Refund Anticipation Loans

Today Personal Finance Advice posted about how tax preparers have become loan sharks. It's a great article and a disturbing trend. It takes advantage of those who don't have the knowledge to manage their own money when that group is the one that needs the most help.

Anyone who has met me or has been involved in one of my forum discussions on the topic knows that I abhor payday loan companies. They're sneaky, underhanded and take advantage of people. Their rates are usury and they only get away with it because they charge "fees" instead of interest.

These Refund Anticipation Loans (RAL) seem to be the new payday loans. Lots of states have started coming down on payday loan companies and I hope these RAL companies are soon to follow. I guess it makes sense though. Face-to-face companies have started losing a lot of business because of online filing software but hopefully they'll come up with a better solution than completely screwing the consumer. I suggest you boycott companies that offer RALs and read Boston Gal's posting on how to get DIY tax preparation software for cheap. Then you can do it yourself and get your money back quickly and cheaply.

This week in Blogs (1/14-1/21)

• JLP at All Financial Matters talks a bit about his concerns about Social Security as a follow up to comments about a prior post. It’s a divisive issue that many people don’t want to think about. Check out the comments that he’s getting. He also has a great post on how to calculate the expected return on a portfolio.
  

• Boston Gal talks about the cheapest way to get DIY tax software. She also made a great post about how having kids impacts your financial plans.
  

• At Blueprint for Financial Prosperity they take a look at historic federal tax brackets. I absolutely agree with his conclusions and have been saying it for a while. People who think that when they retire they’re going to be in a lower tax bracket are in for a rude awakening. When you take into account inflation and history it’s almost certain that rates will be higher in the future – and you should plan accordingly. Also, as a compliment to our article about why a Roth is great, here’s a post on why you should invest in your Roth right now.

What's so great about a Roth IRA?

It’s a question I hear a lot and the answer is: almost everything.

Let’s start with the basics. A Roth is a type of Individual Retirement Account (IRA) which allows you to save in a tax advantaged way even if your employer does not offer a retirement plan. The thing that differentiates the Roth from other types of IRAs (Traditional, SEP) is that the money you put into a Roth is put in after taxes are taken out which means that you’ll never pay taxes on that money again.

“No taxes?” you ask. That’s right. No taxes. That means if you contribute $40,000 to your Roth over the next 10 years and it grows to be $400,000 when you retire, you won’t pay a dime of taxes on that $360,000 that your investment earned.

Sound too good to be true? It really isn’t. Of course, there are a couple rules that you’ll have to follow.

Disadvantages

First, you are only allowed to put in $4,000/year (as of 2007, changes to $5,000 in 2008) and you have to have earned at least that much in income (unless you are an unemployed spouse in which case you can still contribute).

Second, there is a cap on how much you can earn each year and still be able to contribute to a Roth.

• Single: Under $95,000 = Full Contribution; $95,001-$110,000 = Partial Contribution; over $110,000 = No Contribution.
• Married filing Joint: Under $150,000 = Full Contribution; $150,001-$160,000 = Partial Contribution; over $160,000 = No Contribution.
• Married filing Separate: $0-$10,000 = Partial Contribution; Over $10,000 = No Contribution
  

* The above salaries are all your MAGI. MAGI stands for Modified Adjusted Gross Income and is an amount that is used for determining a taxpayer's IRA eligibility; it is generally the taxpayer's adjusted gross income (shown on IRS Form 1040 or 1040A) calculated without any IRA deduction, foreign earned income exclusion, foreign housing exclusion, student loan interest deduction, exclusion of qualified savings bond interest from Form 8815, exclusion of employer-paid adoption expenses from Form 8839, or deduction for qualified tuition and related expenses.

Third, since this is a retirement account, there are some rules for how and when you can get at your money without paying penalties and taxes. Luckily those rules aren’t too bad and the advantages make them worth it.

Advantages

First, as mentioned above, since you are putting in after-tax money, that money and all of the earnings grow tax free so when you access it in retirement you won’t have to pay taxes on it.

Second, Roth’s provide tax diversity in retirement. Because other retirement plans are taxable at income tax rates when you retire, having a Roth allows you to control how much you have to take out of those accounts and therefore control how much you pay in taxes each year. This can come in handy if you are on the border between two tax brackets.

Third, unlike other retirement accounts which require that you start taking money out at a certain age, with a Roth, if you don’t need the money you never have to take it. This means your money can continue to grow throughout retirement and you can leave a nice nest egg for your heirs.

Fourth, the Roth is much more lenient about letting you have access to your money before retirement. With a Roth you can take out your contributions at any time for any reason without taxes or penalties. Additionally, if your account has been open for 5 years, you can access your earnings without paying tax on them and there will be no penalties as long as you are using the money for a qualified reason:

• The distribution occurs on or after the Roth IRA owner reaches age 59.5.
• For un-reimbursed medical expenses
• To pay medical insurance (under specific circumstances)
• Due to disability
• As distributions to the Roth IRA beneficiary
• As part of an SEPP program
• For qualified higher-education expenses
• To purchase a first home
• For payment of Roth IRS levy

Fifth, there is no minimum age to start a Roth which means that if an 11 year old has a paper route they can contribute their earnings and start their retirement savings REALLY early. With the advantage of compounding, that is a great thing!

Conclusion

The Roth offers a great, user friendly way to save for retirement. It’s flexibility, tax advantages and other benefits make it an easy decision to participate and everyone who is able should be maxing out their Roth.

The 5 biggest financial mistakes new graduates make

Graduation is an exciting time and you’ll probably experience more changes during the 6 months following graduation than at any other single time in your life. For many people it’ll be the first time you’ve had a full-time job making good money (you hope), the first time you’ve lived on your own, the first time you’ve lived in a different state (or country) and the first time you’ve been in complete control over what you’re going to do with your life. It’s a stressful time but also exhilarating.

Unfortunately, with the first blush of freedom, both personal and financial, many grads jump into situations without fully thinking them out. Below are 5 of the worst mistakes new grads make and hints on how you can avoid them.

1. Ooh, pretty, sparkly

It’s understandable, you’re finally receiving real pay checks, you have a shiny new job and it just makes sense to have a shiny new car to match. Unfortunately, financially speaking buying a new car is one of the worst decisions you can make. Most new cars depreciate 25% or more within the first year which means that you’ll be stuck paying full price for something that went on sale 10 minutes after you purchased it.

Instead of buying a new car it’s a much better idea save your money for a few months and pay cash for a used car. A 3-5 year old car can look just as nice as a new one and can cost half the price. If you really think that buying a new car is the way to go, do yourself a favor and try it out first. For 12 months, put the amount of your car payment into a savings account each month. Don’t forget to include the extra money that you’ll pay for the higher insurance coverage which you’ll need with a financed car.

If, after a year, you are able to easily save for retirement, pay your bills in full and on time and still make your ‘car payment’ then go for it. Use the money you’ve saved over the last year as a down payment on the car that you want. However, what you’ll probably discover is that the $400/month car payment that seemed so easy to make isn’t quite so easy now that you’re paying on student loans, credit cards, utilities, entertainment and all of the other expenses you may never have had. It’s usually about 6 months into the new car loan (when those student loans start coming due) that most new grads begin seriously regretting their purchase.

2. The super sized apartment with a side of furniture
3. The employee’s new clothes
4. Retirement? I’m only 23! I’ve got plenty of time!
5. Credit, credit, who’s got good credit?