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Finance 101: June 2022 Thumbnail

Finance 101: June 2022

In June the financial advisors at Ruedi Wealth Management wrote 4 more “Finance 101” columns for The News-Gazette’s Business Extra section. Make sure to look for them every Sunday, but in case you missed the columns from June all four are below.

Gifts of Future Value

Paul R. Ruedi, CFP®

My wife and I are expecting our first child this month, and like many couples, we were “showered” with all the typical baby gifts. But this week I received a text from my youngest brother, Daniel, that my son would be receiving another gift, he would just have to wait a couple of decades to receive it.

Daniel recently opened an investment account for my unborn son. His idea is to skip the yearly Christmas and birthday presents in favor of putting similar amounts in an investment account over the years and let that money grow. It may not seem like that would add up, but over a couple decades of compounding those dollars can grow to an amount that will likely be more meaningful than the gifts that would have been received by little kids and likely forgotten.

For example, suppose a person were to put away $100 at the beginning of every year on behalf of a niece, nephew, grandchild, etc. If that money is invested in 100% stocks and grows at 9% annually (which is actually lower than the historical average return of the S&P 500), in 22 years that amount will grow to just over $6,850. This is an oversimplified example, but it demonstrates the reality that small amounts can grow to something meaningful over time.

Daniel has done this for every single one of his nephews, and our son will be his fifth. This would have been entirely cumbersome to do even a few years ago, but Daniel runs our online CoPilot program that is designed for small accounts. Opening and managing new accounts and keeping track of everything in the same place is now much easier than it ever has been. So though 5 accounts for 5 nephews seems like a lot to keep track of in addition to his personal accounts, everything stays organized and managed automatically. For more information about our CoPilot small account solution and to get in touch with Daniel go to rwmcopilot.com.

I suppose my favorite uncle status will officially be under threat a couple decades from now when our nephews enter the “real world” and Daniel turns their accounts over to them. I think beyond the monetary value this provides them it will also teach lessons about compound interest, after-tax returns, and how to responsibly use their money. If you want to follow this approach in order to give someone in your life a meaningful “gift of future value” feel free to get in touch with one of our advisors today.

Paul R. Ruedi is a CERTIFIED FINANCIAL PLANNER™ professional with Ruedi Wealth Management in Champaign, Illinois.


Tax Loss Harvesting

Ryan Repko, CFP®

When the market falls, investors are often given a silver lining in their ability to strategically sell losing investments and realize capital losses. Those losses can then be used to “offset” capital gains, so if a person sold an investment at a loss of $10,000 and sold an investment with gains of $10,000, they would not owe any tax on the $10,000 of gains. A small amount of those capital losses can even be deducted from your ordinary income. This process is called “tax loss harvesting,” but investors should be aware of the rules and limitations before jumping to sell their investments.

The first rule is called the “wash sale rule.” When loss harvesting, you cannot purchase the same security within 30 days before or after the date of the sale. If you buy the exact same security or what is a “substantially identical” security during that window, then the loss you realized cannot be used for loss harvesting. This applies across accounts as well – for example if a person sold an investment at a loss in their taxable brokerage account and then purchased that same investment within 30 days in an IRA, it would trigger the wash sale rule.

Loss harvesting is often done during bear markets like the one we are experiencing right now, and some of the most explosive returns follow down periods like this. To avoid missing out on market returns, what often happens in practice is that investors will purchase a similar investment for the 30-day window after selling that avoids triggering the wash sale rule. After that point they can switch back to whatever investment they held before.

The holding period of the investments and whether the losses are short-term or long-term matters. Short-term capital losses can only be used to offset short-term capital gains, and long-term capital losses can only be used to offset long-term capital gains. Beyond that, you can use some capital losses to offset your ordinary income, but only up to $3,000. If you don’t use up all those losses and they are long-term losses, the rest can be “carried forward” and used in future years.

Tax loss harvesting can be a way to make lemonade out the lemons in your investment portfolio by enabling you to lower your tax bill. But there are rules and limitations involved that you will need to navigate in order to reap the benefits of loss harvesting. If you aren’t sure if you can do that yourself, you may want to talk to a financial advisor.

Ryan Repko is a CERTIFIED FINANCIAL PLANNER™ professional with Ruedi Wealth Management in Champaign, Illinois.


How to Save $1,000,000

Daniel Ruedi, CFP®

A million bucks, it sounds like a lot right? For some, saving this amount seems like an insurmountable task. But if you start early and take the risk of investing your money in stocks instead of bonds or cash, it can actually be easier than you think.

Let’s start with just a simple breakdown of the math. Suppose you save a certain amount at the beginning of the year each year. How much would you need to invest to save a million bucks?  That answer depends primarily on two things: how the money is invested and how long you have to save.

When choosing investments, you have 2 main options: stocks or bonds. Going back to 1926, the S&P 500 has produced an average return of around 10%. We will handicap that number for the purpose of this example and use 9%. Bonds have historically returned less than half that, we use 4% in this example.  If a person were to save for 30 years investing at 4%, they would need to save around $17,144 each year to reach $1 million. That same person investing at 9% only has to save $6,731 each year to reach $1 million. How you invest over a long time period clearly has a huge impact.

Being able to invest under $7,000 each year and still reach a $1 million is probably surprising to some.   That is the magic of compounding, but you have to make sure that it has time to take place. Though a person investing at 9% for 30 years can reach $1 million by investing only $6,731, if that same person puts off saving and only has 20 years, they would have to save $17,933 each year. A person with only 10 years to save would have to save $60,385 each year! Starting early is not just important on the path to becoming a millionaire, for most people it is essential.

Yes, this is an oversimplified example, as people don’t likely save in the form of one lump sum at the beginning of the year, and definitely don’t receive the same exact return each year they are invested.  But the purpose of this example is simply to show a sense of proportion, and the message is loud and clear: if you want to save a million bucks, it is essential to start saving early and take the risk of investing in stocks. Waiting too long and investing too conservatively makes it considerably more difficult, if not impossible.

Daniel Ruedi is a CERTIFIED FINANCIAL PLANNER™ professional with Ruedi Wealth Management in Champaign, Illinois.


Emergency Fund

Ryan Repko, CFP®

When people ask me how they should invest the first few thousand dollars they have saved up, I generally have to give some not-so-fun advice: you should set it aside in cash as an emergency fund.  Though setting aside cash is seemingly less fun than growing your wealth in the stock market, it is an essential step in building a financial foundation that cannot be skipped over.  People are generally more motivated to invest, or pay off debt faster, but it simply doesn’t make sense to take on either of these goals until an emergency fund is built, because an unexpected expense could have you selling your investments (possibly at a loss) or letting debt stack up.

In my studies for the CERTIFIED FINANCIAL PLANNER™ exam, the CFP Board emphasized the importance of setting aside an emergency fund with 3-6 months of non-discretionary expenses. Non-discretionary expenses are those expenses which you could not eliminate.   Typical examples include food, housing costs such as rent or a mortgage, car payments, student debt, bills such as electric, gas, water, and your phone bill.  By contrast, discretionary expenses are those you could forego in the event of a financial emergency.  Examples include eating out at restaurants, your favorite drink at Starbucks, non-essential clothing purchases, and entertainment expenses.

Though the textbook recommendation is to have 3-6 months of non-discretionary expenses set aside in cash, the amount a person will need will vary based on their expenses, level of responsibility for others, and ability to find replacement work.  A single adult with no debt, who has a job that could easily be replaced if lost, may only need three months of nondiscretionary expenses in cash.  By contrast, a primary breadwinner for a family of four, that works in a specialized role and is responsible for car payments and a mortgage, could justify holding more than 6 months of expenses in cash.

An emergency fund should be invested in the safest way possible, which is likely a savings account at a reputable bank.  Your emergency fund should never be invested in the stock market, nor should it be in bonds, due to the fact that these types of investments fluctuate in value, and there is a substantial risk of loss.  If you simply cannot stomach placing your money in a bank account, then the only suitable alternative for investing your emergency fund would be through a reputable money market fund.  If you need help identifying how much money you should have saved up in an emergency fund, seek out the help of an impartial financial advisor.

Ryan Repko is a CERTIFIED FINANCIAL PLANNER™ professional with Ruedi Wealth Management in Champaign, Illinois.

Disclaimer: Past performance is no indication of future results. You should not make any investment decisions without first performing your own due diligence and consulting your financial advisor.