May 2013 Newsletter

Income-Based Repayment (IBR) for Federal Student Loans

The federal government’s income-based repayment program (IBR) for student loans allows qualified borrowers to tie their monthly federal student loan payments to their discretionary income. A new version of the IBR program called “Pay As You Earn” took effect on December 21, 2012 (it was originally scheduled to be phased in during 2014, but the Obama administration took regulatory measures to make it available sooner). The potential for IBR to change the landscape for college borrowers is enormous. According to the U.S. Department of Education, as of last October, about two million borrowers had applied for IBR.

What exactly is IBR?

Under the Pay As You Earn program, monthly federal student loan payments are based on income and family size (your payment is readjusted each year based on changes to these criteria). Payments are equal to 10% of your discretionary income, and payments are made over a period of 20 years, with all remaining debt generally forgiven after 20 years of on-time payments (loans are forgiven after 10 years for those in qualified public service if all payments are made on time and other requirements are met).

Note:An earlier version of IBR capped monthly payments at 15% of discretionary income and offered loan forgiveness after 25 years.

How do I qualify for IBR?

Not everyone is eligible for IBR. To qualify, you must meet several requirements:

1. You must have an eligible federal student loan. Loans eligible for IBR include federal Stafford Loans (subsidized and unsubsidized), Direct Loans (subsidized and unsubsidized), PLUS Loans made to graduate or professional students, and consolidation loans (that don’t include underlying PLUS Loans made to parents). Loans not eligible for IBR include PLUS Loans made to parents, consolidation loans that include underlying PLUS Loans made to parents, and private education loans from banks or other lenders.

2. You must be a new borrower as of October 1, 2007, and you must have received a disbursement of a qualifying federal student loan on or after October 1, 2011.

3. You must have a “partial financial hardship.” You are considered to have a partial financial hardship when the monthly amount you would be required to pay on your federal student loans under the 10-year standard repayment plan (i.e., fixed monthly payments over 10 years) is higher than the monthly amount you would be required to pay under IBR.

The Department of Education has an IBR calculator on its website that you can use to determine whether you are likely to qualify for IBR and to estimate what your IBR monthly payment would be ( The calculator considers your federal student loan balance, adjusted gross income (AGI), federal income tax filing status, family size, and state of residence. However, for an official determination of your eligibility for IBR, or to apply for IBR, you’ll need to contact your loan servicer. If you are unsure who holds your loans or who your loan servicer is, you can find out more at the National Student Loan Data System website ( You’ll need your Federal Student Aid PIN to sign in to the database.

A word of caution

IBR sounds like a gold mine, right? Well, there are some things to be aware of. First, with IBR, you may pay substantially more interest over the life of the loan than you would under a standard 10-year repayment plan because you are paying your loan over a longer period of time. Second, you must submit annual documentation to your loan servicer so your monthly payment amount can be reset (if necessary) each year. Third, and perhaps most significant, you may owe federal income taxes (and possibly state income taxes) on the amount of the loan that is forgiven after 20 years. For more information on IBR, visit

Understanding the New Medicare Tax on Unearned Income

Health-care reform legislation enacted in 2010 included a new 3.8% Medicare tax on the unearned income of certain high-income individuals. The new tax, known as the unearned income Medicare contribution tax, or the net investment income tax (NIIT), took effect on January 1, 2013.

Who must pay the new tax?

The NIIT applies to individuals who have “net investment income,” and who have modified adjusted gross income (MAGI) that exceeds certain levels (see the chart below). (Estates and trusts are also subject to the new law, although slightly different rules apply). In general, nonresident aliens are not subject to the new tax.

Filing Status MAGI over …
Single/Head of household  $200,000 
Married filing jointly/ Qualifying widow(er)  $250,000 
Married filing separately  $125,000 

What is MAGI?

For most taxpayers, MAGI is simply adjusted gross income (AGI), increased by the amount of any foreign earned income exclusion.

AGI is your gross income (e.g., wages, salaries, tips, interest, dividends, business income or loss, capital gains or losses, IRA and retirement plan distributions, rental and royalty income, farm income and loss, unemployment compensation, alimony, taxable Social Security benefits), reduced by certain “above-the-line” deductions (see page one of IRS Form 1040 for a complete list of adjustments).

Note that AGI (and therefore MAGI) is determined before taking into account any standard or itemized deductions or personal exemptions. Note also that deductible contributions to IRAs and pretax contributions to employer retirement plans will lower your MAGI.

What is investment income?

In general, investment income includes interest, dividends, rental and royalty income, taxable nonqualified annuity income, certain passive business income, and capital gains–for example, gains (to the extent not otherwise offset by losses) from the sale of stocks, bonds, and mutual funds; capital gains distributions from mutual funds; gains from the sale of interests in partnerships and S corporations (to the extent you were a passive owner), and gains from the sale of investment real estate (including gains from the sale of a second home that’s not a primary residence).

Gains from the sale of a primary residence may also be subject to the tax, but only to the extent the gain exceeds the amount you can exclude from gross income for regular income tax purposes. For example, the first $250,000 ($500,000 in the case of a married couple) of gain recognized on the sale of a principal residence is generally excluded for regular income tax purposes, and is therefore also excluded from the NIIT.

Investment income does not include wages, unemployment compensation, operating income from a nonpassive business, interest on tax exempt bonds, veterans benefits, or distributions from IRAs and most retirement plans (e.g., 401(k)s, profit-sharing plans, defined benefit plans, ESOPs, 403(b) plans, SIMPLE plans, SEPs, and 457(b) plans).

Net investment income is your investment income reduced by certain expenses properly allocable to the income–for example, investment advisory and brokerage fees, investment interest expenses, expenses related to rental and royalty income, and state and local income taxes.

How is the tax calculated?

The tax is equal to 3.8% of the lesser of (a) your net investment income, or (b) your MAGI in excess of the statutory dollar amount that applies to you based on your tax filing status.

So, effectively, you’ll be subject to the additional 3.8% tax only if your MAGI exceeds the dollar thresholds listed in the chart above.

Example: Sybil, who is single, has wages of $180,000 and $15,000 of dividends and capital gains. Sybil’s MAGI is $195,000, which is less than the $200,000 statutory threshold. Sybil is not subject to the NIIT.

Example: Mary and Matthew have $180,000 of wages. They also received $90,000 from a passive partnership interest, which is considered net investment income. Their MAGI is $270,000, which exceeds the threshold for married taxpayers filing jointly by $20,000. The NIIT is based on the lesser of $20,000 (the amount by which their MAGI exceeds the $250,000 threshold) or $90,000 (their net investment income). Mary and Matthew owe NIIT of $760 ($20,000 x 3.8%).

Note: The NIIT is subject to the estimated tax rules. You may need to adjust your income tax withholding or estimated payments to avoid underpayment penalties.


Four Retirement Saving Myths

No matter how many years you are from retirement, it’s essential to have some kind of game plan in place for financing it. With today’s longer life expectancies, retirement can last 25 years or more, and counting on Social Security or a company pension to cover all your retirement income needs isn’t a strategy you really want to rely on. As you put a plan together, watch out for these common myths.

Myth No. 1: I can postpone saving now and make it up later

Reality: This is very hard to do. If you wait until–fill in the blank–you buy a new car, the kids are in college, you’ve paid off your own student loans, your business is off the ground, or you’ve remodeled your kitchen, you might never have the money to save for retirement. Bottom line–at every stage of your life, there will be competing financial needs. Don’t make the mistake of thinking it will be easier to save for retirement in just a few years. It won’t.

Consider this: A 25 year old who saves $400 per month for retirement until age 65 in a tax-deferred account earning 4% a year would have $472,785 by age 65. By comparison, a 35 year old would have $277,620 by age 65, a 45 year old would have $146,710, and a 55 year old would have $58,900.

Note: This is a hypothetical example and is not intended to reflect the actual performance of any specific investment.

Why such a difference? Compounding. Compounding is the process by which earnings are reinvested back into a portfolio, and those earnings may themselves earn returns, then those returns may earn returns, and so on. The key is to allow enough time for compounding to go to work–thus the importance of starting to save early.

Now, is it likely that a 25 year old will be able to save for retirement month after month for 40 straight years? Probably not. There are times when saving for retirement will likely need to take a back seat–for example, if you’re between jobs, at home caring for children, or amassing funds for a down payment on a home. However, by starting to save for retirement early, not only do you put yourself in the best possible position to take advantage of compounding, but you get into the retirement mindset, which hopefully makes you more likely to resume contributions as soon as you can.

Myth No. 2: A retirement target date fund puts me on investment autopilot

Reality: Not necessarily. Retirement target date mutual funds–funds that automatically adjust to a more conservative asset mix as you approach retirement and the fund’s target date–are appealing to retirement investors because the fund assumes the job of reallocating the asset mix over time. But these funds can vary quite a bit. Even funds with the same target date can vary in their exposure to stocks.

If you decide to invest in a retirement target date fund, make sure you understand the fund’s “glide path,” which refers to how the asset allocation will change over time, including when it turns the most conservative. You should also compare fees among similar target date funds.

Myth No. 3: I should invest primarily in bonds rather than stocks as I get older

Reality: Not necessarily. A common guideline is to subtract your age from 100 to determine the percentage of stocks you should have in your portfolio, with the remainder in bonds and cash alternatives. But this strategy may need some updating for two reasons. One, with more retirements lasting 25 years or longer, your savings could be threatened by years of inflation. Though inflation is relatively low right now, it’s possible that it may get worse in coming years, and historically, stocks have had a better chance than bonds of beating inflation over the long term (though keep in mind that past performance is no guarantee of future results). And two, because interest rates are bound to rise eventually, bond prices could be threatened since they tend to move in the opposite direction from interest rates.

Myth No. 4: I will need much less income in retirement

Reality: Maybe, but it might be a mistake to count on it. In fact, in the early years of retirement, you may find that you spend just as much money, or maybe more, than when you were working, especially if you are still paying a mortgage and possibly other loans like auto or college-related loans.

Even if you pay off your mortgage and other loans, you’ll still be on the hook for utilities, property maintenance and insurance, property taxes, federal (and maybe state) income taxes, and other insurance costs, along with food, transportation, and miscellaneous personal items. Wild card expenses during retirement–meaning they can vary dramatically from person to person–include travel/leisure costs, health-care costs, financial help for adult children, and expenses related to grandchildren. Because spending habits in retirement can vary widely, it’s a good idea as you approach retirement to analyze what expenses you expect to have when you retire.


What are health Exchanges and do I have to buy health insurance through them?

A health insurance Exchange is essentially a one-stop health insurance marketplace. Exchanges are not issuers of health insurance. Rather, they contract with insurance companies who then make their insurance coverage available for examination and purchase through the Exchange. In essence, Exchanges are designed to bring buyers and sellers of health insurance together, with the goal of increasing access to affordable coverage.

The Patient Protection and Affordable Care Act does not require that anyone buy coverage through an Exchange. However, beginning in 2014, each state will have one Exchange for individuals and one for small businesses (or they may combine them). States have the option of running their own state-based Exchange or partnering with the federal government to operate a federally facilitated Exchange. States not making a choice default to a federally run Exchange.

Through an Exchange, you can compare private health plans based on coverage options, deductibles, and cost; get direct answers to questions about coverage options and eligibility for tax credits, cost-sharing reductions, or subsidies; and obtain information on a provider’s claims payment policies and practices, denied claims history, and payment policy for out-of-network benefits.

Policies sold through an Exchange must meet certain requirements. Exchange policies can’t impose lifetime limits on the dollar value of coverage, nor may plans place annual limits on the dollar value of coverage. Insurance must also be “guaranteed renewable” and can only be cancelled in cases of fraud. And Exchanges can only offer qualified health plans that cover essential benefits.

In order to be eligible to participate in an individual Exchange:

• You must be a U.S. citizen, national, or noncitizen lawfully present in the United States

• You cannot be incarcerated

• You must meet applicable state residency standards


I already have health insurance. Will I have to change my plan because of the new health-care reform law? 

For the most part, no. The Patient Protection and Affordable Care Act (ACA) does not require you to change insurance plans, as long as your plan, whether issued privately or through your employer, meets certain minimum requirements. In fact, the ACA may add benefits to your existing plan that you have not had before.

Your present insurance plan may be considered a grandfathered plan under the ACA if your plan has been continually in existence since March 23, 2010 (the date of enactment of the ACA), and has not significantly cut or reduced benefits, raised co-insurance charges, significantly raised co-payments or deductibles, and your employer contribution toward the cost of the plan hasn’t significantly decreased. However, if a grandfathered plan significantly reduces your benefits, decreases the annual dollar limit of coverage, or increases your out-of-pocket spending above what it was on March 23, 2010, then the plan will lose its grandfathered status.

Some provisions of the ACA apply to all plans, including grandfathered plans. These provisions include:

• No lifetime limits on the dollar cost of coverage provided by the plan

• Coverage can’t be rescinded or cancelled due to illness or medical condition

• Coverage must be extended to adult dependents up to age 26

The ACA doesn’t apply to all types of insurance. For example, the law doesn’t apply to property and casualty insurance such as automobile insurance, homeowners insurance, and umbrella liability coverage. The ACA also doesn’t affect life, accident, disability, and workers’ compensation insurance. Nor does the law apply to long-term care insurance, nursing home insurance, and home health-care plans, as long as they’re sold as stand-alone plans and are not part of a health plan. Medicare supplement insurance (Medigap) is generally not covered by the ACA if it’s sold as a separate plan and not as part of a health insurance policy.


” DISCLAIMER: This newsletter is for informational purposes only and does not constitute a complete description of our investment advisory services or performance. This newsletter is neither a solicitation nor an offer to sell securities or investment advisory services except, where applicable, in states where we are registered or where an exemption or exclusion from such registration exists. Any information contained in this newsletter, whether stock quotes, charts, articles, or any other statement or statements regarding market or other financial information, is obtained from sources which we and our suppliers believe to be reliable. However, we do not warrant or guarantee the timeliness or accuracy of this information. Nothing in this newsletter should be interpreted to state or imply that past results are any indication of future performance. THERE ARE NO WARRANTIES, EXPRESSED OR IMPLIED, AS TO ACCURACY, COMPLETENESS, OR RESULTS OBTAINED FROM ANY INFORMATION WRITTEN IN THIS OR ANY ‘LINKED’ ARTICLE