plus ça change, plus c’est la même chose…
The more things change, the more things stay the same.
There is always a need for financial planning and to get your monetary house in order.
But in times of great change in your personal life – whether that’s from a death, a divorce, or another type of life transition – the importance and the benefit of sound financial plans grows.
In this post, we’ll explore some of these factors and some options you have of using a time of change in your life to solidify your financial planning.
David Rosenstrock, the director and founder of Wharton Wealth Planning and author of this guest post, earned an MBA from the Wharton Business School and a B.S. in economics from Cornell University and is a Certified Financial Planner.
As a physician, when you end the workday with your patients and your team and walk out the door you may not have a lot left to give to other aspects of your life, some of which may be in transition due to personal circumstances. Focusing on personal finance issues related to the respective changes and circumstances you are facing likely doesn’t seem like a priority when you are in that moment.
Taking the right action steps and strategies in these instances, however, can significantly increase your chances of having success and increasing your financial security and freedom.
Major changes and transitions in life often underscore the need to focus on financial planning. There are many common events that people go through that result in needing to update or change their financial plans. These events can come along with emotional joy or distress and, if plans are put in place, can have a large impact on the financial future.
Changes can include significant changes to one’s career path (income), divorce or marriage, the birth of a child, receiving an inheritance, or the death of a partner or spouse. All bring the need to develop or revise your financial plan to achieve your goals.
While it is human nature to procrastinate dealing with stressful or unpleasant situations, such delays can soon adversely impact your financial security. It is essential to understand that being proactive and seeking advice early can have far better outcomes than waiting until it may be too late.
Major life events and changes can result in new financial responsibilities and sudden increases or reductions in income, net worth, and portfolio value. How you respond to new responsibilities can have a significant impact on the future.
The potential risks and rewards of increased or lost income are critical at every stage of life. When you go from two incomes to one, you will need to update your overall financial plan, investment strategy, and estate plan. It’s important to walk through possible scenarios which could happen and create a plan for financial protection.
For example, if you are getting divorced, you may find you’ll have to live on less than you anticipated. The first thing to do will be to create a budget that works toward your individual short-term and long-term goals. You may also have to consider working longer than expected. These are reasons why financial planning can become crucial in late-life divorces.
Taking into account many factors, retirement plans such as 401(k)s, IRAs, and even pension plans may be divided or awarded to one party. Some factors that affect the settlement may include the dates when the accounts were established, state laws regarding separation and marital property, and any agreements dictating the terms for separation (such as a prenuptial agreement).
For spouses who weren’t actively participating in their finances during marriage, it is important that they take the lead when it comes to their long-term financial planning and investing.
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A Career Transition
Whether you’re planning to make a lateral career move or are receiving a promotion (and potentially changing your state of residency), the transition period can have some financial uncertainty. Planning ahead for this can decrease risks and help you reach long-term financial goals.
State of residency can have an impact on your insurance policies and your estate. The laws of different states vary significantly with respect to incapacity planning, estate planning, and inheritance rights. This can be particularly relevant if you are moving from a community property state to a common law state or vice versa.
The community property system treats assets acquired during a marriage as belonging to both partners, whereas the common law property system states that property that one member of a married couple acquires belongs solely to that person unless the property is specifically put in the names of both spouses. Whether a couple lives in a community property state or a common law state can directly affect what each spouse is considered to own at death.
When changing jobs, people often also ask themselves what to do with their 401(k) and related retirement accounts. One option is to simply keep your old retirement plan with your former employer. You also have the option to “roll over” the assets to another account that better suits your goals and needs. You can accomplish this through a rollover IRA or Roth IRA at an independent custodian firm or you may be able to transfer assets to your new employer’s plan.
With respect to restricted stock or stock options prior to leaving an employer, you should review your grant agreement or consult with your employer regarding terms and conditions governing the award. There are different restrictions and liabilities depending on the category of equity compensation. There may often be an opportunity to exercise vested stock options after your end date with your employer, however, this will be dictated by the terms and conditions of your award. It is important to understand the impact on your finances before you make any decisions.
A Death in the Family
The unfortunate death of a family member is another circumstance that requires planning. Lump-sum payments or assets may be passed on to family members. There can be significant downsides to an inheritance. It is estimated over 90% of children who inherit money immediately fire their parents’ financial advisors, according to Fidelity and the Institute for Preparing Heirs. This leaves many heirs squandering their windfall money instead of paying off debts and investing to ensure their wealth lasts.
IRA and 401(k) inheritance rules differ depending on whether the beneficiary is a spouse of the original account holder. This is because a surviving spouse may take their deceased spouse’s IRA as their own IRA or as an “inherited” IRA, while non-spouses must take the IRA as an “inherited” IRA.
In addition, there are different rules for inherited IRA withdrawals depending on whether the beneficiary is considered an Eligible Designated Beneficiary (spouse or minor child of the original account holder, or an individual that is disabled, chronically ill, or no less than 10 years younger than the original account holder), Designated Beneficiary (most other individuals), or Non-Designated Beneficiary (trusts and organizations).
Furthermore, there is a list of rules you will need to become acquainted with regardless of the type of retirement plan you inherit and your relationship with the decedent.
Some actions you may need to take to be ready for life transitional changes include:
- List all income and expenses to see where you stand financially.
- Take inventory of all shared and individually owned assets.
- Re-title accounts, assets, and real property to be held individually or jointly.
- Start thinking about how best to divide retirement account assets.
- Revise your estate plans, including your wills, trusts, powers of attorney, and health care proxies.
- Update your saving and investment strategies based on your views as a couple on your new goals and risk tolerance.
- Reduce debt and/or save more for the future.
- Set aside more for your beneficiaries via gifts to trusts.
- Update and refine your investment strategy.
- Continue saving and investing for your retirement.
Life transitions happen whether we want them to or not. Financial independence is important no matter what your circumstances. In these instances, it can also be important to review your estate, financial plan, and investment profile to make sure they change along with your circumstances.