Wink Tax Services
IN THIS ISSUE . . .
Your tolerance for risk is an important factor in how you allocate your investment portfolio among different types of investments. While investments are subject to many different types of risk, risk tolerance typically refers to your ability to stay with an investment when the return is either less than you expect or the investment declines in value. You should only assume a level of risk that you are comfortable with, so that you aren’t tempted to sell an investment when it is at a low point. Unfortunately, it is difficult to quantify your tolerance for risk. And even if you think you understand your tolerance for risk, you generally won’t know for sure until you are actually faced with a significant downturn in an investment.
There are at least two factors that impact your risk tolerance. One is the level of investment risk that is appropriate for you based on your personal situation. Key factors to consider include your time horizon for investing, income level, asset levels, amount of debt, liquidity, and family responsibilities.
The other element is your emotional tolerance for risk. Even though your personal situation may indicate that you could assume a high level of risk, that may not be prudent if you are uncomfortable with that risk. To get a feel for your emotional tolerance for risk, it is important to ask yourself questions such as: How much would I be willing to lose in a one-year period without being tempted to sell the asset? For what length of time would I be willing to sustain a loss before selling the investment? What types of investments am I comfortable with and which make me uncomfortable?
Keep in mind that there are strategies to reduce the total risk in your investment portfolio. One of the most important is diversification, which means investing in more 6than one investment category, such as cash, bonds, and stocks, as well as within investment categories, such as owning several stocks rather than just one. A properly diversified portfolio should contain a mix of asset types whose values have historically moved in different directions or in the same direction with a different magnitude. The theory is that when one asset class is declining, other asset classes may be increasing in value.
Another form of diversification is time diversification — staying in the market through different market cycles. Remaining in the market over the long term helps to reduce the risk of receiving a lower return than you expected. This is important for investments that are more volatile, such as stocks, where prices can fluctuate significantly over the short term.
Other strategies that can help you become more comfortable with risk include:
Become familiar with different investments and the types of risk they are subject to. Over time, your comfort level with risk will increase as your understanding increases.
Maintain reasonable return expectations. If your return expectations are too high, you will become disappointed if the asset does not perform as you expected, another name for risk.
Don’t stockpile your cash and then invest a large sum. Many investors find that it feels less risky to invest smaller amounts of money rather than one large sum.
If you want to invest in more aggressive vehicles but aren’t sure you can handle the risk, start out by investing a small amount. You can increase your exposure as you become more comfortable.
If you’d like to discuss your tolerance for risk and how it could affect your portfolio, please call.
Reevaluating your investment portfolio requires considering a variety of factors. Need help going through this process? Feel free to call us at (800) 878-4036.
The term program trading is used to describe three different types of trading strategies:
Leave the funds in your former employer’s 401(k) plan. Generally, if your balance is at least $5,000, you can leave the funds in your former employer’s plan until you retire. However, you will not be able to borrow from your account. You may want to leave the funds with your former employer temporarily until you consider your other options.
Transfer the funds to your new employer’s 401(k) plan. Find out if your new employer’s plan accepts rollovers. If so, you can generally make the rollover even before you become eligible to participate in the plan. Be sure to get the appropriate paperwork from your new employer and to make sure the funds go directly to the trustee of your new employer’s plan. Otherwise, your former employer will withhold 20% of the funds for taxes. You will then have to replace the 20% from your own funds within 60 days or the 20% withholding will be considered a distribution, subject to taxes and the 10% early withdrawal penalty.
Roll over the funds to an Individual Retirement Account (IRA). Rather than transferring to an existing IRA, however, you will probably want to set up a separate IRA, called a conduit IRA. First set up the conduit IRA and then have your former employer transfer the funds directly to the IRA trustee to avoid the 20% tax withholding described above. If the funds are transferred to a conduit IRA, you can roll over the funds into another employer’s 401(k) plan in the future. If the funds are commingled with an existing IRA, you won’t be able to roll it over later.
If you’re changing jobs and would like help with your 401(k) funds, please call us at (800) 878-4036.
THE WORLD OF REITs
Real estate investment trusts (REITs, which rhymes with streets) pool the funds of many people into a portfolio of commercial real estate investments. REIT shares are publicly traded on the major stock exchanges and can have fluctuating principal and returns based on changing market conditions. There are three basic types of REITs:
REITs receive special tax treatment — as long as several requirements are met, they do not have to pay corporate income taxes on their earnings. One of the major requirements is that 95% of earnings must be distributed to shareholders.
Before investing, the most fundamental decision to make is whether you should even consider REITs, which depends on your unique investment objectives. Some items to consider if you are interested include:
Examine the types of properties in the REIT’s portfolio, paying attention to diversification among property types and geographic location. Review the vacancy rates at the properties. Find out how much leverage is used in the REIT.
Review the history of dividend payments and the percentage of cash flow the dividend represents, keeping in mind that past performance is no guarantee of future performance.
Examine the relationship between the market price and book value of the REIT.
Carefully review the management team’s qualifications and experience. Examine the fees charged.
Please call if you’d like to discuss REITs in relation to your investment objectives.
Tax Disclaimer: To ensure compliance with IRS Rules, any U.S. federal tax advice provided in this communication is not intended or written to be used, and it cannot be used by the recipient or any other taxpayer (i) for the purpose of avoiding tax penalties that may be imposed on the recipient or any other taxpayer under the Internal Revenue Code, or (ii) in promoting, marketing or recommending to another party a partnership or other entity, investment plan, arrangement or other transaction addressed herein.
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Wink Tax Services / Wink Inc.