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real estate boom

Real Estate is Booming? Is a Bust Ahead?

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Anyone looking to buy or sell a home lately has probably been hit by sticker shock. Residential real estate prices have gone through the roof, increasing at rates unseen since 2005. According to S&P Case-Shiller, home prices in March saw their highest annual rate of growth in over 15 years — up 13.2% from a year earlier, following a 12.0% annual gain in February. Some markets — most notably Phoenix, San Diego, and Seattle — saw gains of 18% to 20%.1 What’s more, the median price of a new home sold in April was $372,400, up 20.1% from a year earlier, the strongest annual gain since 1988.2

Bidding wars are now common, and in some neighborhoods, competition is so fierce that many homes are sold before they even hit the market. According to Zillow, nearly half of the people who sold homes in April accepted an offer within a week.3

What’s Behind the Surge

Several different factors are driving the frenzy. For one, mortgage rates remain historically low. Although they have crept up some since their all-time low in January, the rate on a 30-year conventional mortgage was just 2.93% as of June 27.4 That means that anyone looking to spend a fixed amount per month on a mortgage can now afford much more house than they could a few years ago.

There are also demographic factors at work. Millennials, who, as a group, have long shunned buying in favor of renting, are now entering the market in force. COVID-19 and the prospect of long-term telecommuting have encouraged many to move from urban apartments to suburban homes. Many others are transitioning into larger homes to accommodate families.

Perhaps the biggest reason for the current spike in prices is supply — or lack thereof. The inventory of new houses has been sharply constricted by a widespread lumber shortage, along with shortages of kitchen appliances and other building supplies, such as copper and PVC pipe. Transportation logjams, brought on in part by COVID lockdowns and business closures, continue to impact new home construction. This has put pressure on the overall inventory of existing homes as well, as would-be buyers of new homes opt for existing homes instead. Although existing home sales are up year-to-date, they dropped in April for the third consecutive month, according to the National Association of Realtors.5

Will it continue?

Although the current supply shortage shows no signs of abating, over time, the bottlenecks will likely work their way out, as the post-COVID economy kicks into gear. Price appreciation is unlikely to continue at its current heady pace, but most real estate analysts do not foresee any major price drop, as happened back in 2006 to 2012 when overbuilding and lax lending standards posed more fundamental issues. The bigger concern may be mortgage rates. Average rates remain below 3%, but that could change if inflation prompts the Federal Reserve to raise interest rates. The Fed has indicated that it intends to hold rates steady for the time being, but should inflation continue at its recently reported level of over 4%, it will likely take action. Should that happen, mortgage rates would rise and real estate demand would cool down.

So stay tuned, but be prepared for more of the same in the immediate future.

Notes:

1S&P Dow Jones Indices, S&P Corelogic Case-Shiller Index Shows Annual Home Price Gains Climbed to 13.2% in March, May, 25, 20121.

2Source: Wall Street Journal, U.S. Home-Price Growth Surges as Demand Overwhelms Supply, May 25, 2021, based on figures released by the Commerce Department.

3Source: NBC News, It’s a red-hot real estate market — so why are home sales plunging?, May 22, 2021

4Source: Freddie Mac, as of June 17, 2021.

5National Association of Realtors, Existing Home Sales, May 27, 2021.

 

                                                                                                                                                                            

This material was prepared by LPL Financial. This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that they views or strategies discussed are suitable for all investors or will yield positive outcomes. Investing involves risks including possible loss of principal. Any economic forecasts set forth may not develop as predicted and are subject to change. All performance referenced is historical and is no guarantee of future results. All indexes are unmanaged and cannot be invested into directly.

 

This information is not intended to be a substitute for specific individualized tax advice. We suggest that you discuss your specific tax issues with a qualified tax advisor.

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tax preparation

Haven’t Filed Your Taxes Yet? Be Aware of These Features

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As if the pandemic hasn’t already affected every other aspect of people’s lives, now there’s taxes. But in this case, the effect is positive. The different relief packages passed over the last year offer a host of features that can help taxpayers lower their 2020 tax bill. And if you are among the many who are filing your return later due to the extended filing deadline, you still have time to take advantage of these features.

So, as you sit down to prepare your tax return, keep in mind the following.

Stimulus checks aren’t taxable.

The millions of Americans who received stimulus checks in 2020 will not have to report it or pay taxes on it. If, for some reason, you were owed one but didn’t get it, or you did not receive the full amount that you were entitled to, you can get it in the form of a Recovery Rebate Credit when you file.

Unemployment benefits may not be taxable.

The latest relief package, the American Rescue Plan Act of 2021 (ARPA), passed in March, made the first $10,200 of unemployment benefits received by an individual taxpayer (or in the case of a joint return, received by each spouse) in 2020 tax free if your annual household income is under $150,000. For those who already filed their taxes and reported unemployment benefits before passage of the ARPA, the IRS will automatically recalculate the correct amount of taxable unemployment and refund any resulting tax overpayment (or apply it to other outstanding taxes owed).

Paycheck Protection Program (PPP) loan proceeds may be tax deductible.

For those businesses that received loans under the PPP, eligible expenses that were paid with loan proceeds may be deducted from taxable income. Keep in mind, however, that under the program, any loan forgiveness is subject to the approval of the Small Business Administration.

Those claiming the standard deduction still may be able to deduct $300 for charitable contributions.

In an effort to help charities hard-hit by the pandemic, the CARES Act allows taxpayers who take the standard deduction to deduct up to $300 in cash donations made in 2020. Usually, only those who itemize can write off donations to charity.

No penalties for early withdrawals from your retirement plan.

Normally, if you are under age 59½ and withdraw money from your qualified retirement plan — such as a 401(k) or IRA — you must pay a 10% early withdrawal tax and ordinary income tax on taxable portions of the distribution. But the CARES Act waived the penalty for early withdrawals made during 2020, up to $100,000, if you were impacted by coronavirus. What’s more, you are allowed to spread out any taxable income related to such distributions over a three-year period rather than reporting it all in your 2020 taxes.

There are a number of other tax provisions contained in the different relief packages that could also potentially reduce your tax bite for the 2020 tax year. If you are not already working with a tax professional, now may be the year to do so, as a professional may be able to identify other one-time opportunities to lower your 2020 tax bill.

                                                                                                                                                                            

This material was prepared by LPL Financial. This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that they views or strategies discussed are suitable for all investors or will yield positive outcomes. Investing involves risks including possible loss of principal. Any economic forecasts set forth may not develop as predicted and are subject to change. All performance referenced is historical and is no guarantee of future results. All indexes are unmanaged and cannot be invested into directly.

 

This information is not intended to be a substitute for specific individualized tax advice. We suggest that you discuss your specific tax issues with a qualified tax advisor.

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Inflation is on the horizon

Is Inflation on the Horizon?

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The specter of inflation has long been absent from the American economy. In fact, inflation, as measured by the Consumer Price Index (CPI), has remained below 4% since 2008, has averaged only 1.74% in the past 10 years, and came in at a tepid 1.36% for 2020.1 Rather than inflation, policy makers in recent years have been more concerned with the prospect of deflation — a drop in prices — especially at the outset of the pandemic, when the inflation rate dipped below zero for three consecutive months.

But the tide may be about to shift. With the end of the pandemic in sight, renewed fears of inflation have emerged, as fiscal stimulus kicks in and the economy bounces back.

  • The yield on the 10-year U.S. Treasury bond has increased 71 basis points since the start of the year, from 0.93% on December 31, 2020 to 1.64% on March 12, 2021, stoked in part by inflation fears.2
  • A post-pandemic surge in demand is expected by many economists, as vaccinated consumers come out of hibernation and the economy reopens.
  • Restaurant, travel, and entertainment businesses are poised to bounce back, and then some, as people celebrate their refound freedoms and make up for lost time.
  • Huge stimulus packages have injected trillions into the U.S. economy, with the latest topping $1.9 trillion in aid.
  • Record low mortgage rates have helped bring about a thriving housing market, and all the spending that goes with it.
  • A booming stock market has made investors feel richer and more likely to spend.
  • Oil demand is set to tick up as people start commuting and traveling again.
  • Major infrastructure spending, a top priority of the Biden administration, is in the wings and would add further stimulus.

Not So Fast

While all these factors point to possible price hikes, a return to a 1970s-style inflationary cycle is not likely. For one thing, the U.S. economy still has a ways to go before fully recovering from the pandemic. Unemployment remains above 6%, and GDP is still well below its pre-pandemic level. A full recovery is generally not expected until 2022.

For another, different structural factors have conspired to keep inflation low in recent years, and they likely will help contain a rise in the future as well.

  • Global competition in goods and labor markets has had a negative effect on prices.
  • Technological advancement has brought down the price of goods and services. It’s also increased labor productivity, reducing unit labor cost.
  • An aging population has helped keep prices in check, in that elders tend to spend less in general.
  • The Federal Reserve has shifted away from its inflation-hawk policies, and kept interest rates low.
  • Since inflation has been so low for so long, inflation expectations are low, and businesses are less inclined to increase prices as a matter of course.

This is not to say that inflation won’t edge up in the coming months. Many economists predict a surge in late spring, when year-over-year comparisons will be magnified by the negative readings in 2020. But they also predict that inflation will eventually settle back toward the Fed’s 2% target.

Staying Ahead of Inflation

For many, inflation fears are less about an uptick in today’s prices than they are about an erosion in the value of tomorrow’s savings. Over time, even a moderate amount of inflation can take a toll on an investment portfolio. That’s why it’s important to maintain a growth element in your investment mix.

Over the long run, stocks may provide the best potential for returns that exceed inflation. While past performance is no guarantee of future results, stocks have historically provided higher returns than other asset classes. Between 1926 and December 31, 2020, the annualized return for a portfolio composed of stocks in the S&P 500 index was 10.34% — well above the average inflation rate of 2.86% for the same period. The annualized return for long-term government bonds, on the other hand, was only 5.76%.3

Keep in mind that stocks do involve greater risk of short-term fluctuations than other asset classes. Unlike a bond, which promises a fixed return if you hold it until maturity, a stock can rise or fall in value based on daily events in the stock market, trends in the economy, or problems at the issuing company. But if you have a long investment time frame and are willing to hold your ground during short-term ups and downs, you may find that stocks offer the best chance to stay ahead of inflation.

Notes:

1Source: Federal Reserve Bank of Minneapolis, Consumer Price Index, 1913-, retrieved February 23, 2021.

2Source: U.S. Department of the Treasury, Daily Treasury Yield Curve Rates.

3Source: DST Retirement Solutions, LLC, an SS&C company. Stocks are represented by the S&P 500 index. Bonds are represented by a composite of returns derived from yields on long-term government bonds, published by the Federal Reserve, and the Bloomberg Barclays U.S. Government Long index. Inflation is represented by the change in the Consumer Price Index. Past performance is no guarantee of future results.

                                                                                                                                                                            

This material was prepared by LPL Financial. This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that they views or strategies discussed are suitable for all investors or will yield positive outcomes. Investing involves risks including possible loss of principal. Any economic forecasts set forth may not develop as predicted and are subject to change. All performance referenced is historical and is no guarantee of future results. All indexes are unmanaged and cannot be invested into directly.

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understanding your social security benefits

Social Security Benefits and You

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Social Security Benefits and You

Social Security benefits currently represent approximately 33% of the aggregate total income of Americans aged 65 and older, according to the Social Security Administration. For future generations of retirees, Social Security may represent a much smaller percentage of retirement income.

A System at Risk

When Social Security was established in 1935, the average life span among Americans was 63 years. Today, the average lifespan is almost 79 years, according to the Center for Disease Control mortality statistics.

In 1950, 16.5 workers paid retirement benefits for each retiree. By the year 2037, the ratio may be just 2.2 workers to every one retiree.1 By then, the burden of taxes on each worker may well be unmanageable. This aging of the population has led some experts to predict that the Social Security Old Age and Survivors Insurance Trust Fund may run out of assets by the year 2034, a possibility that makes building your own funds for retirement more important than ever.

Even under the best scenario, the Social Security system was created as the foundation for retirement, but it was never intended to provide the sum total of financial security during the retirement years. So the more you can do for yourself to save and invest for retirement, the better off you may be.

How Much Will Social Security Pay?

The exact amount of your Social Security benefit will depend upon your earnings history. You can obtain an estimate of your benefits using the Social Security Administration’s online estimator. You can also create a personal mySocial Security account online or call the Social Security toll-free number at (800) 772-1213 and request form SSA-7004, the “Request for Social Security Statement” to get a personalized estimate of your benefits, plus a record of your annual earnings. Like reconciling your bank statement, your Social Security summary of annual earnings should be verified against your tax return statements, W2 forms, or your own records. If there are any discrepancies, report them at once.

Shares of Aggregate Retirement Income
For all people age 65 and older:
Social Security Benefits 33%
Pensions 21%
Earnings 34%
Asset Income 9%
Source: Social Security Administration, Fast Facts & Figures About Social Security, 2017.

How Social Security Works

Social Security contributions are paid by you and your employer. Your contributions have been deducted from your paychecks since the day you started working and are matched by an equal amount paid by your employer. These contributions pay for:

Retirement benefits — Collectible at any time after age 62 and based on the number of years you’ve been working and the amount you’ve earned. In some cases, your children and your spouse may also be eligible for benefits on your account.

Survivor’s benefits — A kind of life insurance coverage available to your spouse and dependents.

Disability insurance — Provides a monthly income in the event you are unable to work due to a disability. Eligibility depends on the number of “credits” you have earned and your age.

Medicare — Entitles you to medical benefits and coverage, including hospital insurance after age 65. Bear in mind that Medicare is also experiencing funding issues, and the Hospital Insurance Fund could run out by 2026.

Social Security Benefits for Other Family Members

When you receive Social Security benefits, other payments may also be made to:

  • A spouse age 62 or older.
  • A spouse under age 62 who is caring for a child under 16 or a disabled child who is receiving benefits from your earnings.
  • Unmarried children under 18 (or under 19) if they are enrolled full time in high school.

When You Retire Determines What You Get

  • Currently, you can retire at normal retirement age (between age 66 and age 67 depending on when you were born) and receive full benefits.
  • Retire between 62 and normal retirement age and receive a reduced benefit.
  • Continue working and delay the receipt of benefits and get a bonus for each year of work past normal retirement age, up to age 70. “Delayed retirement credits” currently amount to 8% a year in order to encourage later retirement.

Changes in Your Monthly Benefits

Your monthly Social Security check may change to reflect the following:

  • Cost-of-living increases.
  • Eligibility for disability benefits after retirement but before you reach normal retirement age.

Make the Most of Your Benefits

You must apply for Social Security benefits and for Medicare benefits. If additional insurance is being considered, remember to apply within six months of Medicare eligibility to be accepted without regard to preexisting conditions. When you apply, you’ll want to:

  • Decide whether you’ll collect your own Social Security benefits, based on your earnings and work history, or your spouse’s. Presumably, you’ll want to choose the one that pays the most. If you retire before a spouse, you can collect your own benefits, then switch and choose the spousal benefits if they are greater.
  • Remember to apply for retirement benefits a few months before you want them to start. Some time is required to process all the paperwork, including Social Security number, proof of age, and evidence of recent earnings (W-2 forms from the last two years, or, if you’re self-employed, copies of your two most recent tax returns).
  • Apply for Medicare before you retire.
  • Apply for any additional health insurance within six months of Medicare eligibility.
  • Reconcile your Social Security earnings report with your own records at three-year intervals. Report any discrepancies.
  • Bear in mind that “earnings limitations” (which change each year) may limit the amount you may earn while still receiving Social Security benefits. Those limitations end when you reach normal retirement age.
  • Keep Social Security records up to date if you change your name in order to have your earnings credited properly.

Regardless of your Social Security options, think of Social Security as only a small percentage of your total retirement plan, and set aside a portion of your income on a regular basis. Saving and investing for your own retirement nest egg is a “must.”

 

Notes

1Fast Facts & Figures About Social Security, 2020, Social Security Administration, July 2020

 

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Two different approaches to investing or growth and value

Growth vs. Value: Two Approaches to Stock Investing

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Growth vs. Value: Two Approaches to Stock Investing

For growth stock investors, it’s been a heady time. Growth stocks recorded a total return of 33.5% for the year ended December 31, 2020, significantly eclipsing value’s 1.4% showing. And over the past five years, growth has outperformed value by an average of over 8 percentage points.1

Does this mean that value investors should rethink their strategy? Probably not. As history has shown, leadership between growth and value tends to shift back and forth, depending on the stage of the market and economic cycle. Which of the two outperforms the other is ultimately attributable to their fundamental characteristics.

Growth and Value Defined

Growth stocks represent companies that have demonstrated better-than-average gains in earnings in recent years and that have the potential to continue delivering high levels of profit growth.
Key characteristics of growth funds include:

  • Higher prices than the broader market. Investors are typically willing to pay high price-to-earnings multiples with the expectation of selling shares at even higher prices as the companies continue to grow.
  • High earnings growth records. While the earnings of some companies may be depressed during periods of slower economic improvement, growth companies may have the potential to achieve high earnings growth in different economic environments.
  • More volatile than the broader market. The risk in buying a given growth stock is that its lofty price could fall sharply on any negative news about the company, particularly if earnings disappoint on Wall Street.

Value fund managers look for companies that have fallen out of favor but still have good fundamentals. The value group may also include stocks of new companies that have yet to be discovered by investors.

Key characteristics of value funds include:

  • Lower prices than the broader market. The idea behind value investing is that stocks of good companies will bounce back in time if and when their true value is recognized by other investors.
  • Priced below similar companies in their industry. Many value investors believe that a majority of value stocks are created due to investors’ overreacting to recent company problems, such as disappointing earnings, negative publicity, or legal problems, all of which may raise doubts about the company’s long-term prospects.
  • Somewhat less risk carried than the broader market. However, as they take time to turn around, value stocks may carry more risk of price fluctuation than growth stocks.

Growth or Value… or Both?

Which strategy — growth or value — is likely to produce higher returns over the long term? The battle between growth and value investing has been going on for years, with no definitive winner. History shows us that growth stocks, in general, have the potential to perform better when interest rates are falling and company earnings are rising. However, they may also be the first to be punished when the economy is cooling. Value stocks, often stocks of cyclical industries, may do well early in an economic recovery but are typically more likely to lag in a sustained bull market.

Growth vs. Value Take Turns (2)

growth vs value

 

For long-term investors, a balanced approach may be most appropriate. Combining both growth and value stocks, or stock funds, may allow you to take advantage of different economic cycles and smooth out returns over time. Talk to your financial professional to see how you might best position your portfolio.

 

Notes:

1Source: DST Retirement Solutions, LLC, an SS&C company. Based on total returns of the S&P 500 Growth and Value indexes.
2Source: ChartSource®, DST Retirement Solutions, LLC, an SS&C company. Based on 12-month rolling returns from 1990 to 2019. Growth and value stocks are represented by composites of the S&P 500/Barra Growth and Value indexes and the S&P 500 Growth and Value indexes, which are unmanaged indexes generally considered representative of growth and value large-cap stocks. It is not possible to invest directly in an index. Index performance does not reflect the effects of investing costs and taxes. Actual results would vary from benchmarks and would likely have been lower. Stock investing involves risk, including loss of principal. Past performance is not a guarantee of future results. (CS000047)
Investing in mutual funds involves risk, including loss of principal.

 

This material was prepared by LPL Financial. This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that they views or strategies discussed are suitable for all investors or will yield positive outcomes. Investing involves risks including possible loss of principal. Any economic forecasts set forth may not develop as predicted and are subject to change. All performance referenced is historical and is no guarantee of future results.

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Ways to manage your debt

Manage Your Debt

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New Year’s Resolution: Manage Your Debt

As the new year dawns, most Americans are probably happy to bid good riddance to 2020, a year marked by the COVID-19 pandemic, lockdowns, political brawls, and challenging economic times. Many have had to take on debt to tide them over. If you’re among them, or one of the many other Americans who pay an ever increasing portion of their paychecks to service debt, now may be the ideal time to reassess your finances and take steps to manage and reduce your debt.

I Owe, I Owe…

In America today, carrying some debt is unavoidable, and even desirable, for most households. But between mortgages, car payments, student loans, and credit cards, many Americans find themselves in over their heads. In fact, the average U.S. household carries $6,124 in credit card debt, owes $27,649 in auto loans and $46,459 in student loans, and has a mortgage balance of $197,445.1 Paying off such debt can be costly, in terms of both cash on hand and your overall financial health. So it helps to plan. Start by finding out where you stand, then take the appropriate steps to dig out.

Assessing Your Debt

How much debt is too much? The figure varies from person to person, but in general, if more than 20% of your take-home pay goes to finance non-housing debt or if your rent or mortgage payments exceed 30% of your monthly take-home pay, you may be overextended.

Other signs of overextension include not knowing how much you owe, constantly paying the minimum balance due on credit cards (or worse, being unable to make the minimum payments), and borrowing from one lender to pay another.

Here’s how you can build a clear picture of your debt situation:

  • List all of your credit cards and how much you pay to them each month;
  • List all of your fixed loans (such as car loans and student loans) and their monthly payments; and
  • List your monthly mortgage or rent payment.
  • Once you are done, add them all up. That’s your total monthly debt load.

If you find that you’re overextended, don’t panic. There are a number of steps you can follow to eliminate that debt and get yourself back on track.

Begin With a Budget

The first step in eliminating debt is to figure out where your money goes. This will enable you to see where your debt is coming from and, perhaps, help you to free up some cash to put toward debt.

Track your expenses for one month by writing down what you spend. You might consider keeping your ATM withdrawal slip and writing each expense on it until the money is gone. Hang on to receipts from credit and debit card transactions and add them to the total.

At the end of the month, total up your expenses and break them down into two categories: essential, including fixed expenses such as mortgage/rent, food, and utilities, and nonessential, including entertainment and meals out. Analyze your expenses to see where your spending can be reduced. Perhaps you can cut back on food expenses by bringing lunch to work instead of eating out each day. You might be able to reduce transportation costs by taking public transportation instead of parking your car at a pricey downtown garage. Even utility costs can be reduced by turning lights off, making fewer long-distance calls, or turning the thermostat down a few degrees in winter.

The goal is to reduce current spending so that you won’t need to add to your debt and to free up as much cash as possible to cut down existing debt.

Three Steps to Reduce Debt

Once you’ve got your budget settled, you can begin to attack your existing debt with the following steps.

Pay off high-rate debt first. The higher your interest rate, the more you wind up paying. Begin with your highest-rate credit cards and eliminate the balance as aggressively as possible. For example, assume you have two separate cards, each with a $2,000 balance, one charging 20% interest, the other 8%. By paying the maximum you can afford on the higher rate card, and the minimum on the lower-rate card until the higher-rate card is fully paid off, you will be able to reduce your overall interest costs — perhaps significantly over time.

Transfer high-rate debt to lower-rate cards. Consolidating credit card debts to a single, lower-rate card saves more than postage and paperwork. It also saves in interest costs over the life of the loan. Comparison shop for the best rates, and beware of “teaser” rates that start low, say, at 6%, then jump to much higher rates after the introductory period ends. You can find lists of low-rate cards online from sites such as CardTrak and Bankrate.

If you can only find a card with a low introductory rate, maximize the value of that low-interest period. By paying off your balance aggressively, you will reduce the balance more quickly than you will when the rate goes up.

You can also contact your current credit card companies to inquire about consolidation and lower rates. Competition in the industry is fierce, and many companies are willing to lower their rates to keep their customers. Even a percentage point or two can make a difference with a sizable balance.

Borrow only for the long term. The best use of debt is to finance things that will gain in value, such as a home or an education, or big-ticket necessities, like a washing machine or a computer — assets that will still be around when the debt is paid off. Avoid using your credit card for concert tickets, vacation expenses, or meals out. By the time the balance is gone, you’ll have paid far more than the cost of these items and have nothing but memories to show for it.

By analyzing your spending, controlling expenses, and establishing a plan, you can reduce — and perhaps eliminate — your debt, leaving you with more money to save today and a better outlook for your financial future.

 

1Source: Nerdwallet.com, 2019 American Household Credit Card Debt Study, updated June 2020. Balances are as of June 2020 for households carrying that type of debt.

This material was prepared by LPL Financial. This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that they views or strategies discussed are suitable for all investors or will yield positive outcomes. Investing involves risks including possible loss of principal. Any economic forecasts set forth may not develop as predicted and are subject to change. All performance referenced is historical and is no guarantee of future results.

 

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federal debt

Should Investors Worry About Federal Debt?

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The National Debt Is at Record Levels. Should Investors Be Concerned?

 

For years, the mounting federal debt burden has been a major point of contention between political parties, economists, and fiscal planners. Some claim the escalating debt is a time bomb — a mortgage on America’s future. Others see it as justifiable and sustainable — even helpful in stimulating long-term growth. Over time, both sides have flip-flopped, so that today, fiscal conservatives and spending hawks can be found on both sides of the aisle.

Meanwhile, the number keeps growing. In fact, the U.S. national debt has grown every year since 1957, when it was a mere $217 billion, or 57% of gross domestic product (GDP) at the time.1 Today, the figure has grown to over $26 trillion, or 98% of GDP, and is on target to exceed GDP in 2021.2 Debt ceilings imposed by Congress over the years have done little to stop the advance, as they are temporary, and each party justifies its own reasons for borrowing more.

And this year, massive pandemic aid packages have catapulted debt levels into the stratosphere. The Congressional Budget Office (CBO) projects a federal budget deficit of $3.3 trillion in 2020 alone, more than triple the shortfall recorded in 2019. At 16% of GDP, the deficit in 2020 would be the largest since 1945 and well above its 50-year average of 3%.2

Are Deficits Necessarily Bad?

Traditional thinking views federal debt as a necessary evil — helpful in some ways but harmful in others. On the plus side, borrowing is a channel for governments to stimulate the economy, and to respond to shocks like the current pandemic. It’s also much more politically palatable than raising taxes. On the downside, however, excessive borrowing can slow income growth and crowd out other spending priorities. It can also cause interest rates to rise and ignite inflation, in effect, placing a burden on future generations.

The new thinking — or rationale some may call it — is that deficits don’t matter that much, as long as interest rates and inflation remain low. The justification is that today’s borrowing and spending will stimulate tomorrow’s economy, generating more tax dollars, which can then be used to pay down the debt.

But both sides agree on one thing: at some point the debt burden gets too big to sustain. Net interest expense on debt held by the public was about $375 billion in 2019, or 8.5% of total federal outlays — not an onerous burden. And, at 98% of GDP, total outstanding U.S. debt pales in comparison to an estimated 237% of GDP in Japan, where inflation is low and unemployment remains well under 5%. But then there’s Argentina or Greece, to name just two examples, which in the past incurred so much debt that they defaulted on interest payments, restructured, and had to endure painful austerity programs to get back in the black.

Few today question the need to stimulate the economy in the face of the economic ravages brought on by the pandemic. And at today’s exceptionally low interest rates, borrowing is cheap. But at some point, interest rates may rise and the debt service will become much more expensive.

The Takeaway for Investors

The real downsides of deficits for investors are rising interest rates and inflation. When interest rates increase, bond prices fall. Stock prices also tend to fall in a rising rate environment. Meanwhile, inflation erodes the value of just about any investment and can take a particularly hard toll on retirees or anyone living on a fixed income. There is also the possibility of future tax hikes to pay for the mounting debt.

If and when any of this might happen is unclear. The U.S. dollar is in the enviable position of being the world’s reserve currency, and investors domestically and across the globe continue to gobble up U.S. Treasuries, even at today’s historically low rates. That means that demand for U.S. debt remains strong and interest rates are likely to remain low. What’s more, deflation is more of a concern right now than inflation. But if inflation were to kick in and the Federal Reserve needed to raise rates, it would likely coincide with a much stronger economy that would make debt payments easier to bear.

So, for now at least, the deficit does not pose an immediate problem for investors. But it’s worth keeping an eye on as the country, and the world, get back on their pre-pandemic feet.

Notes

1Source: The Balance, US National Debt by Year Compared to GDP and Major Events, July 30, 2020.

2Source: Congressional; Budget Office, An Update to the Budget Outlook: 2020 to 2030, September 2020.

 

 

 

                                                                                                                                                                            

This material was prepared by LPL Financial. This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that they views or strategies discussed are suitable for all investors or will yield positive outcomes. Investing involves risks including possible loss of principal. Any economic forecasts set forth may not develop as predicted and are subject to change. All performance referenced is historical and is no guarantee of future results.

 

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COVID college costs

College Costs in the Era of COVID-19

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Paying for College in the Era of COVID-19

This semester, millions of students, teachers, and college administrators are having to deal with a radically changed landscape while still managing college costs. At many institutions, classes have been cancelled or moved online. Sports programs have been suspended and dormitories, libraries, and labs shuttered. In fact, traditional campus life has been turned upside down thanks to COVID-19, and it’s unclear how long it will last.

Meanwhile, the cost of a college education is higher than ever. According to the College Board, the average total charges at four-year public colleges (in state) for the 2019-2020 academic year were $21,950. Average costs at four-year private nonprofit colleges were more than double that ($49,870).1 And while increases in costs have moderated in recent years, they continue to outpace inflation and median household income, resulting in a growing dependence on student loans; the average student borrower graduating in 2018 owed about $29,000.2

For cash-strapped students and parents, the current crisis has tipped the scales. Many are rebelling at the high costs in the face of a severely diminished college experience. Others have decided to wait until the crisis has passed before enrolling. Still others are questioning the very value of a college degree under current circumstances.

But the issue of soaring college costs is hardly new, and there are two sides to consider.

Students and Parents: Give Us a Break!

“We are paying a lot of money for tuition, and our students are not getting what we paid for,” comments one California parent, incensed at paying in-person prices for education that has moved online. On-campus facilities and services like computer labs, libraries, and networking opportunities have also been severely diminished by closures.

Already suffering from a pandemic-induced recession, many families are feeling the pinch and want relief. Students in particular have been hard hit with furloughs and layoffs, as many rely on retail service jobs to help them get by — the same jobs that have suffered the most in the face of closures and lockdowns. Many students had also signed leases for off-campus housing and are now stuck with them even if classes are cancelled. In short, students and parents are demanding tuition rebates, increased financial aid, reduced fees, and leaves of absences to compensate for what they feel is a diminished college experience.

Colleges: How Can We Manage?

Meanwhile, colleges and universities are taking a major financial hit from the pandemic. Enrollment is down. International admissions and offshore semesters have been halted. Entire programs have had to be suspended for health reasons. What’s more, substantial resources are required to set up an online curriculum, administer the courses, and train educators. There are also major costs involved with constant COVID testing of students and disinfecting of classrooms, offices, and other facilities. And, colleges must continue to pay existing vendor contracts, maintain facilities, and compensate their own staff. The situation has created an existential crisis among smaller colleges, who lack the endowments and funding of larger institutions. For many, it’s a question of survival.

A Mixed Response to Managing College Costs

Given this predicament and the widely varying circumstances faced by different institutions, it’s no surprise that their responses vary widely. A handful of universities have announced substantial price cuts. Some have cut fees. But most have kept prices flat, and a few have even increased them. While many offer refunds of fees and room and board, the reimbursement policies vary from school to school — and nearly all have drawn the line at tuition. Here’s a sampling of actions taken — or not — by different schools:

  • Full or partial refunds for room and board costs
  • Reduced tuition and fees
  • Discounts in the form of scholarships or loans
  • Renegotiated financial aid packages
  • Frozen tuition at previous year’s level
  • Imposition of “COVID fees” to cover added costs
  • Increased tuition to cover added expenses

Which of these actions a given school takes depends largely on its financial health and reputation. Smaller, private colleges with more at stake are generally offering more in the form of relief. Larger, well-endowed institutions, such as the Ivy League colleges and large state schools, trend toward the status quo. But there are many exceptions, and each institution has its own approach.

What Can You Do?

If you are a student or parent seeking compensation or relief, your options are limited, especially for the current semester. At nearly all institutions, tuition reimbursement is almost nonexistent after several weeks, no matter what the circumstances. Some schools are now offering tuition insurance, but coverage typically applies only when a student withdraws for medical reasons. To find out what relief may be available at your school, contact the registrar.

Alternatively, you can join the thousands of students and parents who have signed petitions or filed lawsuits demanding tuition cuts, housing reimbursements, and more. Check online to see if any such actions may be already in the works at your school.

In the end, like so many other issues arising from the pandemic, the current predicament facing students and schools is likely to be with us until a COVID-19 vaccine is in place. Even then, skyrocketing costs and mounting student debt pose longer-term issues. Any resolution will take time and likely have far-reaching implications for the costs and nature of a college education.

Notes:

1The College Board, Trends in College Pricing 2019.

2The College Board, Trends in Student Aid 2019.

                                                                                                                                                                            

This material was prepared by LPL Financial. This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that they views or strategies discussed are suitable for all investors or will yield positive outcomes. Investing involves risks including possible loss of principal. Any economic forecasts set forth may not develop as predicted and are subject to change. All performance referenced is historical and is no guarantee of future results.

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Converting a Traditional IRA to a Roth IRA

Converting a Traditional IRA to a Roth IRA

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Thinking of Converting Your Traditional IRA to a Roth? Now May Be the Time

Anyone who is thinking of converting a traditional IRA to a Roth IRA may want to consider do it this year. Why? Because today’s unique conditions create an opportunity to minimize the tax bite from converting. In fact, many have already taken advantage of this opportunity, with one provider reporting a 67% increase during the first four months of 2020 compared to a year earlier.1

But before you begin to decide whether or not to convert, make sure you are familiar with what’s involved with a Roth conversion.

What’s a Roth Conversion?

When you convert your traditional IRA to a Roth IRA, any deductible contributions you had made, along with any investment earnings, are taxed as ordinary income for the year of the conversion. That means the taxable value of the conversion could push you into higher federal and state tax brackets.

You will be responsible for full payment of all taxes in the year the conversion is made. If you use assets from the traditional IRA to pay those taxes, the tax amounts could be treated as premature withdrawals, so you could be subject to additional taxes and penalties.

Depending upon your personal financial situation, a Roth IRA conversion could potentially provide a tax-adjusted benefit over time, provided you meet the eligibility requirements.

Why Now?

The coronavirus pandemic has created unique conditions that may make a Roth conversion more attractive than usual.

Your taxable income may be lower

If, like millions of Americans, you have been furloughed or laid off, or your sales commissions are down, you will likely report lower taxable income for 2020. This may put you in a lower tax bracket so that monies converted to a Roth would be taxed at a lower rate than would otherwise apply (unless the amount converted pushes you into a higher bracket). For instance, converting a $15,000 IRA when your marginal federal tax rate is 12% saves $1,500 of tax compared to converting at a 22% marginal rate — and that does not include state tax, which might also drop.2

Your business may incur a loss

The pandemic is causing many businesses to close or incur a loss. If you expect to report a business loss on your personal return, you may be able to convert to a Roth at a reduced tax cost. With the Roth conversion creating additional income, you could use the loss generated by the business to offset some or all of that income.

Your IRA balance may be down

To minimize taxes, it’s better to convert assets when they’re low in value. Although U.S. stocks have recovered most of the ground lost in February and March, it’s possible your IRA balance may still be well off its peak, depending on how it is invested.

RMDs are suspended for 2020

As part of the CARES Act, required minimum distributions (RMDs) for traditional IRAs and qualified retirement plans were suspended for this year. Not taking distributions from a traditional IRA might keep or put you in a lower tax bracket by reducing your taxable income, making it even more desirable to convert to a Roth.

Current tax rates are low and could go up

The 2017 Tax Cuts and Jobs Act (TCJA) reduced federal tax rates, cutting the top marginal rate to 37%. That’s relatively low compared with recent history. Given the staggering price tag of the pandemic bailout (so far) and the ballooning budget deficit, it’s reasonable to assume that at some point, tax rates may increase. When this might happen is anyone’s guess, but converting while rates are relatively low is something to consider.

To Convert or Not?

Whether you would be better off leaving your funds in a traditional account or moving all or some of them to a Roth IRA will depend upon your personal circumstances. Generally speaking, Roth IRA conversions are best suited for investors who have significant time until retirement, are high wage earners, think they may be in a higher tax bracket at retirement, or are looking for an estate planning tool to help pass wealth to their heirs.

Whatever your circumstances, keep in mind that IRS rules governing IRAs and conversions are complex. So be sure to consult with a financial or tax professional before deciding.

Source/Disclaimer:

1Money, Roth IRA Conversions Are Surging. Here’s Why This Retirement Savings Strategy Is So Popular Right Now, June 4, 2020.

2Example is for illustration only. Your results will differ.

Traditional IRA account owners have considerations to make before performing a Roth IRA conversion. These primarily include income tax consequences on the converted amount in the year of conversion, withdrawal limitations from a Roth IRA, and income limitations for future contributions to a Roth IRA. In addition, if you are required to take a required minimum distribution (RMD) in the year your convert, you must do so before converting to a Roth IRA.

 This material was prepared by LPL Financial. This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that they views or strategies discussed are suitable for all investors or will yield positive outcomes. Investing involves risks including possible loss of principal. Any economic forecasts set forth may not develop as predicted and are subject to change. All performance referenced is historical and is no guarantee of future results.

 

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