By Ellen Hoffman With yearend statements from your bank, brokerage house, credit union, and retirement accounts piling up, you now know just how close you came -- or more likely, didn't come -- to meeting last year's savings and investment goals. At the same time, news and commentary about President Bush's tax-cut proposals, especially eliminating the "double taxation" of stock dividends, are bombarding you.
In such an atmosphere, you may be tempted to consider junking your current retirement-financing strategy and striking out in new directions, such as trading in your current stocks for ones that pay dividends or investing all your money outside a retirement account to take advantage of a possible break on dividend taxes. But financial-planning experts are cautioning clients against viewing the dividend proposal as a cure-all for their ailing retirement accounts.
Their primary point is it's risky to make quick decisions based on what Congress might do. As Elliot M. Weissberg, a financial planner in Avon, Conn., observes, "[I'm] not going to reallocate portfolios or assets based on proposed legislation. That is the cart before the horse." Instead, advisers are encouraging people to examine their overall investment strategy and goals vis a vis current tax laws, not proposals, and to view dividend-paying stocks in the context of a diversified portfolio.
FEW MAY BENEFIT. Excitement over Bush's plan has caused many people to overlook that they're already exempt from paying taxes on dividends earned in 401(k), IRA, or other tax-deferred retirement accounts. You buy the stocks or mutual funds, the company or fund issues dividends, and those earnings stay in the account and -- with luck -- grow until you're ready to withdraw money. In most cases, that will be when you're 59 1/2 or older, or retired and in a lower tax bracket.
So unless you own stocks outside a retirement account or you plan to max out your retirement contributions and want to invest more than the limit this year, a cut in the dividend tax would have little effect on
your retirement-savings strategy. Even if you have investments in nonretirement accounts, experts still say proceed with caution.
And should Bush's plan pass as proposed, it's important that you have a clear understanding of what impact, if any, it would have on your investments. (For more information, read the U.S. Treasury fact sheet on the dividend proposal and a critique of the proposal by the nonprofit Center on Budget Policy & Priorities.)
TIME TO SWITCH? Since the President announced his plan, "I'm getting lots of calls from clients saying, 'I heard they're going to eliminate taxes on dividends, and I was wondering if that should be represented in my portfolio,'" says Robert Isbitts, chief investment officer for Emerald Assets Advisers in Weston, Fla. He points out that many clients, after reviewing their portfolios, realize that they already own stocks, both in their retirement and nonretirement accounts, that are paying respectable dividends.
Other folks have retirement money invested in nondividend-paying stocks or funds, and all this talk about dividends has them thinking it might be time to switch. Isbitts warns against "just screening for stocks that have the highest dividend, because often they come with baggage. You don't know if the dividend is going to be forever, or if it's going to be cut, or if it is growing."
And if you feel you must change your portfolio, "don't make the mistake of reaching for yield" by hastily shifting your investments into dividend-paying stocks, Isbitts says. You may need some help in figuring out which dividend-paying stocks are worthy of your investment.
DON'T STOP NOW. Karen Coyne, an investment representative for Edward Jones Investments in Inwood, W.V., says she's seeing people "pulling money out of 401(k)s, stopping contributions." She says the best move anyone can make right now is to keep contributing to retirement accounts. Isbitts says he, too, has heard people express reluctance to keep putting money in as they have been. Instead of pinning their hopes on tax proposals, he says these folks should keep contributing every year, especially if they're 20 years or so from retirement.
"When you think about it, the best thing that could happen to you in that case is that asset prices go down for the next few years [enabling you to buy low], and then start to go up in a big way," Isbitts explains.
And this year, current tax law means you can reap more benefits than ever from pretax retirement accounts. The 2003 limit for 401(k) contributions is increasing by $1,000, to $12,000. If you're 50 or older, your catch-up contribution to a 401(k) rises to $2,000 this year, in 2003. The IRA contribution limit stays at $3,000 for people under 50, with an additional $500 in catch-up for people 50 and older. And if you're self-employed, you can stash as much as $40,000 into a Simplified Employee Pension (SEP) or Keogh plan.
RESIST THE URGE. As you put money into retirement accounts, now is a good time to "revisit those rosy planning projections made within the past four years, this time with more realistic earnings assumptions," says Ron Kelemen, a financial planner in Salem, Ore. Doing this will give you a better idea of how much longer you need to work, how much more you need to save, and what kind of inflation-adjusted income you can expect over a long life span.
With the down market of the last couple of years and all the news about tax reform in the air, resisting a chance to bet on a new retirement-savings approach may be tough. Disappointed as investors may be, they should think twice about banking on proposals and instead get the maximum out of existing tax laws. Hoffman writes Your Retirement only for BusinessWeek Online. She's the author of The Retirement Catch-Up Guide and Bankroll Your Future Retirement With Help from Uncle Sam. You can contact her through her Web site, www.retirementcatchup.com