The awful year of 2020 may be history, but economic uncertainty and concerns about job security continue to cloud many clients’ financial plan. Those concerns were underscored by Friday’s news that U.S. nonfarm payrolls declined by 140,000 in December, following seven consecutive months of job gains.
In the new year, financial advisers, accustomed to offering long-term guidance on retirement planning and investment advice, may want to emphasize more holistic aspects of planning, including building emergency funds and managing debt.
“In wealth management, the transformation from an investment and transaction focus to a more holistic relationship with individuals and families has been underway for years,” according to a new white paper, “The Future of Wealth Management,” from Salesforce. “But the pandemic has accelerated the need for advisors to adapt quickly to empower clients to navigate uncertainty.”
Mari Adams, branch manager of Mercer Advisors in Boca Raton, Florida, agrees. “There’s nothing like an honest-to-goodness crisis to give your emergency preparation a test run and there’s no doubt that the 2020 COVID pandemic qualifies as one of the most profound crises ever to affect our nation,” she wrote in her weekly newsletter.
Adams noted that while many Americans who were living paycheck to paycheck before the pandemic had little or no financial cushion, even some higher-income households fell woefully short of the six months of emergency reserves generally recommended by financial planners.
Ironically, many people who were able to continue to work from home during the lockdown saw their savings soar as their usual spending on discretionary items such as restaurants, travel and entertainment were curtailed. In fact, U.S. households have saved about $1.5 trillion more since February than they probably would have if there had not been a pandemic, according to Barron’s.
Others who lost jobs in the decimated retail, hospitality and travel sectors, or who found they could not return to work due to childcare and remote schooling responsibilities, represent the new “have-nots” of the pandemic. Goldman Sachs estimates that 42% of small businesses have had to lay off employees or cut their compensation over the past year, leaving millions of Americans unemployed.
Martin Abo, managing member of Abo and Co., a certified public accounting firm in Mount Laurel, New Jersey, offered some basic financial planning advice and tax tips for clients who have been recently laid off and others who suspect they may be laid off soon.
Starting with the still-employed-but-worried group, who have the most flexibility, Abo urged them to conserve cash and postpone spending on things that are not strictly necessary. It’s also important to keep creditors happy as a good credit report and access to additional credit could come in handy if a layoff occurs.
But clients shouldn’t be afraid to put necessary expenses on a credit card to build up a cash reserve, Abo said. If the expected layoff doesn’t occur, the credit card balances can be paid off quickly. If the client does lose a job, the cash reserve provides a margin for error and the credit card balances can be paid off over an extended period, he said.
It’s also a good idea to arrange additional credit, if possible, such as a home equity line of credit. A HELOC allows homeowners with sufficient equity to borrow money as needed rather than taking out a lump-sum loan. However, with current low interest rates, it may be possible to replace an existing mortgage with a cash-out refinancing that could both reduce monthly payments and create extra cash to add to emergency reserves. Clients should also contact their bank to arrange overdraft protection if they haven’t done so already.
If clients are already unemployed, Abo said financial advisers’ main goal should be to keep them from making the situation worse by inadvertently or impulsively taking actions that result in otherwise avoidable tax liabilities.
Someone who is 55 or older when laid off may need to access some money from retirement accounts between the layoff date and attaining age 59½. While qualified plan distributions for those who separate from service after attaining age 55 are exempt from the 10% early withdrawal penalty, distributions are still taxable. However, the early withdrawal penalty exemption is lost if the funds are rolled over into an IRA.
“If there is an immediate critical need for some of the retirement plan money, keep some outside the rollover IRA and roll over the rest,” Abo advised. “The taxable plan distribution not rolled over will be subject to income tax but not the 10% penalty.”
Another way to avoid the 10% early withdrawal penalty for distributions before the age of 59½ is to arrange “substantially equal periodic payments” from a retirement plan through a 72(t) distribution, named for the section of the tax code that authorizes them. However, once the annuitization program begins, clients must stick with it for at least five years or until age 59½, whichever is later, or face retroactive early withdrawal penalties back to the initial distribution.
For unemployed workers who have passed the age 59½ milestone, it may make sense to take a withdrawal from an IRA or 401(k) when reduced income will lead to little or no tax liability on the distribution. It could also allow those clients to delay claiming Social Security benefits until an older age — up to age 70 — when benefits would be worth more for the rest of their lives.