Protecting Against the Federal Stimulus

My predictions in May of this year were correct when I said that the federal stimulus would continue and volatility would be the norm.  In September of this year the Federal Reserve announced Quantitative Easement III (QEIII), which was designed to keep pace with Mario Draghi and the ongoing Euro crisis; promising continuous monthly injections of $85 trillion in order to protect our nation from an economic collapse.  There is no way to know how long this will go on for, however; Fed Ben Bernanke stated unlimited printing.  Why?  Why not, the total known federal stimulus was at $3.6 trillion prior to QEIII.  So when additional stimulus is announced, it is then shrugged off as old news.  Investors are numb to this phenomenon, and have now become conditioned to expect Uncle Sam to cut a check.  The rules are now set in total opposition to a bull market, meaning that investors are now counting on Uncle Sam to help offset their losses.  With respect to financial preservation, the next few years are crucial and how we approach the Federal stimulus will determine what our financial fate will be. 

In September of 2013 the total Federal stimulus will exceed $5 trillion.  QEIII will add another trillion dollars to the printing press each and every year.  When you take into account that’s the cost per year for the Federal Government to run the country, the thought becomes overwhelming.  Even worse, we are at the tip of the ice burg.  Why?  Because QEIII was announced at $85 trillion per month, indefinitely, moving forward.

So the question is how do you think the market will react to this news?  My guess is it will likely react to QEIII the same way it did over the last 5 years.  We will likely see a roller coaster in a downward trend. This is where the opportunity lies.

When the market is having its ups and downs it seems pointless to try and beat the market.  This is why investors are looking to protect financial interests they can control.  Interests that will protect your money from all future market downturns with a guarantee of lifetime income.  For example, think of it as taking your 401k and knowing that even if you never added one more penny to the account you would have a secure income steam for life at any time in the future; while knowing your eligible income will increase each and every year.

We know that volatility will be the norm moving forward, especially with the continuation of QEIII.  Just like we all know of the losses due to the stimulus in the last 5 years.  The question is; if you could go back and protect all of your financial interests prior to the fall of Lehman Brothers, or the Financial Collapse of 2008, would you?  I know most, if not all of my clients would have, or did, taken action to protect their money.  Honestly, why wouldn’t you protect your money? Especially knowing $85 billion each and every month will be continuing for quite some time.  At what point will it be too late?

Permanent Life Insurance: The financial perks

Who would have ever thought that one of the most attractive tax deferred, cash accumulating vehicles could be found inside a permanent life insurance contract?  Imagine that, insurance policies that have outperformed the S & P 500 over the last 15 years with respect to cash accumulation.  If you haven’t heard this concept, I strongly suggest that you educate yourself on all of the benefits that you have been missing out on.

One of the ways to accumulate cash within a permanent life insurance company is through an indexed universal life policy.  These products allow for capped gains in the market while expelling any possibility of losing a penny to market volatility.  This is possible through a concept known as annual reset.   Annual reset allows you to earn a portion of the market upside, while bypassing the market downside; usually over the span of a calendar year.  Added to which, with this concept it is not possible to lose a penny of your money when the stock market takes a hit.  This is a philosophy that many investors and businesses are openly embracing, especially with tax advantaged withdrawals.

Since indexed universal life (IUL) is a form of permanent life insurance, it is subject to an accounting measure known as FIFO.  FIFO is an acronym in accounting known as first in, first out.  This means that all of the principle that is deposited into an IUL policy is able to be withdrawn before you are required to pay ordinary income tax on the interest earned.  In other words, interest is only paid when all of the principle is withdrawn.  This is one of the only financial vehicles that will allow for funds to be withdrawn without having to pay the tax upfront.  Most all other cash accumulation vehicles require that taxes on your interest must be paid first upon withdrawal, usually as ordinary income tax or capital gains tax (assuming you’re lucky enough to have any return).   Let’s take a look at an example.   John has an indexed universal life policy worth $225,000, of which $40,000 consists of earned interest.  Assuming that John makes his first withdrawal on his policy in the amount of $50,000, he will not have to pay any taxes on this withdrawal.  Since the interest on the policy’s cash value is $40,000, all of the principle ($185,000) will have to be withdrawn before any taxes are due on the interest.  These unique features are attracting businesses by providing tax breaks they are currently not receiving. 

Businesses are using permanent life insurance as a vehicle that can accept deposits, while simultaneously withdrawing funds that do not trigger a taxable event.  This gives the business the advantage of paying invoices while utilizing tax deferral.  Another attractive benefit is that they allow business owners to have the comfort of knowing that their family’s interests are protected with an accelerated tax free death benefit.  Business owners also have the capability of protecting themselves against the unexpected passing of a key employee, while allowing that employee to accumulate funds (exempt from market volatility) for future retirement needs.   Many business owners realize that unforeseen emergencies such as the death of their top salesman, or the death of an executive, can be devastating to the bottom line both in the short term and the long term.  Costs associated with the passing of a business owner or a key employee can cause a company to collapse.  These policies protect against these concerns while allowing for tax free income (if properly structured) for their income planning needs. 

How can they do this in a depressed financial environment?  Insurance companies offering permanent life insurance products have the advantage of basing their long term goals on effective mortality tables.  Every policy owner must complete certain underwriting criteria in order to qualify for these unique benefits.  Think of it as a substitute to good credit; the analogy being, the healthier you are the better your policy should perform.  Since all policy owners are in good health and are expected to live longer (usually able to reach the mortality rates in life) the insurance company benefits from extended profits due to their policy owners averaging a longer life.    

As this financial recession lingers on, tax deferred vehicles that can allow for both tax deferral and tax advantaged withdrawals will take center stage sooner rather than later.  Policy owners who have been able to take advantage of indexed universal life products over this past decade have had the benefit of skipping over all of the down years while receiving attractive moderate return on the upside.  Do you currently have a tax deferred vehicle that can allow for tax advantaged withdrawals?  If not, what is your contingency plan against the threat of rising taxes needed to knock our federal deficit back to a manageable level?    

Think Twice Before You Rollover Your 401k to a New Employer

Today, with the amount of layoffs and the number of workers being forced to change career paths, the need to protect their 401k, 403b, or other employer sponsored plan (ESP) is taking a sideline to the need of finding another income source.  Ironically, they could be bettering their retirement position by helping to secure an income stream for their future retirement needs.  Many employees do not know all of the options that they have with respect to their old ESP; down the road they will regret not investigating other viable options for their 401k.  They are just assuming that they have to roll over their prior ESP cash value to their new employer’s plan when they start a new job.

An ESP is a deferred compensation plan, usually funded monthly or bi-weekly, set up to help you prepare for your retirement needs.  These plans were designed to replace the traditional pension plan.   Most corporations can no longer afford to fund the income stream that pensions would traditionally provide during retirement, and the ESP takes the burden off of the employer.  These new vehicles, mainly consisting of a 401k or 403b, are managed by the employer while the employee bears all of the risk.  Most ESPs are dependent upon the performance of the stock market, and over the last 15 years the majority have either incurred a loss or broken even.  However, employees are still urged to stay the course with their ESP contributions and often assume that their contributions must continue on to another ESP when they part ways with their current employer.   Unfortunately, this is causing many employees to further delay their retirement goals, and many are missing opportunities to redirect their funds to gain an edge with an income stream for life.      

When the employee departs from an employer, they have the perfect opportunity to get a jump start on their retirement goals.  Many employees who are concerned about an income stream down the road (because they do not have a pension and are not counting on social security) are deciding to transfer their group sponsored plan to one that focuses on the individual goals, known as an Individual Retirement Account (IRA).   Basically what they do is convert the funds from a group annuity within the employer sponsored plan to an individual annuity.  Now that benefits are directed to the policy owner, as opposed to the employer, the funds become eligible for lifetime income offered through a fixed indexed annuity (FIA).  The FIA is the only safe money vehicle that can contractually guarantee you an income stream for life, regardless of future market performance, while still allowing you to maintain control of your cash value.   Not only can a FIA provide lifetime income for the annuity owner, the lifetime income can be set up to extend lifetime income to the spouse as well.   

How is lifetime income guaranteed?  Insurance companies who offer FIAs have attached income account values (IAV) known as an income rider.  An IAV is a non-cash value that grows at a fixed rate, regardless of market performance.  The goal of the IAV is to help determine the amount of income an annuity owner is eligible for at a later date.  For example, an annuity owner who is 55 years old may plan on retiring at the age of 70.  The IAV would be able to tell the annuity owner what their income is at the age of 70.  Once the IAV is established by the predetermined interest rate, the insurance company determines what percentage of the IAV would be paid out annually for life.  Typically, the older an annuity owner is the higher the payout they will receive.  Once again, it is the only way to predetermine an income stream for life, regardless of future market performance.

FIAs are state regulated products that have been deemed financially secure enough to offer lifetime guarantees.  Insurance companies that offer these fixed assets must have total assets exceed total liabilities.  They are able to do this by setting aside reserve pools of cash to protect the future interests of the annuity owner.  In fact, if an insurance company were to go insolvent (where total assets were unable to exceed total liabilities) , by law regulators step in and take over the operations of the insurance company in order to protect the interests of the annuity owner. 

When you don’t have a pension in place, what income can you count on?  I sincerely hope that you don’t plan on social security as being your primary income.  Workers departing from employment are starting  to redirect their ESP to lifetime income guarantees they don’t have.   ESP plans were initially designed to replace pension plans that employers can no longer afford.  Essentially the employer has shifted the responsibility of retirement planning onto the employee.  If you fail to embrace this responsibility you will likely result in either a delayed retirement or having to become a burden to your loved ones.   Without protecting your income needs in retirement, what is your plan of attack? 

The Epidemic of the Unemployed Younger Working Class

With a debt ridden Euro and the weekly jobless claims making the front page week in and week out, a long term epidemic is forming in our country.  It’s the epidemic of the unemployed younger working class that is a major threat to the financial longevity of our nation.  Our future leaders are bitter, and with rightful cause.   Without addressing the needs of our younger generation, the long term odds of surviving this financial crisis are greatly decreased. 

Our younger generation has to put their lives on hold as baby boomers are holding on to their jobs longer, due to insufficient assets for retirement.  Over the last decade alone, the average retirement age has been bumped back by at least 10 years because of the financial crisis; which has been at best a breakeven point for many portfolios.  As baby boomers are holding on to their jobs longer than ever before; many recent college graduates are being forced to take a job paying substantially less than their college degrees have historically paid, if they can find a job at all.  This is forcing the younger generation to stay at home longer, which in turn puts a burden on the retirement timeline for their parents.  Are you seeing the trend?  The main point here is that we now have an economy where there are no jobs being created and would-be jobs are not being relinquished by the baby boomers, causing a vicious cycle between the two groups.  

Employers are not hiring our most recent generation entering the workforce, and the backlash can be seen in the latest negative statistics.  According to a survey of the Pew Research Center, the US birth rate fell by more than 11% during the last four years for adults 18 to 34 years of age.  Since 2007, the marriage rate for the same demographic fell by 6.8%.  Once again, young Americans are putting their lives on hold because many baby boomers did not have a contingency plan in place for a down market.   The amount of 70 to 74 year olds working full time increased by almost 33% since May of 2008.  Those numbers are likely to climb even higher over the next several years given current market conditions and future uncertainty, especially considering the lingering concerns in Europe.  Without a contingency plan, we are looking at a whole new set of problems over the next decade.

These declines are directly linked to a lack of employment, resulting in many young Americans to feel detached from the American dream.  Prior to the financial crisis, the younger generation has always been optimistic about starting a career; today this is not the case.   The traditional optimistic drive is being replaced by a pessimistic view of the real world.   Unfortunately, this has resulted in some additional negative trends with our younger generation.  During the 2008 Presidential election, over 64% of registered voters between the ages of 18 to 24 went to the polls.  According to Harvard University’s Institute of Politics, only 47% of the same demographic is planning to vote in the upcoming election, a 17% decline.  They learned a real world lesson; just because something is promised in an election it doesn’t mean it will be delivered, and the numbers prove it.  Harvard economist Lawrence Katz states that almost one in five adult males from the age of 20 to 24 were either not working or not going to school because of the crisis.  As of May of this year, there was a 41% decrease of young Americans aged 20 to 24 working in comparison to four years ago.  Furthermore, Americans today under the age of 35 accounts for 65% of the Nation’s unemployed. 

The only way to get the younger generation into the workforce is to get the baby boomers into a position where they can retire and make their jobs available.  One legitimate approach is to focus on a guaranteed income stream for life.  Many investors are starting to realize that proper income planning can provide a safe haven against an uncertain and volatile market.  Having a guaranteed check in the latter years of retirement is a comfort in times of financial uncertainty.  Over the last few years, the fear of dying has been replaced for the first time ever by the fear of outliving your money.  Only when retirees feel that their lifetime income obligations are met will they openly embrace retirement.   The longer it takes for baby boomers to retire, the longer delay the younger generation will experience entering the workforce.  This needs to be corrected if we want to have any chance of ending this destructive cycle.   

Income Planning For Rising Taxes

The Bush Tax cuts are set to expire in January of 2013, which will prove to be a major problem for many investors.  This is especially true considering we have spent more money as a nation over the last 4 years than any other time in US history, bringing the debt toll to over $4.5 trillion since 2008.  This drastic spike in spending is likely to be followed by a steady increase in Federal income taxes.  It’s not a question of if, only a question of when.

Since 1913 the average marginal tax rate has exceeded 60%, and today our Federal income tax bracket caps out at 35%.  Considering we are at almost half the average Federal tax rate today, what do you think is likely to happen with Federal income taxes moving forward?  It doesn’t take a rocket scientist to figure out that the only way to offset our federal deficit is to decrease spending and raise taxes.  Moving forward, especially with the excessive Federal stimulus, I am of the opinion that decreased spending is going to be more of a dream than a reality.   

Do you have a contingency plan in order to offset rising taxes?  Most Americans are unprepared to deal with a decrease of net spendable dollars due to inflation and rising taxes coming around the corner.  Today, most retirement plans are 100% taxable upon withdrawal and cannot be withdrawn prior to 59 ½ years old without a penalty.  These are pretax dollar funds that are usually accumulated through an IRA, 401k, or equivalent deferred compensation vehicle.  Although these vehicles grow tax deferred, they are subject to ordinary income taxes upon withdrawal.  Not to mention after 70 ½ years of age the IRS makes it mandatory that every citizen who owns a pretax dollar account must withdrawal a certain percentage, known as required minimum distribution. The traditional way of financial planning taught investors to minimize their current tax bracket with the assumption they will be paying less taxes in retirement.  With the amount of Federal stimulus we’ve had over the last 4 years, that reasoning is out the window.  These are some of the reasons why many younger investors, and those preparing for retirement in the next 5-10 years, are looking to post-tax deferred compensation plans that can allow for withdrawals exempt from Federal income tax (if properly structured). 

Life insurance products such as Indexed Universal Life (IUL) are being utilized as deferred compensation plans in order to offset rising federal income taxes, market volatility, and the threat of hyper inflation.  Deposits into IUL policies are post tax dollar funds, meaning you have already paid Federal income tax on the money you deposit into these products.  Funds within this policy grow tax deferred, and there is no restriction on what age you can withdrawal the funds out at.  Furthermore, there is no restriction on the amount you can deposit annually; unlike an IRA.  Since all IUL products are life insurance policies that come with an accelerated death benefit, the policy owner is able to withdrawal the funds exempt from Federal income taxes through a loan that they take against the death benefit (assuming the policy is structured as a non MEC from the start of the policy).  Since the policy owner is taking a loan against themselves, interest on the loan is not deemed payable on an annual basis.  The interest on the loan will accumulate at a low interest rate that is not due until the death of the contract owner (the policy owner has the option to pay off the interest at their discretion during their lifetime).  At the time of death the total loan balance is subtracted from the death benefit and the remainder of the funds goes to the beneficiary tax free.  So now we see how tax free income is possible, let’s take a closer look at the true benefits of these products.    

Policy owners in IUL products never lost a penny, even during the worst years of the recession, and have achieved moderate returns that have beaten any other fixed product available.  IUL policies are able to do this through a concept known as annual reset and interest crediting methods known as indexing.  Annual reset is a method that allows your cash value to reset each year regardless of how the market performs, while indexing allows you to accumulate interest based on the performance of an indexed fund, like the S & P 500.  When the market goes south you will simply break even; or in some policies earn a small rate of return, also known as a floor rate.  Conversely, when the market goes up you will receive a portion of the market upside; commonly referred to as a cap.  Investors are willing to trade all of the upside of the market in exchange for a financial product that will never lose a penny to market volatility with capped earnings.  I find it fitting to think of this as a batting average.  The analogy being that investors in these products are not trying to hit a home run, but instead are focusing on hitting singles and doubles; thus increasing their batting average.  The theory is, the more runners you get on base the greater chance you have to win the game.

As the financial crisis lingers on, IUL policies will be actively pursued by investors who are deemed insurable, or able to pass underwriting guidelines.  Truth be known, many corporations are now implementing IUL into their business practices in order to protect liquid assets and key employees.  This multibillion dollar industry could very well prove to be a multitrillion dollar industry over the next decade.  These policies will soon start to replace pretax deferred compensation plans that are completely taxable upon withdrawal, not to mention have severe restrictions on both what age you can withdrawal the funds at without penalty and restrictions on how much you are able to deposit each and every year.  Rest assured, investors that adopt income planning solutions to offset both future volatility and rising income taxes will be much more equipped to deal with an uncertain future.        

A Paradigm Shift of Income Planning

The retirement crisis is likely to continue given the direction our pension plans are heading.  It is no secret that the traditional pension plan is pretty much unheard of in the private sector.   Today, your only real hopes of receiving a pension are through a government job.  Even at that, state and federal governmental authorities are struggling to make the payments on a monthly basis.  This is all the more reason why employees need to take their retirement needs into their own hands. 

With the lower yields, pension plan administrators have to take on much more risk in order to keep up with the billions of dollars in monthly payment obligations.  Many payment obligations today were designed decades earlier when the economy could favor annual yields of 7 -8%.  The global recession yields today are closer to 2%.  So in order to make up difference, administrators are turning to higher risk investments, many in the form of junk bonds.  Unfortunately, higher yield potential comes with a greater chance of default.

U.S. pension plan managers are investing large amounts of capital into smaller speculative-grade borrowers, trying to yield the magic 8% yield needed for their payment obligations.  Much of this debt is from smaller start-up companies looking for capital to try and capture a small portion of a saturated market.   Borrowers with less than $500 million in annual revenue are paying much higher returns since big banks have decreased small business lending by 12% since 2008.  Big banks have decreased their lending to these smaller companies due to the default ratios they were experiencing.  None the less, fund managers are actively pursuing these debts due to the Federal government’s promise to hold interest rates low through 2014. Unfortunately, these are the risks fund managers are being forced to take on in order to make these overwhelming payment obligations.  This is a destructive trend, and regrettably a necessary evil.        

According to a study by the Pew Center on the States in Washington, states were $1.38 trillion short of their retirement obligations in 2010; which was up 9% from the year prior.  These numbers include $757 billion in underfunded pension obligations and $627 billion short in retirement health.  These numbers will continue to snowball with low interest rates making it impossible for this trend to continue without exploring alternate forms of revenue. 

A few weeks ago voters in San Diego and San Jose, California approved measures to restructure benefits for municipal workers in cities that could not afford them.  Several states including Wisconsin, Indiana, and Ohio have already started to limit collective bargaining for public employees, and have started cutting benefits accordingly.  These limitations include reduced payouts for pensions and drastically less protection of healthcare benefits.  Many other states, including Texas, are trying to renegotiate less favorable benefits for teachers and state administrators in order to help cut costs.  Eventually, government pensions are likely to go away in exchange for a deferred compensation plan, following the suit of the private job sector. 

It is no secret where this is heading.  We are seeing a paradigm shift from the responsibility of the employer to the employee.   Employees today are being forced to be more self reliant with respect to health care and retirement obligations.  Relying on employer or governmental obligations is proving to be a trend of the past.  Because of this, many employees are redirecting their deferred compensation plans to vehicles that will yield an income stream within retirement.   Vehicles not dependent upon a fund manager yielding needed returns, but instead with income guarantees backed by cash reserve pools.   These income streams are guaranteed for life and use income account values (non-cash values) to determine the amount of income one is eligible for at a given age (usually from ages 50 to 90). 

Failing to adapt to these market trends is going to result in Americans struggling throughout their retirement years because of lack of income.  Social Security and pensions simply will not exist for many in the coming years.  I believe that every US citizen under the age of 50 should not count on much, if any, social security benefits being available to them starting at the age of 62.  Furthermore, when you take into account that over 90% of workers today are not being offered pensions, the idea of a lifetime income becomes very attractive.  Once again, adaptation is the key.   Those who fail to secure their income needs for retirement can count on being a future burden to this country.         

Why Maslow's Theory Contradicts Traditional Retirement Planning

For many, the approach to retirement planning is in direct conflict to Maslow’s hierarchy of needs.   The approach to retirement is working counter intuitive to the traditional planning approach.  For the first time since the 1920’s, the American employee is approaching retirement without the basic core needs being addressed.   We have never approached an epidemic of this magnitude before.   Those who have the majority of their retirement income, or deferred compensation plans, at risk without addressing proper income planning are likely to become a burden within their retirement.  The good news is it’s not too late to protect your retirement with a guaranteed income stream for life.   

Maslow’s hierarchy of needs was introduced in 1943 by Abraham Maslow, which identifies the core roots of developmental psychology.   The ideology of this concept shows how basic human needs must be met in order for decisions to be formed with success.  The point being you can’t formulate a sound financial decision without addressing basic needs, such as establishing where you live and how you plan to pay the bills.  So in theory, you shouldn’t be subjecting all your retirement funds to risk when you have failed to provide an income stream. 

Maslow’s hierarchy has five basic platforms.  The first level of this 5 step model is the physiological stage, which identifies the basic needs of the human body: food, water, shelter, etc.  The second level is safety, third is love/belonging, fourth is esteem/confidence, and finally self – actualization; the ability to make a sound decision once all your basic needs (in that order) are met.  Only when the first level of needs is satisfied can the next stage be approached, and so on.  The second level of Maslow’s hierarchy is putting many retirement dreams at risk.  The safety level requires that the needs of employment (income), resources, and property should be adequately addressed before you can proceed to the next level of love/belonging (third level).   Without the security of income during retirement, the basic financial needs of housing, health, and consumption fail to exist.  This is the equivalent of hiring an interior decorator when you don’t have an income stream to pay for the mortgage.   In other words, once again, it is counter intuitive to subject your retirement funds to market risk when you haven’t established an income stream to meet your basic needs.    

The foundation of the traditional financial planning model is failing to address the need for income in retirement.  This is going to cause severe problems moving forward.  It is no secret that the last decade has commonly been referred to as the lost decade.  Most retirement savings plans, such as deferred compensation plans, are totally exposed to market risk causing most retirement plans to be delayed by 10 plus years accordingly.  When you take into account that most employees from Generation X, and many baby boomers not yet retired, do not have a pension to meet their basic safety needs; it isn’t difficult to figure out we are approaching a dire situation.

Today, the congressional approval ratings are at the lowest they have been in US history; and the faith in our financial sector is not too far behind.    Investors are fleeing securities, causing the 10 year US Treasury to reach record lows below 1.5%.  So when you take into account that the Federal Reserve is getting closer to another round of “quantitative easing”, any entry level financial professional can tell you these actions are working in direct conflict with the norm and are not without consequence.  Many experts believe that these actions are likely to cause a bond bubble that would in turn throw the market into panic mode by driving the value of bonds south when interest rates are forced to rise in hyperinflation.

The actions of our country dealing with this financial crisis are short term solutions designed to buy time in hopes that a contingency plan presents itself.  There is no history of Federal spending of this magnitude to help form a logical end result; so in essence we are approaching this blind.  All one can do is protect, or ensure, their basic needs during retirement with contractual agreements in order to have the best chance to make sound decisions.  Insurance repositories have identified the need for an income stream within retirement, which acts as a replacement to the pension, and have delivered accordingly.   There is no other industry on the planet that offers lifetime guarantees that are unaffected by future market conditions.  

Without meeting the basic needs of Maslow’s hierarchy, panic and desperation set in and can lead to unsound financial decisions.  Investors who fail to have an income stream are likely to participate in bigger risks in order to “catch up” their retirement goals, exposing themselves to more volatility.  There is no way to know how the crisis will play out; however, when you protect your future needs with a guaranteed income, you will be well equipped to handle any turbulent times ahead.   Those who fail to have an income stream, or pension, in place will regret not doing so; especially once entering retirement. 

Why Spain is unlikely to continue on its financial path

Recently the growing Euro concerns are being shifted towards Spain, and rightfully so.  When you take into consideration that Spain’s economy is twice the size of Greece, Portugal, and Ireland combined, it’s becomes clear why it is a serious concern for the EU.  Spain’s financial crisis is arguably more of a question of morality than a true financial crisis, at least not yet. 

Spain’s bank concerns center around BFA-Bankia, which was formed in 2010 as a merger from 7 struggling savings banks.  When Bankia’s market value plummeted by 43%, it was nationalized by Spain on May 9^th 2012.  Today, the bank’s assets are equal to 1/3 of the county’s assets.  To protect this interest, just recently Spain was given $120 billion Euros as an economic stimulus in order to try and recapitalize their banking system.  Unfortunately, this is the least of Spain’s problems and the aid of additional funds is likely to throw Spain further in the red down the road; and seemingly sooner than later.  Many professionals believe that artificial growth is today’s true culprit in Spain’s financial crisis. 

Since the fall of the housing peak in 2007, Spain has approached its foreclosure crisis quite differently.  In order to protect the values of the 329,000 properties that were in foreclosure, Spain offered 100% financing with many loans going as interest only loans.  This financing model is only available to bank owned properties, and to no one else.  This has caused the home values in Spain to drop by only 22% according to Mr. Encinar, CEO of Idealista.com (a Spanish property website), whereas values in Ireland have dropped by over 60% since their peak in 2007.  Mr. Encinar speculates that the decline in housing values without artificial support (the 100% financing) would be at least twice what it is today.  

The construction industry in Spain is a different but equally shocking story.  For years Spain has relied on home and office building as a source of growth, as it is feared that without this growth the country may have too much of an uphill battle.  Builders in Spain are continuing to build despite a massive inventory of vacant homes.  Spain is allowing this because construction accounted for more than 20% of their GDP at the height of the boom, and it is argued that Spain does not want to lose this momentum.  According to Ruben Manso, an economist at consulting firm Mansolivar & IAX, “There has been a lot of cheating going on where banks have lent developers new money, classed as new lending, so they can pay off their original loans”.  Old loans that should have triggered credit lines pulled were instead deemed as paid in good standing.  These unscrupulous measures were put into place in order to keep prices artificially high, giving the illusion of a growing nation.  

This artificial demand for pricing will not be able to continue with the high unemployment rate of 24%.  As this process continues, their fiscal cliff gains more elevation day in and day out, which in turn will likely spur a devastating financial drop.  “Spain has engaged in a policy of delay and pray.  The problem hasn’t been quantified by anyone because there is a huge pressure not to tell the truth” says Mikel Echavarren, CEO of Irea, a corporate finance company in Madrid specializing in the real estate industry.         

Why Financial Planning Will Fail Many Retirement Dreams

Over the last few years I have met many Americans, either already in or nearing retirement, who have told me that they have been urged to “stay the course” with their portfolio.  These investors are putting their retirement dreams in a philosophy that utilizes projections, and not guarantees.  The problem is many investors are hoping to retire in the next 10 -20 years and are nowhere near their long term goals.  Considering that the S & P 500 has yielded a negative return from 01/01/2000 to 01/01/2012, many portfolios are on track to either have retirement severely delayed, or not be able to retire at all.  What many Americans do not know is that this planning approach is severely flawed, and is unlikely to achieve the desired results. 

Most financial planners who work with current or converted (usually to an IRA) deferred compensation plans are utilizing a planning system that is missing a vital component.  Most of their clients do not have an income stream, or pension, for retirement.  Rule number one in investing; don’t put at risk what you cannot afford to lose.  It is counterintuitive to expose your entire retirement plan to market risk when you have not established an income stream to meet your basic needs.

Before this flaw can be understood, it is crucial to understand the history of the financial planning model.  Beginning in the 1950’s, financial planning revolved around precautionary savings and diversification strategies to manage personal wealth.  Sound familiar?  Today, the financial planning model has not strayed too far from its roots.  Understand that throughout the 1940’s to the late 1970’s there was very little volatility in the market.   Through the protection of the Glass Steagall Act, there was little if any need to change the traditional planning model.  The Glass Steagall Act was put into place after the Great Depression to separate the banking, investing, housing, and insurance sectors, serving as a shield of protection against greed and volatility.  Confidence soared in this model due to steady growth and very little volatility.   This caused the economy to grow stronger which inevitably evolved into an appetite for higher risk and better returns.  This appetite spurred a massive joint effort to deregulate the banking industry in order to try to maximize profits without any restrictions, which ultimately resulted into our global recession today.

The financial planning method used today is based on a model from over 50 years ago.  In the 1950s there were two main assumptions that do not exist for working Americans today, and will likely never exist again.  First, it was assumed that every US citizen born was to receive social security in retirement without question.  Secondly, every American that at least graduated High School would enter a firm of their chosen industry, and was expected to climb the ranks from the bottom up (in the same firm).  In exchange for their services, every working American expected to have a pension in retirement.   Those Americans who were not working for a pension were considered poor planners, or were usually thought to struggle within retirement.   When they couldn’t support themselves in retirement they often became a burden to their family and society as a whole. 

When you use this traditional financial planning model today, the assumptions needed to make this model work do not exist.  Ask yourself the following questions.  Do you have a pension in place for retirement?  Are you planning on receiving social security in retirement that is taken out of your paycheck each and every month?  Do you think it’s possible to retire by the age of 70?  If so, how do you plan on doing this? These questions never had to be addressed for retirees; and are questions that today’s working Americans are going to regret not asking. 

The next generation of retirement is going to cause a whole new set of problems.  Today’s working class is approaching retirement with less than a glimmer of hope in receiving social security, and the thought of having a pension for retirement today is comical.  Instead, employers are providing deferred compensation plans in exchange for the once desired pension plan.  These deferred compensation plans have been lucky to break even over the last 12 years.  So if this is the case; why is the focus on hedging against risk (jumping out of one volatile market to be placed into another) when the real threat is a lack of income?

The only way to receive a guaranteed contractual income steam is through financial guarantees.  Since investment banks utilize a business philosophy of leveraging assets (borrowing funds) in order to make money, they can’t offer financial guarantees.  This is why investment banks are forced to purchase FDIC Insurance in order to offer guaranteed accounts like CD’s and checking accounts.  Only through non leveraged assets (showing total assets exceeding total liabilities on a financial sheet) can a set income stream be guaranteed for life.  Insurance Repositories that specialize in fixed assets can do this through a differentiated proven result.  Instead of hedging against risk, these companies implement formulas (non cash values) to compound and withdrawal funds for a lifetime.   Typically the longer you wait the more income you are eligible to receive, and even offer liquidity features absent in the traditional pension plan.  How can they guarantee this income?  Through acquired legislation, these companies are required to hold cash reserves to protect the interests of depositors (money protected against unforeseen events in the future). 

Volatility will continue moving forward.  Today our only defense against the volatility (brought on by toxic assets) is to hope that the Federal government will cut a check at the expense of every tax payer, regardless of whether you invest in the market or not.  Investors who continue to try and “stay the course” in this environment without addressing adequate income planning (lifetime income) will eventually fall by the way side.   If you are not preparing yourself with proper income planning in retirement, you will become tomorrow’s burden.    Unfortunately, the financial planning philosophy is unlikely to change until the nation is forced to deal with Generation X retiring with no pensions or social security to count on (at least 10-15 years out).  At that point it will be too late for many.  In today’s financial environment if you fail to adapt, you will likely fail to retire.