What Is It Going to Take for Housing to Rebound?

Changing demographics are the main cause of today's housing surplus, according to new research by University of Virginia urban and environmental planning professor William Lucy. He says the path to a housing market rebound doesn't lie in new construction, but in rethinking housing needs based on changing demographics.

Lucy’s study of U.S. Census Bureau data, U.S. Housing Market Conditions: Historical Data, U.S. Department of Housing and Urban Development reports, Joint Center for Housing Studies and research by the Urban Land Institute and other scholars, resulted in this conclusion publicized in a University of Virginia press release: "Today’s surplus housing is not caused by either excessive new construction or by foreclosure.” In fact, Lucy found only 20 percent of housing units for sale or sold from 2009 to 2010 were new houses and foreclosures.

Lucy says our excess housing supply is not linked with the economic downturn, but caused by the increase in homeowners over age 55 who want to sell and downsize, coupled with the decrease in number of 30- to 45-year-olds who want to buy. He found from 2000 to 2009, the number of homeowners 55 and over who may want to sell increased by 8 million, while the number of potential 30- to 45-year-old homebuyers decreased by 3.6 million. Moreover, the ratio of aging baby boomers to young adults was 5 to 1 in 2010, a dramatic increase from 3.5 to 1 in 2000 and 3 to 1 in 1990.

Because the demographic shift of too many sellers and too few buyers is not likely to change anytime soon, Lucy says economic drivers of the future housing market will be “more decentralized, multidimensional and shared solutions by developers, builders and government and opportunities for fix-up, remodeling, expansion and condominium projects in cities and inner suburbs, fueled by preferences for convenient locations.”

Read the full Report, where Lucy stresses that “location, location, location” is still a real estate mantra, but that homebuyers will continue to favor more urban settings over distant suburbs.

Take Maximum Advantage of Your 401(k)

I always tell my clients not to leave money on the table, but according to a recent 401(k) study, many American employees are doing just that. In fact, of the 2.8 million 401(k) participants Financial Engines surveyed, 39 percent were not saving enough to receive their employer’s full matching contribution (or they weren’t saving at least 5 percent of salary in companies with no match). That figure is up from 33 percent in 2008. Younger workers (presumably with lower salaries) are most likely not to secure the free cash: 53 percent of participants under age 30 did not save enough to receive the full match. That percentage dropped to 47 percent for participants under age 40.

And while my standard advice for retirement saving is to max out your 401(k), only 6% are saving within $500 of their annual pre-tax IRS limits, down one percent from 2008.

According to Financial Engines, the key to participant savings comes from automatic escalation, where a participant’s savings rate is increased automatically on an annual basis to a pre-determined maximum. Sixty-seven percent of participants in plans with automatic escalation save enough to receive the full employer match, compared to just 52% of participants in plans without automatic escalation.

Remember, increasing your 401(k) contribution as your salary increases is especially important given the fact that many companies eliminated 401(k) matches during the recession. So you may have some catching up to do.

Family Businesses: Make Lemonade out of Lemons

According to the Small Business Administration, 90% of the 21 million US businesses are family owned. Amazingly, less than one third of these companies will transfer successfully to the second generation, and only 15 percent will survive by the third. Why the low survival rate? Most of these businesses lack a succession plan, or an exit plan.

Exit planning is the process of ensuring the future success and continuity of your business after you retire. Your exit plan should address business, personal, financial, legal, and tax questions and includes contingencies for illness, burnout, divorce, and even your death. Ideally, your exit plan should maximize the value of your business at the time of exit, minimize the taxes paid, and position you and your family to achieve your future goals.

In one of the most compelling opportunities found in the down market, low valuations makes this an ideal time for family business owners interested in moving assets out of their estate to transfer ownership of their business to their heirs. For example, if your business was worth $8 million five years ago, but revenues are down 50 percent, consider selling 25 percent to a child. You could even provide financing for the transaction via an interfamily loan. Ten years from now when you are that much closer to retirement and the 25 percent you sold could well be back to being worth $2 million, you will be pleased with your foresight. Of course, you could also gift stock that has plummeted in value to your heirs. Advantageously, the tax consequences of your gift will be figured based on the fair market value of your company stock at the time you gift it.

Especially in today’s uncertain market and increasingly crowded marketplace, there is no substitute for getting a head start on your exit plan.

CAUTION: Long-Term Care Insurance through Your Employer!

Long-term care insurance (LTC) pays for the things Medicare does not--assisted living, in-home care, adult daycare and nursing homes. One of the biggest trends in LTC insurance is group coverage sold through your employer, an association you’re a member of, or even through your bank or credit union. We’ve heard from clients who have asked us if they should buy group long-term care insurance.

First things first

The first step in LTC Planning is just that--planning! Bernhardt Wealth Management has retained the services of a nationally recognized expert in LTC, Allen Hamm and his company Superior LTC, to help our clients with planning for long-term care. There’s no additional charge to our clients for this service. Allen is the author of the book “Long-term Care Planning: Assuring Choice, Independence & Financial Security” which is available at Amazon online.

Allen uses a seven step LTC planning process and insurance may or may not be the best option for you. He starts by assisting you with understanding the implications of relying on each available option to pay for long-term care, not just insurance.

But let’s say that you’ve gone through this process and it’s been determined that LTC insurance is the best option for your particular situation. Is Group LTC insurance a good value for you? The answer is: Usually not, but there may be an exception.

Adverse Selection

Unlike most types of group insurance, LTC is usually more expensive than individually issued coverage. This is because group LTC insurance is normally issued on a guaranteed or modified guaranteed issue basis. This means that unhealthy individuals, who would not otherwise pass the underwriting requirements of the insurance company, can obtain coverage through the group. This causes “adverse selection”: a disproportionate number of people buying coverage through the group who are in poor health and likely to have early claims, resulting in higher premiums for everyone.

In future years, adverse selection can also cause premium rates to be raised more frequently and more dramatically than premiums for individually issued coverage. Rates on some older group policies have been raised to the point where people have been forced to cancel the coverage.

The consequences of adverse selection are particularly negative if you’re healthy. By purchasing group coverage, you’ll heavily subsidize higher premiums for those in poor health, and will continue to subsidize increasingly higher premium rates in the future.

“But the Premium Seems so Low!”

Group LTC coverage has the appearance of a lower premium than individually issued coverage, which is why it’s common for people to automatically jump to the conclusion that they should buy it. But when comparing the details and benefits apples to apples, group LTC coverage premiums are higher than individually issued coverage.

The initial appearance of lower premiums for group coverage has to do with the fact that group coverage does NOT include the automatic inflation protection benefit as a component of the base policy. Yes, you may be able to purchase additional coverage later through the policy’s Guaranteed Purchase Option, but the new benefits will charge a premium at your new attained age rate. Based on Mr. Hamm’s experience in auditing older group policies for clients, people normally don’t exercise the option to increase their coverage, due to the increasing higher premium. In fact, people rarely revisit the group LTC insurance decision until several years later, after premiums have gone up dramatically.

Is Group LTC Coverage Ever a Good Value?

If you’re not in good health and you’re unable to qualify for individually issued LTC insurance, group coverage may be a viable alternative for you. But when people are educated about the higher premiums, the likelihood of increasingly higher premiums in future years, and the limited coverage options available through group coverage, they usually choose an option other than insurance as their plan for long-term care. The rare exception is if you have a strong desire to obtain coverage due to health conditions that make the odds of you needing long-term care very high.

Summary

Planning for long-term care can be confusing. If you haven’t yet developed a plan for long-term care or if you’re being offered group LTC insurance, please contact your independent advisor to begin the planning process . LTC insurance may not be the best option for you and your family - so paying for it, even at low cost, is a bad investment.

What the new Congress means for you?

What does the new Congress--with a Republican controlled House and Democratic controlled Senate--mean for your investments?

In my mind it’s too early to answer that question. While we will almost certainly be dealing with some measure of the gridlock we are so accustomed to in D.C., I worry that gridlock will be paramount in the two month lame duck session before our newly elected representatives and Senators take their oaths. If so, we will wait for answers to our most pressing questions: Will the Bush tax cuts be extended? If so, for whom and for how long? Will the estate tax be allowed to be reinstated at pre-2009 levels? Trouble is, if our representatives fail to address these questions by the end of the year, taxes will increase for nearly everyone unless a retroactive provision is passed.

As for the election’s impact on the investment environment, market commentator Todd Schoenberger has noted that we are closer to the optimal formula for investment success of a Republican-controlled House; Republican-controlled Senate; and a Democrat in the White House. Going back to back to 1940, he says the RRD combination has provided investors with an average stock market return of 15.3% per year, whereas the DDD combination we’ve had for most of this year has lifted stocks only 5.0% on average.

Wall Street Journal writer Brett Arands reminds us, however, that the historical basis for this analysis--data since 1949 via the Stock Trader's Almanac--is meager. I agree with Arands’ observation: “You can't extrapolate universal rules from such a small amount of data. The results are too heavily skewed by the Reagan (1981-86) and Clinton (1995-2001) booms under divided governments."

Could it be we are falling into the behavioral trap of identifying pattern where none exists in order to help ourselves feel more in control? I certainly don’t blame anyone for desiring a measure of predictability in the wake of such recent volatile markets, but markets are just that–unpredictable.

Do Expense Ratios Matter?

Russell Kinnel, Morningstar’s director of mutual fund research, wrote an article on August 9, 2010, titled “How Expense Ratios and Star Ratings Predict Success.” It is a must read and can be found online at Morningstar by clicking on this link.

Morningstar examined five broad categories of mutual funds—domestic equity, international equity, balanced, taxable bond, and municipal bond—over multiple periods beginning in 2005, 2006, 2007 and 2008 and ending in March 2010. The funds were sorted into quintiles based on expenses and the performance of the cheapest funds was compared to that of the most expensive.

We have always preached that investors should focus on the things they can control—expense ratios, turnover (i.e., tax efficiency), diversification, and asset allocation. Therefore, it did not surprise me that Morningstar’s research showed that cheap funds outperformed their expensive cousins in every time period tested. Kinnel observed “if there’s anything in the whole world of mutual funds that you can take to the bank, it’s that expense ratios help you make a better decision.”

Among both domestic and international equity funds, total returns in every time period were higher for the cheapest funds compared to the 5-star funds. Kinnel concluded by saying that "investors should make expense ratios a primary test in fund selection. They are still the most dependable predictor of performance.”

All I can say is Amen!

IRA Assets Top $732.9 Billion

According to a new Employee Benefit Research Institute (EBRI) report based on the organization’s own data, total assets in IRAs are up 25% on average. At $732.9 billion, IRAs represent the bulk of the $13 trillion in 14.1 million retirement accounts across the United States.

According to EBRI, traditional IRAs, including rollover IRAs from employer-based retirement plans, account for 67% of all IRAs, whereas Roth IRAs, funded with after-tax dollars and where qualified withdrawals are treated as tax-free income, account for roughly a quarter of the market. The report also disclosed a host of other interesting statistics. For example, more than half of IRAs have a balance of at least $25,000. The average IRA owner has $68,498 invested in one or more accounts, with men (56.6%) being slightly more likely to own an IRA than women (43.4%). Along a similar vein, men ($91,063) tend to have higher average balances than women ($51,314).

Notably, most investors don’t make the maximum annual IRA contribution of $5,000 ($6,000 for those 50 and older). The average annual IRA contribution is $3,798 for traditional IRAs and $3,582 for Roth IRAs. What’s more, the volatile market seems to be taking its toll, with just 7.2% of traditional IRA owners adding to their accounts in 2008.

Remember that when you change jobs, you have the option to rollover your 401(k) or pension plan lump sum into an IRA.  And don't forget that you have until the end of the year to consider whether converting an IRA (fully or partially) to a Roth IRA is right for you.   You should consult your advisor with questions about Traditional IRAs, Roth IRAs, rolling over your 401(k) into your IRA, or converting an IRA to a Roth IRA.