needs, goals and dreams. All too often they exceed the limited resources we have, so balancing these two areas of our personal economy can be tricky. We also need to understand that over time both of these circles change.

Sometimes the resources we have will be greater and allow us to do more of the things we want. Other times our needs and wants will seem to dwarf the limited resources we have to throw at them.

But it’s not something that we decide once and then check off the list. It’s a challenge we have to revisit regularly. So here’s how to think about both of the circles.

First, we need to stop focusing on things outside our control. When we do that, we miss opportunities during both good times and bad (like now) to find our financial balance.  Don’t put off making important and necessary adjustments, because no one else will do it for you.

Second, we need to be honest about whether our goals are realistic given our resources. You may want to retire at 50, but if you haven’t been saving money regularly, that’s not likely to happen. Aim for things that really matter to you, but don’t set yourself up to fail before you ever start. Remember: your goal is maintaining balance, not achieving perfection.

Finally, look for new ways to make the balancing act work for you. Only you know your goals and only you understand what resources you can dedicate to achieving your dreams. Get the help you need to figure out the details, but it’s up to you to keep these two areas in balance.

It’s amazing the changes that I see in people once they figure out how to match their dreams with their resources. They worry a lot less day to day about things they have no control over. They spend more time with the people they love and doing things that make them happy. Even if their balance between resources and goals doesn’t look like anyone else’s, it’s still getting them where they want to go.

And that is all that matters.

Article source: http://feeds.nytimes.com/click.phdo?i=a32ff25cee8c6623ee1c122c48b71014

Filed Under: Your Money Tagged With: , ,
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