What you need to know about life cycle funds
Like the college student who refuses to consider his impending entry into the labor market, many Americans take a head-in-the-sand approach when it comes to retirement planning. They don’t contribute enough to 401(k) plans, and they don’t periodically rebalance their investments to protect contributions and generate a reasonable rate of return.
One recent solution to this dilemma is the advent of life cycle or target date funds. Also called age-based funds, these funds contain holdings in other mutual funds. In other words, they’re “funds of funds.” In some cases, firms automatically contribute a portion of an employee’s salary to the company retirement plan, and life cycle funds are the default depository for such contributions.
If you’ve set aside money in a 529 savings plan for your child’s college education, you might be familiar with the concept. When an employee is just starting out, the target retirement fund might invest 80% of its assets in stock-based mutual funds and only 20% in more conservative funds. As the employee progresses toward retirement, the mix changes. A life cycle fund for an employee in his 60s might invest 60% of its assets in bonds and other relatively conservative investments, while only 40% might be allocated to stock funds. Life cycle funds put portfolio rebalancing on autopilot. The fund manager tracks the allocation of stocks and bonds, and makes adjustments as needed to meet predetermined investment objectives based on target retirement dates.
Although putting your retirement investments on autopilot might sound like a great idea, this approach also has some significant drawbacks. For one thing, contributing to a garden variety index fund may be cheaper because you don’t have the expense of managers who periodically rebalance your investments. Also, including a life cycle fund in a broader investment portfolio may make it difficult to determine your asset mix at any point in time. If you know, for example, that your 401(k) is invested in a Standard and Poor’s 500 index fund and a fund consisting solely of U.S. Treasury bonds, it’s relatively easy to know how much of your money is invested in stocks and bonds. Adding a life cycle fund to the mix, with its fluctuating holdings of more-or-less conservative and risky investments, can muddy the waters and make portfolio management tricky.
Still, life cycle funds may make sense for you. Just be sure to verify that your autopilot is still on course.
How to be “audit ready”
No one likes to see a policeman’s flashing lights in the rearview mirror, and no one likes to receive a phone call or letter from the dreaded auditor. But if you operate a business or your organization receives federal or state grants, at some point you may find auditors making that contact. And while it’s true that only a small percentage of individual taxpayers suffer through an IRS audit in any given year, it makes sense to be prepared—just in case. One key to being ready is knowing how auditors think.
- Why can’t they just take my word for it? Auditors are trained to be skeptical. In fact, they’re required by professional standards to maintain questioning minds while performing their duties. They don’t necessarily assume that you’re dishonest, but they won’t put much stock in your honest face and sparkling personality either. If you claim a deduction for charitable contributions, for example, an auditor doesn’t really care whether or not you’re a generous person. He or she will want to see proof that you actually donated the amount of money that’s listed on your tax return. If your business says it incurred certain expenses while entertaining clients, the auditor may need to examine actual restaurant receipts. To an experienced auditor, skepticism is second nature. Don’t take it personally.
- Show me the documents. Auditors love documentation. It makes their job easier. When you can put your hands on an invoice that exactly matches the amount claimed on your federal form, you may actually bring a smile to an auditor’s face. On the other hand, if he or she asks for supporting documents and you hem and haw and search for hours, be prepared for trouble. They’re not mad at you. They just have a job to do, and the burden of proof is on you. The best way to prepare for an audit is to maintain good records throughout the year. Stay organized. Know how to find your documents and be ready to support every number claimed.
Having good records and thinking like an auditor can make actually going through an audit much easier. If you need assistance at any point, contact our office.
Keys to getting a small business loan
Before a start-up company can begin producing revenue, it often needs an infusion of cash that exceeds owner contributions. Even long-established firms sometimes must borrow to purchase inventory, buy real estate, expand operations, meet payroll, or keep the lights on. When business owners turn to banks and other financial institutions for help, some are offered loans; others walk away empty handed.
Why the difference? If you’ve read the financial press in recent years, you know that many banks have been burned. Some with lax underwriting practices extended credit to companies that went bankrupt. Even some strong institutions failed when large loans weren’t repaid. Those that survived may be licking their wounds and rethinking their lending practices. As a result, your bank may be reticent to extend credit to a company that lacks a proven track record or that’s otherwise perceived as a bad risk.
But even if your bank is willing to extend credit, don’t sabotage your efforts by failing to prepare adequately. Increase your chances of getting a business loan by following these suggestions:
- Show that you have a detailed business plan. Putting your ideas, projections, and assumptions on paper can uncover gaps in your logic and flaws in your research. Your business plan should lay out market research, financial projections, start-up costs (if applicable), and assumptions. Show how you’re going to spend every dollar of the loan proceeds to generate revenue. Consider the plan from the other side of the table. Would you lend money to a company that lacks a credible strategy?
- Show that you’re capable. Lenders must have confidence in you. Convince them. Show that the combination of your management team’s education, skills, and work ethic will lead to success. To demonstrate your ability to repay the loan, you may be asked to share your credit report and tax returns. If you’ve struggled to meet prior obligations, be ready with explanations, including evidence of extenuating circumstances.
- Show that you’re invested. Lenders often look kindly on business partners who have pumped a substantial amount of their own savings into a company. Before applying for a business loan, plan to document that at least 25% of the firm’s equity has come from the personal assets of its owners and investors. From a lender’s perspective, such an investment demonstrates a commitment to see the company through hard times — and to pay back the loan.
Are you an active participant?
Are you an active participant in your employer’s retirement plan?
A “yes” answer can affect your federal income tax deduction for contributions to your traditional IRA.
For 2011 and 2012, the maximum contribution to a traditional IRA is $5,000 (plus an additional $1,000 when you’re over age 50). When you’re an active participant in your employer’s plan, how much of that you can deduct may be limited.
Not sure of your status?
Look at the middle box on line 13 of Form W-2 — the one labeled “Retirement plan.” When the box is checked, you’re considered an active participant.
The next question — should the box be checked? — can cause confusion for both employers who prepare Form W-2 and employees who use Form W-2 to file tax returns.
That’s because the rules differ for different types of plans. For example, when you’re eligible to participate in a defined benefit plan, you’re an active participant even if you choose to not take part. Your eligibility is enough to trigger “active” status.
For 401(k) plans, you’re an active participant when you elect to make contributions. If you decide not to contribute, you may still be considered an active participant, depending on what other amounts were allocated to your account during the year.
Please call us at Dye Whitcomb 970.207.9724 if you need more information about the meaning of active participation. We’re ready to help.