January 2014 Newsletter

The Impact of Health-Care Costs on Social Security

For many retirees and their families, Social Security provides a dependable source of income. In fact, for the majority of retirees, Social Security accounts for at least half of their income (Source: Fast Facts & Figures About Social Security, 2013). However, more of that income is being spent on health-related costs each year, leaving less available for other retirement expenses.
The importance of Social Security
Social Security is important because it provides a retirement income you can’t outlive. In addition, benefits are available for your spouse based on your benefit amount during your lifetime, and at your death in the form of survivor’s benefits. And, these benefits typically are adjusted for inflation (but not always; there was no cost-of-living increase for the years 2010 and 2011). That’s why for many people, Social Security is an especially important source of retirement income.
Rising health-care costs
You might assume that when you reach age 65, Medicare will cover most of your health-care costs. But in reality, Medicare pays for only a portion of the cost for most health-care services, leaving a potentially large amount of uninsured medical expenses. How much you’ll ultimately spend on health care generally depends on when you retire, how long you live, your health status, and the cost of medical care in your area. Nevertheless, insurance premiums for Medicare Part B (doctor’s visits) and Part D (drug benefit), along with Medigap insurance, could cost hundreds of dollars each month for a married couple. In addition, there are co-pays and deductibles to consider (e.g., after paying the first $147 in Part B expenses per year, you pay 20% of the Medicare-approved amount for services thereafter). Your out-of-pocket yearly costs for medical care, medications, and insurance could easily exceed thousands of dollars.
Medicare’s impact on Social Security
Most people age 65 and older receive Medicare. Part A is generally free, but Parts B and D have monthly premiums. The Part B premium generally is deducted from your Social Security check, while Part D has several payment alternatives. In 2013, the premium for Part B was $104.90 per month. The cost for Part D coverage varies, but usually averages between $30 and $60 per month (unless participants qualify for low-income assistance). Part B premiums have increased each year and are expected to continue to do so, while Part D premiums vary by plan, benefits provided, deductibles, and coinsurance amounts. And, if you enroll late for either Part B or D, your cost may be permanently increased. In addition, Medicare Parts B and D are means tested, meaning that if your income exceeds a predetermined income cap, a surcharge is added to the basic premium. For example, an individual with a modified adjusted gross income between $85,000 and $170,000 may pay an additional 40% for Part B and an additional $11.60 per month for Part D.  Note: Part C, Medicare Advantage plans, are offered by private companies that contract with Medicare to provide you with all your Part A and Part B benefits, often including drug coverage.  While the premiums for these plans are not subtracted from Social Security income, they are increasing annually as well.
The bottom line
The combination of rising Medicare premiums and out-of-pocket health-care costs can use up more of your fixed income, such as Social Security. As a result, you may need to spend more of your retirement savings than you expected for health-related costs, leaving you unable to afford large, unanticipated expenses. Depending on your circumstances, spending more on health-care costs, including Medicare, may leave you with less available for other everyday expenditures and reduce your nest egg, which can impact the quality of your retirement.


Think Outside the Shoe Box When Organizing Financial Records
If you’ve ever had trouble finding an important financial document, you know why it’s necessary to keep your financial records organized. Less clutter means less stress, and though you’ll need to commit a bit of time up front to organize your files, you can save time and money over the long term when you can find what you need when you need it.
What records do you need to keep?
If you keep paperwork because you “might need it someday,” your files are likely overflowing with nonessential documents. One key to organizing your financial records is to ask yourself “Why do I need to keep this?” Documents that you should retain are likely to be those that are related to tax returns, legal contracts, insurance claims, and proof of identity. On the other hand, documents that you can easily duplicate elsewhere are good candidates for the shredder. For example, if you bank online and can view or print copies of your monthly statements and cleared checks, you may not need paper copies of the same information.
How long should you keep them?
A good rule of thumb is to keep financial records only as long as necessary. For example, you may want to keep ATM receipts only temporarily, until you’ve reconciled them with your bank statement.  If a document provides legal support and/or is hard to replace, you’ll want to keep it for a longer period or even indefinitely.
Records that you may want to keep for a year or less include:
• Bank or credit union statements
• Credit card statements
• Utility bills
• Annual insurance policies
Records that you may want to keep for more than a year include:
• Tax returns and supporting documentation
• Mortgage contracts and supporting documents
• Receipts for home improvements
• Property appraisals
• Annual retirement and investment statements
• Receipts for major purchases
Records that you may want to keep indefinitely include:
• Birth, death, and marriage certificates
• Adoption papers
• Citizenship papers

• Military discharge papers

• Social Security card

Of course, this list is not all-inclusive and these are just broad guidelines; you may have a good reason for keeping some records for a shorter
or longer period of time.
Where should you keep them?
Where you should keep your records and documents depends on how easily you want to be able to access them, how long you plan to keep them, and how many records you have. A simple set of labeled folders in a file cabinet works fine for many people, but electronic storage is another option if space is tight.  For example, one easy way to cut down on clutter and still keep everything you need is to store some of your files on your computer. You can save copies of online documents or purchase a scanner that you can use to convert your documents to electronic form. But make sure you keep backup copies on a portable storage drive or hard drive, and make sure that your files are secure.  Another option to consider is cloud storage. Despite its lofty name, cloud storage is simply an online backup service that allows you to upload and store your files over the Internet, giving you easy access to information without the clutter. Information you upload is encrypted for security.  If you’re interested, look for a company with a reliable reputation that offers automatic backup and good technical support, at a reasonable subscription cost.
Staying organized
Keeping your financial records in order can be even more challenging than organizing them in the first place. One easy way to prevent paperwork from piling up is to remember the phrase “out with the old, in with the new.” For example, when you get this year’s auto policy, discard last year’s.
When you get an annual investment statement, discard the monthly or quarterly statements you’ve been keeping. It’s a good idea to do a sweep of your files at least once a year to keep your filing system on track (doing this at the same time each year may be helpful).  But don’t just throw your financial paperwork in the trash. To protect sensitive information, invest in a good quality shredder that will destroy any document that contains account numbers, Social Security numbers, or other personal information.  Whatever system you choose, keep it simple. You’ll be much more likely to keep your records organized if your system is easy to follow.


Divorce and Retirement Benefits
While we all hope our marriages will last forever, statistics tell us that about 50% of marriages in the United States will end in divorce.*   And since retirement plan benefits are frequently among the most valuable marital assets, it’s important to understand how those benefits may be impacted by a divorce.
Identify all retirement assets
Like houses, cars, and bank accounts, retirement assets can be divided at the time of a divorce.  The laws of your particular state will define just which retirement benefits are marital assets (or community property in community property states) that are subject to division.
“Retirement assets” is a broad term that covers several different account and plan types. You and your spouse may have one or more IRAs, and they may be held by various financial institutions. One or both of you may also be entitled to retirement benefits from past and current employers.  Employer retirement plans come in various forms. Most are “qualified plans,” which are entitled to special tax benefits under federal tax laws. These can be “defined contribution” plans like 401(k), 403(b), and 457(b) plans–you own an individual account that contains a specific dollar amount of benefits. Or they can be “defined benefit” plans, which pay a monthly pension benefit (currently or sometime in the future) based on your salary and number of years of service at retirement, and other factors.
Dividing marital assets
Once the retirement assets, along with all other marital assets, have been identified, you and your spouse can begin negotiating a property settlement agreement (or seek the assistance of the courts). In some cases, one spouse may agree to waive any rights to all or some of the other
spouse’s retirement benefits in exchange for other marital assets (for example, the home). This strategy may be appropriate where the retirement assets consist solely of a 401(k)-like plan, where the value of the benefit is clear–generally the account balance–so trading for other marital assets is fairly straightforward.  On the other hand, trading defined benefit pension benefits for other marital assets should be done only if you’re certain you know the full value of those benefits. This may require the assistance of an actuary, who can determine the present value of your spouse’s future benefits. And remember that you may be giving up valuable retirement benefits payable for your lifetime, so before you give these up, make sure you’ll have other adequate resources available to you at retirement.
Qualified plans–QDROs
If qualified retirement benefits (e.g., a 401(k)) must be divided, the procedure is to submit a qualified domestic relations order, or QDRO, to the retirement plan administrator. A QDRO is a court judgment, decree, or order establishing the marital property rights of a spouse, former
spouse, child, or dependent of a participant in a qualified retirement plan. There are a number of ways that plan benefits can be divided pursuant to a QDRO. For example, you could be awarded all or part of your spouse’s 401(k) plan benefit as of a certain date, or all or part of your spouse’s pension plan benefit. It’s very important to hire an attorney who has experience negotiating and drafting QDROs–especially for defined benefit plans where the QDRO may need to address such items as survivor benefits, benefits earned after the divorce, plan subsidies, COLAs, and other complex issues. (For example, a QDRO may provide that you’ll be treated as the surviving spouse for survivor annuity purposes, even if your spouse subsequently remarries.)  You’re responsible for any taxes on benefits awarded to you pursuant to a QDRO (although the 10% early distribution penalty tax will not apply). You may be able to roll certain distributions into your IRA to defer taxes.
The QDRO rules don’t apply to IRAs or nonqualified plans. The extent to which IRAs are marital property, subject to division, is a matter of state law. However, federal law does contain rules that govern the taxation of IRA benefits distributed pursuant to a divorce. The general rule is that the IRA owner-spouse must pay tax on any IRA distributions. However, if the IRA benefits are paid to a spouse or former spouse’s IRA pursuant to a divorce decree, then the IRA owner spouse will not be responsible for any taxes on the amount distributed. Instead, the recipient spouse must pay any taxes due when payments are received from the IRA.


Is my child’s college scholarship taxable?
It depends. If a scholarship is used to pay for tuition, fees, books, supplies, or equipment required for admission, then it’s not taxable. But if it’s used to cover incidental expenses like room and board, travel, or optional equipment, or if it’s awarded as payment for teaching or research, then it’s taxable. Generally, if a scholarship is taxable and needs to be reported on your tax return, you will include the amount on the same line as “Wages, salaries, tips, etc.”   Fortunately, most scholarships let the recipient decide how to apply the money. However, there’s one thing to consider here: if you use a scholarship to cover tuition, fees, books, or required equipment–making the scholarship tax free–you can’t use those same expenses to qualify for the American Opportunity tax credit. That’s because the credit applies only to tuition and fees paid with after-tax funds–tuition and fees paid with tax-free funds like scholarships or 529 plan funds won’t count.
The American Opportunity tax credit–available for each of the first four years of a student’s college education–is worth up to $2,500 per year and is calculated as 100% of the first $2,000 in tuition and fees plus 25% of the next $2,000 in tuition and fees. Your modified adjusted gross income must be below a certain level to get the full credit: $160,000 for married couples filing jointly and $80,000 for single filers.  If your child gets a scholarship and you qualify for the credit, you’ll want to run some numbers to decide whether it’s best to:
• Apply the scholarship to tuition and fees, making it tax free, but also disqualifying those same tuition and fees from counting toward the credit, or
• Apply the scholarship to incidental college expenses like room and board, making it taxable, but allowing the full amount of tuition and fees to count toward the credit.  In making this determination, keep in mind that a tax credit is generally more valuable than a tax deduction because a tax credit reduces any taxes owed dollar for dollar.  For more information on the tax treatment of scholarships and the American Opportunity tax credit,  refer to IRS Publication 970, Tax Benefits for Education.


What is a college net price calculator?
A college net price calculator–now required by the federal government on all college websites–is an online calculator that attempts to give
families an estimate of how much grant aid a student might expect at a particular college based on that student’s financial and academic profile and the college’s specific criteria for awarding grant aid. The cost of attendance at a college minus grant aid equals the net price, hence the name
“net price calculator.”  The idea behind net price calculators is to give students and their parents a more accurate picture earlier in their college search of what they will likely need to pay at a specific college instead of forcing them to rely on the college’s published sticker price. The key word here is “likely.”   The figures quoted by a net price calculator are simply estimates; they are not guarantees of aid, and colleges go out of their way to spell this out. Nevertheless, running the numbers on one is an excellent way to get an early estimate of what a student’s net price might be at a particular college.
So how do colleges estimate how much grant aid a student might get? It varies. Each college has a different formula for determining how much institutional grant aid it distributes; thus, no two net price calculators are identical. For example, you might enter identical financial and family information on two separate net price calculators and come out with a net price of $20,000 per year at College A and $35,000 per year at College B.  A typical net price calculator will ask for parent income and assets, student income and assets, and number of children in the family, including how many will be in college at the same time as the student in question (tip: the more children in college at the same time, the lower the net price!).  It may also ask more detailed questions, such as a student’s class rank and/or test scores, how much money parents have saved
in employer retirement plans in the most recent tax year, current home equity, the year the family home was purchased, and how much parents expect to pay in out-of-pocket health-care costs in the coming year. A typical net price calculator should take about 10 to 15 minutes to complete. These calculators might show up in very different places on college websites, so be prepared to search around for them.


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