• Business owners can deduct contributions to charities as an advertising expense if the expense is for a sponsorship.
  • Income property owners also have a limited opportunity to deduct charitable contribution as an advertising expense for sponsorships as well.
  • There are some caveats to deducting sponsorship expenses. The itemized deduction could be more valuable in certain instances due to the partial loss of the Qualified Business Deduction (QBI).
  • There are some hidden benefits, too. Planning sponsorships can maximize certain tax credits and deductions for small business owners. 

 

 

The Tax Cuts and Jobs Act (TCJA) of 2017 changed many of the rules. Personal exemptions were eliminated while the standard deduction was increased. With the state and local taxes deductions limited to $10,000 in aggregate, mortgage interest and charitable contributions carry virtually all the weight when it comes to itemizing deductions now.

Fewer taxpayers can itemize after the TCJA, hence, fewer get a tax benefit for supporting charities. This makes it more difficult for charities to raise funds to carry out their mission.

As with so many tax issues, there is a work-around for some taxpayers. Business owners and even income property owners can utilize a strategy that has worked for a very long time deducting monies paid to charities and other groups.

Whereas individuals face issues when deducting charitable contributions, business entities also have rules to follow that limit charitable donations. A sole proprietorship treats charitable contributions as having been given by the owner of the business and is reported on Schedule A. Partnerships and S corporations claim charitable contributions, but pass the deduction to owners on Schedule K-1 where the deduction is again claimed on Schedule A and the deduction is limited by the new realities of itemizing.

Regular corporations (sometimes referred to as C corporations) face even greater limitations. These entities can only deduct up to 10% of taxable income for any given year, with the excess carried to the next year.

Considering all these limitations when supporting a charitable organization, it requires planning to maximize the tax benefits so you can maximize the benefit to the charity. Individuals can clump charitable deductions in one year so itemizing comes into play those years. Regular corporations may find the restrictions too limiting to support an organization at the level desired under any circumstances. 

Deductible Sponsorships as Charitable Giving

It is tempting to throw up your hands in defeat with all the new limitations on supporting your church or favorite charity. But not so fast!

Sponsorships are technically not charitable giving; they are an advertising or promotional expense to the business. It requires only a modest amount of planning to gain full deductibility of monies paid to non-profit organizations and other social groups. 

It is easiest to think of this small at first. My tax office gets requests each year from local high school and junior high sports teams to buy a sponsorship. In exchange for a $250 fee, for example, they will add my business logo to the flyer handed out to all attendees. Sometimes they add the logo to signage at the sporting event. These small organizations may not even qualify as non-profit organizations so anything other than a sponsorship is not deductible by anyone. But as a sponsorship my business can deduct the full payment as an advertising expense.

A bit larger example is the $1,000 my office pays to CommunityFest some years in exchange for my business name and logo presented at the local community event over the Independence Day holiday. 

These types of sponsorships don’t always bring in enough new business to cover the advertising cost. It does build goodwill for your business so it still counts as a business expense. Public exposure of your business offers the opportunity for new business so it is a deductible expense.

On these small scales an income property owner could also support charities in a similar fashion. If you have a brand name for your properties you can increase exposure and attract better tenants with strategically placed sponsorships. For businesses and income property owners the expense has to be reasonable. That is a wide road, but does have its limits. An income property owner with one small property probably cannot deduction a $200,000 sponsorship expense. 

The numbers can be large, however. Recently I worked with an actor in a highly rated television program. He wanted to donate $1 million to his church that needed funding for an addition. He eventually settled on a sponsorship of $300,000 because a million dollars is a lot of money even for a successful actor.

Our actor friend was looking for a career shift and the sponsorship held possibilities. Even such a large sponsorship expense was acceptable due to the size of his income and the possibilities for more acting jobs in the future. I noticed he was picked up for a movie in a very popular series. I would say the expense qualified considering the results (though the expense is not required to generate large results which would be impossible to predict).

I use sponsorships to control my level of profits in my business, too. Keeping my income lower has its advantages, especially when there is a desire to support non-profit organizations. A surprise benefit is that I qualified for the recent stimulus checks due to my heavy level of sponsorship spending in past years. 

Note: A sponsorship cannot support any particular individual, like a Special Olympics athlete. Fees to attend the event are also not allowed as a business expense. A logo on team uniforms would count as a business expense, however.

 

Sponsorship vs Deduction

Throwing money into the plate on Sunday morning is a charitable contribution no matter what way you cut it. I have business owners who try to add weekly tithes to their expense sheet. A quick inquiry eliminates the business expense and puts it back on Schedule A where is has less, if any, value.

However, there is nothing that says you have to drop money into the plate when it is passed. You can use sponsorships at the same level as your regular contributions. When your church has an event your business can sponsor the event for a business deduction. The biggest issue for some is not giving money during the church service. I suggest you give a token amount at the service or even drop an empty envelope in the plate. You are still meeting your charitable goals because of your support through sponsorships.

The non-profit also needs to follow some rules. As a sponsor you would qualify for an advertising deduction regardless the non-profit’s behavior. But you need to be aware certain behavior subjects the non-profit to UBIT (Unrelated Business Income Tax). 

  1. The non-profit should never promise a certain attendance level to the event, media ratings or any other promise of the level of exposure that will be provided. The business still gets the deduction for the sponsorship, but the non-profit is subject to UBIT is such instances where the promise is made.
  2. A sponsorship should not require the business to allow the non-profit the use of business’s logo or products for unrelated event promotions. If the business allows the activity without the requirement it probably is okay. But if the sponsorship has the requirement the non-profit could be subject to UBIT.
  3. Conventions, trade shows, annual meetings and similar events can be sponsored by a business with the expense a deduction. The non-profit in these situations might be (probably is) subjected to UBIT.

I mention the three issues above so business owners do not demand the inclusion as part of the sponsorship. The biggest issue for the business owner is the promise of a certain attendance or ratings level. If the non-profit includes any of these items the non-profit may have tax issues to consider; the business owner still gets the deduction regardless, but the non-profit could suffer tax consequences.

 

Problems, Benefits and Solutions

The biggest concern with deducting sponsorships as a business expense is that it reduces your QBI, as mentioned in the opening bullet points. I can’t think of an instance where this would result in a worse outcome, but I throw it out there because it could be an issue for a minority of readers. QBI is generally 20% of profits. Therefore, a $10,000 business expense would only be worth an additional $8,000 because the non-cash QBI deduction is $2,000 without the deduction. 

There are significant tax benefits from deducting sponsorship expenses. If your income is too high for the QBI deduction, a properly planned sponsorship could reduce your income so you do qualify. That would never happen deducting the expense as a charitable contribution as an itemized deduction.

I actively seek sponsorship opportunities to support organizations I like. Rather than a charitable contribution I invest (notice my choice of words) the same monies as a sponsorship. The organization gets the full benefit, my business gets a deduction and I pay less in tax. 

The “lower tax benefit” is larger than first perceived. By lowering your income before it ends up on Form 1040 you also potentially increase the number of tax credits you qualify for. For lower income taxpayers the Earned Income Credit and Saver’s Credit become possible and may increase the credit. For taxpayers with higher income it can lower taxes on qualified dividends and long-term capital gains, and reduce or eliminate the Net Investment Income Tax (NIIT). 

In all but the rarest of situations it is better to have a business expense than an itemized deduction. Turning charitable contributions into legal business expenses is the Holy Grail. With proper planning you can control your tax burden, maximizing the tax benefits each year. I was able to qualify for the stimulus check because my income was low enough thanks to the business deductions received from sponsorship deductions. If you didn’t qualify for a stimulus check due to income level, you may wish to review the options outlined above because you have one last chance to qualify on your 2020 tax return. 

Finally, as my actor client illustrates, a desire to fund a non-profit organization can lead to very profitable outcomes. Of course then you have to deal with all that extra money. I’ll keep publishing blog posts with tax ideas your accountant forgot to mention to help out. You hold up your end of the bargain by funneling monies to awesome organizations and I’ll keep showing you how to pay less tax when the wheelbarrow of cash rolls in. 

And it is all for a good cause.

 

 

More Wealth Building Resources

Worthy Financial offers a flat 5% on their investment. You can read my review here. 

Personal Capital is an incredible tool to manage all your investments in one place. You can watch your net worth grow as you reach toward financial independence and beyond. Did I mention Personal Capital is free?

Medi-Share is a low cost way to manage health care costs. As health insurance premiums continue to sky rocket, there is an alternative preserving the wealth of families all over America. Here is my review of Medi-Share and additional resources to bring health care under control in your household.

QuickBooks is a daily part of life in my office. Managing a business requires accurate books without wasting time. QuickBooks is an excellent tool for managing your business, rental properties, side hustle and personal finances.

cost segregation study can reduce taxes $100,000 for income property owners. Here is my review of how cost segregation studies work and how to get one yourself.

There are so many reasons to ask, How can I make an extra $10,000 this year? Maybe you want to retire early and a small extra income will do the trick coupled with your savings and investments. The economy might be bad, your hours cut or are unemployed. Maybe you are retired and just want something to do that adds value to the lives of others while providing extra income for bills.

Regardless your reasons for wanting to earn extra money, what you need is a list of ideas for accomplishing the goal. Below is a list of 10 ways to earn an extra $10,000 this year (unless you are reading this New Year’s Eve, then you can start next year). Each of these opportunities are used to earn extra money by family members or clients in my office. If you read to the end I have two bonuses.

 

Home delivery is the biggest opportunity for side hustle money today.

 

Grocery Delivery

This growing trend has turned into a very good paying job you can work whenever you feel like it. You can work as many or as few hours as you want. Mrs. Accountant (my lovely bride) works with elderly and shut-in people. One of the most requested tasks is grocery shopping.

Finding clients is easy. Instacart and similar services are always looking for more people to deliver groceries. You can do an internet search for companies looking for delivery people in your area. The pay is good, the tips better. And best of all, you choose your hours and which orders you want to fill. Remember to keep good records. Miles are tax deductible so if you don’t drive a Ferrari you will probably have some income that isn’t taxed, too, since the mileage deduction might be larger than the expense of operating your vehicle.

 

Delivery Services

This is a broad category. Groceries are listed above, but that is only one type of delivery service. I have clients who deliver meals from local restaurants. If you respond to requests quickly the tips tend to be quite generous. 

Food is only the newest fast growing delivery service. If you have a truck (or a trailer) you can deliver large items from hardware stores and other retail outlets. One of my clients turned a small delivery business into a 7-figure business. He handles a large percentage of deliveries from several hardware stores. 

Almost anything a person or business buys needs delivery. The hours are flexible, coupled with a high income. You can start your own business, making a few calls to set up the service, or use online companies already in the delivery business. Either way, the delivery business is the biggest opportunity for above average income and flexible hours in our economy at this time.

 

Selling Tradelines

This idea has been around for a while. I published several times on the issue. You can start your research here. 

I don’t sell as many tradelines as I used to. I still earn around $4,000 per year for about 2-4 hours of work. The biggest drawback is it takes time to get your first payment (typically about 2 months). 

The reason I pulled back is time. Yes, the money selling tradelines is really good, but I also have a tax practice, this blog and more people than I can count who want consulting services. Selling tradelines is about the easiest way to make side money I ever saw, especially if you only want a couple thousand extra for fun money. Tradelines would not be a good option if your goal is $50,000 per year. However, when I worked it hard in the beginning I did approach $30,000 the first year. For a modest effort it is possible to earn $10,000 per year and more.

 

Consulting

Consulting needs clarification. Making money consulting is different than coaching (another possible idea I will not cover) and requires a narrow niche to do well. 

There are plenty of people selling coaching/consulting courses on social media that basically tell you to do what they are doing. That is not consulting! At least not a kind of consulting that adds value and is worth buying.

The trick to successful consulting is focusing on one issue. For example, I consult on tax issues. That makes sense. I run a tax office and stay up-to-date on the tax laws. Of course my consulting services expand beyond the original topic. People ask about investments, retirement planning, legal issues, starting a business and even personal problems. Many times I’m qualified and comfortable expanding the scope of the consulting agreement. Retirement planning and business issues rise to the top. Legal issues I defer to an attorney. Personal issues many times require a professional social worker or medical professional. When possible, I try to help the client find the appropriate professional. 

Consulting done right is very profitable. A 6-figure income is not unheard of. Focus if the key. As I write there are several new tax laws to stimulate the economy. Just that one topic will keep you busier than you want if you choose to focus on it. Businesses and individuals are in desperate need for quality consulting and accounting firms like mine can’t handle all the work. BTW, I turn away over 90% of consulting requests because there are not that many hours in a day. Consulting is a good business.

Remember, focus if you want a consulting side gig. You don’t want to and can’t be everything for everyone. 

 

Elder care services is a fast growing full-time or side hustle opportunity.

 

Elder Care

Demographics provide the direction jobs are going. An aging population is going to need more services for the elderly. As you will see below and in the first bonus, elder care is not about working in a nursing home. 

People want to stay living in their home. They want their independence. It is cheaper for families and communities to give as many people as possible the option of living at home. 

Elder care extends to the disabled. Mrs. Accountant works for a company very part-time helping an elderly couple and a disable man. She cleans their homes, cooks meals and runs errands for them. She works less than 15 hours per week. It’s something Mrs. Accountant wants to do and she enjoys it. Of course you can work more hours if you want.

Clients are found one of two ways. Most counties hire, along with private companies contracted through state or local agencies. You can also provide cleaning, cooking and shopping services outside government supported programs. 

It is easiest to work through a company handling all the back office work or government agencies. For part-time work you can add $10,000 or more to your income in a year without working long hours. You can also choose your own schedule.

 

Gardening

Do you like working outdoors? Growing a garden? Did you know you could get paid to garden?

This unique side gig is overfilled with benefits. You get to work outdoors during the summer months doing what you love most and get paid for it.

It is a seasonal job, however. Where you live determines the scope of your gardening side hustle. Northern areas have a shorter growing season. Southern areas might include planting fruit trees. It all depends where you live.

Here in NE Wisconsin I have three clients who help people who can’t handle all the gardening chores. There are farmers outside the Fox Cities with plots divided in a field people can rent to garden. One of my clients helps elderly people by driving them to the garden plots and helping them with the gardening chores.

Best of all is that most gardens provide more produce than the client can eat so you get a wonderful supply of fresh fruits and vegetables as they come into season.

 

Lawn Care

There is a theme forming in this list. Lawn care services for those folks who want to stay living in their home, but can’t handle pushing a lawn mower are ideal clients. 

Don’t forget businesses! Business owners and landlords are always looking for high quality lawn services at a reasonable price. My office pays to have the lawn cut.

Lawn care is more than clipping lawns, too. Dealing with weeds and fertilizing lawns is also part of the deal if you want. There are also plenty of opportunities for light gardening work here as well, though many times it involves working flower beds. rewarding work that also fills in for healthy exercise, too.

 

Tax Preparer

I have encouraged this side hustle for years. There are an army of people pulling $10,000 per year and more working part-time seasonally.

Once again there are two ways to address this opportunity. First, you can run it as your own small business. A 15-minute presentation at a local Optimist Club or apartment association and you will have more clients than you want unless you want a very full-time business. 

The second way to earn a hansom income in spring is to work for an established tax office. Tax offices are always looking for good seasonal employees. (God, don’t I know it!) Not every tax office is for you; choose which fits best. There are the low cost tax offices where basic returns are prepared. If you can run a computer you can handle the returns they prepare. As your skills grow you can work at more traditional tax offices and CPA firms. Starting wages generally are $10-$17 per hour, depending on the part of the country you are in. Office like mine and CPA firms frequently pay people with tax experience $20 per hour and up. Very experienced preparers can demand $50 or more per hour. Not bad for part-time seasonal work.

For readers in the northern climes this is perfect. When the snow melts and you feel like running around outside tax season is over. 

 

Dog Walking

Mrs. Accountant enters again. The same elderly couple who has Mrs. Accountant buy groceries for them also has her walk their dog. Coco the dog, I am told, goes wild when Mrs. Accountant arrives. He is so excited to go for a walk with his human.

Mrs. Accountant wears a lot of hats when performing elder care services. However, there is no reason you can’t focus on a narrow niche. Dog walking is getting to be big business. If you love animals I can’t think of a more rewarding side hustle.

And the pay can get very generous.

 

Pet sitting and dog walking are high paying side gigs you can do on your own schedule.

 

Pet Sitting

If you enjoy animals and walking outdoors, dog walking is for you. Married to that side gig is pet sitting. The demand for pet sitting services is massive and growing, at $440 million in 2017. 

There are several avenues to earning extra coin in this hustle.

First, you can pet sit at the pet owner’s home. Second, you can provide pet sitting in your own home. This option does require the space and the ability to have pets in your home or apartment. Third, you can work part-time at a pet sitting service or kennel. Generally the pay is low, but getting paid anything to pet cats and dogs and feed them is beyond awesome.

Finally, humane societies and shelters are always looking for help. Again, this is a low wage route. But if you love animals and there is no other option available, this can be the perfect option to earn some extra income on your schedule doing something you love.

 

Bonus #1: Friendship Service

In 2019,  36.48 million Americans lived in a one-person household. That is a lot of lonely people. Many are older and have lost a spouse or significant other. Many times they have no surviving family. Some suffer disabilities.

Loneliness is an extremely painful experience you can resolve by providing a friendship service. There are clients in my office who spend 10 or so hours a week visiting their client just to talk. Sometimes they need help finding someone to help with a household need, such as hiring a plumber, or for repairs to their home. 

Usually all they want is someone to talk to. Local social services sometimes cover the cost of friendship services, other times not. The work, obviously, is not hard, but it is important. Not only are you providing human contact to people alone, but are also visiting to assure they are safe and healthy. 

As our society ages and people have smaller families, friendship services will become more and more common. At this time demand far exceeds the supply of people willing to be a friend. I can’t think of a better way to earn some extra money than by providing a ray of sunshine to the life of a wonderful human being.

 

Bonus #2: Tutoring

I have a large number of clients (and my oldest daughter) earning a good income tutoring. There are several levels you need to consider with this hustle.

Tutoring can be a work-at-home business with all the tutoring done online. You can focus on local primary and secondary students or college kids. There are numerous online options for tutoring. I have a client who teaches at the local high school and also teaches (not technically tutoring) at several online schools. His income is well into the 6-figures. 

Companies that offer tutoring services are also a good place for a part-time side gig. It can turn into a full-time job if that is your desire, or it can remain small, falling within our discussion of earning $10,000 per year.

My daughter tutors online, but also meets with students at the local library. She works closely with the parents and the teachers so she can provide the best help. In these cases the parents pay the tutoring fee. Generally, the parent pays for a package of 10 tutoring sessions at a time. It doesn’t take many of these to start earning some generous side money.

Teaching English as a second language is in high demand. My oldest daughter traveled to China for a year to teach. She lived with a host family and was paid by them as well. It has been a highlight of her life. She is now working to teach/tutor not only in the US, but in countries around the world online. 

Group tutoring is also an option in all these situations. An important point to consider, if you want to be successful tutoring, is to focus on the kind of client you want to serve. My daughter has a few local clients she tutors, but her passion is to tutor children around the world. Being everything to everyone is usually a recipe for failure. Focus on the type of student you want to tutor and you will find tutoring a rewarding side hustle providing a nice income. You can always change your mind on the kind of student you wish to tutor.

 

Our 10 ideas turned into 12 way to earn an extra $10,000 or more this year. Extra money is always nice, filling the vacation or holiday fund. Or invest it for long-term income stream. No matter what the economy does there are always opportunities to earn extra money doing things you enjoy. 

Do you know side hustles I haven’t mentioned that pay $10,000 or more per year? Do you have experiences with the side hustles I mentioned? Please share them in the comments section below. Thank you. 

 

 

More Wealth Building Resources

Worthy Financial offers a flat 5% on their investment. You can read my review here. 

Personal Capital is an incredible tool to manage all your investments in one place. You can watch your net worth grow as you reach toward financial independence and beyond. Did I mention Personal Capital is free?

Medi-Share is a low cost way to manage health care costs. As health insurance premiums continue to sky rocket, there is an alternative preserving the wealth of families all over America. Here is my review of Medi-Share and additional resources to bring health care under control in your household.

QuickBooks is a daily part of life in my office. Managing a business requires accurate books without wasting time. QuickBooks is an excellent tool for managing your business, rental properties, side hustle and personal finances.

cost segregation study can reduce taxes $100,000 for income property owners. Here is my review of how cost segregation studies work and how to get one yourself.

  • The large number of new programs for small businesses is causing choice overload.
  • Tax professionals and small business owners are confused by the conflicting guidance from the IRS.
  • The Employee Retention Credit (ERC) could be worth more to a small business owner than a Payroll Protection Program (PPP) loan.
  • Business owners are focusing on the forgivable PPP loans and forgetting about the possible better value in the ERC where you do not need SBA approval.
  • Time is running out for small business owners to make a choice before some benefits are lost forever.

 

In 1970 Alvin Toffler introduced us to the concept of overchoice in his book Future Shock, where many people freeze instead of taking action when offered too many choices. Choice overload has been studied extensively over the past decade with the evidence overwhelming that more choices does not lead to better results. Rather, too many choices makes people less happy. And worse, causes many to do nothing even when any action would be preferable to doing nothing at all. 

Too many choices can cause you to make the worst choice of all: doing nothing.

While choice overload is a common discussion in investing circles, overchoice is rearing its ugly head again with the CARES Act and other stimulus measures to deal with the pandemic. Seasoned tax professionals are challenged by the new programs and the IRS and Treasury Department have been less than helpful in their guidance, changing the rules time and again. 

Overwhelmed small business owners and tax professionals stunned into inaction need to snap out of it fast. Many of these programs have an expiration date. Businesses need to access these resources while they can — even if they don’t have a current need — so the funds are available when they are needed later in the year.

This article will focus on the Employee Retention Credit (ERC) and how it relates to other stimulus programs. Unlike the PPP where loan forgiveness is based upon set factors, the ERC is a tax-free credit that never has to be paid back. 

Business owners are focusing on the forgivable PPP loans and forgetting about the real value in the ERC, where you do not need SBA approval. Just because you qualify for a PPP loan does not mean it is the best course of action. Some business owners may want to return the PPP loan in favor of the ERC. 

 

Qualifying for the ERC

The best way to determine if the ERC is a better option for your business we will need to review the details of the ERC program and then compare those details to various features of the PPP.

Here are the general facts of the ERC:

  1. The ERC is a refundable tax credit of 50% of the first $10,000 of wages per employee, including health insurance benefits paid by the employer. The maximum credit is $5,000 per employee. Wages from March 12, 2020 to December 31, 2020 qualify.
  2. The ERC applies to any qualified business in operation in 2020. For the ERC, the business must have had full or partial suspension of operations at any time during 2020 or Point #3 below. This is probably an easy hurdle to jump because current IRS guidance states that limited group meetings or travel would satisfy this requirement and most states have limited these activities.
  3. A qualified business must experience a greater than 50% decrease in gross receipts unless the business qualifies under Point #2 above. The ERC starts the first quarter of 2020 that gross receipts are below 50% of the 2019 gross receipts for the same quarter and continues until gross receipts are greater than 80% of the 2019 gross receipts of the same quarter, or until the end of the fourth quarter of 2020, whichever comes sooner.
  4. For employers with an average of 100 or fewer full-time employees in 2019, qualifying wages are all wages paid as outlines in Point 1 and 3 above and 5 below. If the employer has an average of more than 100 full-time employees in 2019 the credit is limited to wages paid to employees while not working. Wages must be no more than the equivalent amount paid the 30 days prior to the suspension or reduction of services. Full-time employees are defined as employees who average 30 or more hours per week or average 130 or more hours per month.
  5. Employer paid health insurance premiums not included in employee’s income are included in qualified wages.
  6. The ERC is taken on Form 941 starting with the second quarter of 2020. The IRS, as of this writing, has not issued an updated Form 941 to reflect this credit. You can check here for the most current Form 941.
  7. The credit reduces the employer’s payroll taxes to zero before becoming refundable. 
  8. Any credit over the payroll taxes reported on Form 941 are refundable. 
  9. Employers can apply for an advance refund of the ERC, sick and family leave credits on Form 7200. 
  10. An employer needs to decide between a PPP loan and the ERC, as both are not allowed for the same employer.
  11. Sick and family leave credits are allowed along with the ERC, but not on the same wages.
  12. The ERC does not cover self-employed income (sole proprietors filing on Schedule C). However, wages paid to employees of a sole proprietor do count, except for related individuals. Wages paid to employees of a partnership qualify (except for related individuals again), but not guaranteed payments to partners. Wages to owners of regular corporations and S corporations with a direct or indirect ownership of greater than 50% do not count. Household employees also do not count for the ERC.
  13. The ERC is not included in income for the employer or employee.
  14. However, the IRS currently states that the amount of the ERC reduces the amount of the employer’s deduction allowed by a similar amount. Note: This matter is not settled as Congress may change this requirement and some tax professionals disagree with the IRS’ position. If Congress does not act, expect this issue to be litigated in Tax Court.

 

The coffee house, the perfect gathering place to share good times with friends.

 

Maximizing the ERC Benefit

In most cases the PPP will be a better option for the small business. However, there are a variety of issues where the ERC is either the only choice or the preferred choice. In my office I consult with a large number of business owners. In nearly all cases the result was that the PPP was the preferred route when available.

Under the PPP the owner’s wages are included. This is a significant advantage. Under the ERC owner’s wages are specifically excluded, along with wages paid to related individuals. 

Another serious issue with the ERC is determining if gross receipts are less than 50% of 2019 gross receipts of the same quarter. Early in 2020 gross receipts were probably little changed. If businesses reopen this test could be failed for future quarters as well. IRS guidance says we can claim the ERC if we later discover we would have qualified by filing an amended Form 941. However, a business should know their gross receipts shortly after a quarter end so the ERC should be taken as soon as it is determined you qualify.

But is there a claw back if the economy (and your business) have a spectacular comeback later in 2020? Not really. Once your gross receipts exceed 80% of 2019 gross receipts you no longer qualify for the ERC. Therefore, once business activity exceeds the threshold you should no longer claim the ERC.

PPP loans are forgivable in whole or in part. When consulting with clients I found that if wages would reach at least half of the PPP loan, the PPP loan was superior to the ERC. Since wages of owners are included with PPP loans it is much easier to allocate the entire loan to wages. 

If the PPP is superior to the ERC, who should use the ERC?

If you have been denied a PPP loan your next course of action is to determine if you can still get some refundable credits with the ERC. 

Another possibility where the ERC is better than the PPP is when the small business has a lot of part-time employees. Since the ERC is 50% of wages up to $10,000 — the maximum credit is $5,000 per employee — there are situations where the ERC provides a better result than a PPP loan when many part-time employees are involved. Therefore, if you have a lot of part-time employees with low wages the ERC could be the better option. The only way to determine if the ERC is better is to put a pencil to paper for your specific situation. Be aware you still need to qualify for the ERC as stated above, such as a required full or partial shutdown at any time during 2020 and gross receipts less than 50% during at least one quarter of 2020 over the same quarter of 2019.

I suspect IRS guidance will soften on many of the issues surrounding the PPP and ERC. Businesses already struggling would fail in large numbers if the IRS takes a hard line approach. I doubt Congress would tolerate such action. 

A large number of business owners have avoided the many benefits the government has offered in these trying times. The large number of choices has led to a perfect example of people’s behavior when confronted with too many choices. Even tax professionals are struggling to understanding all the different programs. Alvin Toffler’s overchoice is clearly hampering small business owners. Too many options reduces the number of businesses that will apply for any, even if they qualify. That is the biggest risk facing the American economy in 2020. If business owners shy away from programs designed to help them through these unique times more will fail, costing jobs and long-term damage to the economy and harming America’s competitiveness. 

I encourage you to discuss your situation with a competent tax professional. Yes, the IRS is still playing with the rules because they haven’t figured it all out yet themselves. But you can still plan accordingly. Whether a PPP loan or the Employee Retention Credit is best for you, you owe it to your employees, community and yourself to explore all the options.

 

More Wealth Building Resources

Worthy Financial offers a flat 5% on their investment. You can read my review here. 

Personal Capital is an incredible tool to manage all your investments in one place. You can watch your net worth grow as you reach toward financial independence and beyond. Did I mention Personal Capital is free?

Medi-Share is a low cost way to manage health care costs. As health insurance premiums continue to sky rocket, there is an alternative preserving the wealth of families all over America. Here is my review of Medi-Share and additional resources to bring health care under control in your household.

QuickBooks is a daily part of life in my office. Managing a business requires accurate books without wasting time. QuickBooks is an excellent tool for managing your business, rental properties, side hustle and personal finances.

cost segregation study can reduce taxes $100,000 for income property owners. Here is my review of how cost segregation studies work and how to get one yourself.

 

Open for business.

It is said we stand in preparation to fight the last war. It never plays out as planned and the war of the prior generation is ultimately not the war of the present.

Economic crises are cut from the same cloth as war. We prepare for the prior economic calamity with significant resources. Then, when we least expect it, a new threat rises and brings the best laid plans of men to dust. 

We are presently experiencing a crisis like never before. A pandemic has swept the planet and threatens to keep circling the globe in waves of slightly different variations man has no natural immunity against. Knowing we have prepared for the last war, the pillars built after the financial crisis of 2008-9, is meaningless. Man has experienced pandemics before, even more deadly contagions than the current infection. But economically, we will have to venture further back in time for an equivalent.  And when you mix the two together it becomes a crisis unrecognizable.

President Herbert Hoover

Fearful we will make the mistake of preparing for the wrong confrontation, we quickly shift our focus from the prior economic crisis of a decade ago and focus on the pandemic of 1918-9 and The Great Depression of the 1930s. 

Except even that isn’t the same on virtually all levels. Never before has the stock market collapsed so fast from an all-time high to a bear market (a 20% or greater decline). The prior record from The Great Depression has fallen handily. 

The death toll is lower today than the pandemic of 1918-9. So far. It is fear that drives us. In a knee-jerk reaction we shutter large swaths of the economy, leaving only those industries we consider vital, functioning. The wheels of industry ground to a halt until the world stopped. All is quiet on the Western front, a front that covers the whole of mankind.

Fear controls decisions — and if you have control of your fear — others will manipulate your activities as if you acted on your personal fears. The disease is not the worst and modern medicine is containing the damage. It is worrisome, but it seems man will conquer the new scourge in a reasonable amount of time. Then, life can return to normal.

Or can it?

Healing the sick and preventing illness will prove the easy part of this theatrical presentation. The damage already done to the economy is massive. Many businesses, large and small, will not return. The question remains: Is the the next Great Depression?

It is dangerous to say this time is different. Fortunately it is already different so there is room for hope. 

And, before we point out why this is not the next Great Depression, we can thank the gods that be we had The Great Recession of 2008-9 as a dress rehearsal. For without that economic nightmare, we might never have had the courage to use the tools necessary to make this time different in a better way.

 

A History of Economic Collapse

It is acceptable banter in polite company to say this is the worst economy since The Great Depression or the economic consequences will be worse than The Great Depression. But the story starts before that great economic event, and Herbert Hoover was instrumental in the solution. 

During World War I, The War to End All Wars, Herbert Hoover earned the nickname “The Great Humanitarian.” As Europe descended into war, Hoover organized the largest relief effort in history. With tireless effort he secured funding for resources to feed the civilians on the Continent. Even after the war he worked to stabilize the destroyed nations on both sides of the battlefield.

President Wilson turned to Hoover to head his Food Administration. Hoover labored hard to bring 120,000 Americans home when they were caught unprepared in Europe as war broke out. Then he fed Belgium, a nation controlled by Germany, an enemy of the U.S. in that Great War. Hoover manged to feed millions while keeping America’s soldiers well fed at the same time. A delicate balancing act at best.

After the war Hoover headed the American Relief Administration, feeding 20 million in Central Europe. A devastating pandemic took hold during the later days of the war. As soldiers returned home they brought the deadly Spanish Flu with them. 

In 1918-9 the government closed businesses and churches to fight the pandemic. Face masks were required in many communities with harsh penalties for failure to comply. The shelter-in-place policies of today were not part of the strategy in fighting the Spanish Flu in the same blanket manner applied in early 2020. 

After the war the stock market enjoyed a relief rally. Businesses grew tepidly, if at all, as a war hangover recession loomed. The reduced war spending eventually affected economic activity. Though not spoken about often historically, the recession of 1920-21 is the result, in part, from the efforts to combat the pandemic of a few years earlier. 

President Harding tapped Hoover for his Secretary of Commerce. A recession that began in January of 1920 and ran until July of the following year was especially deep. Research conducted by Robert Barro and Jose Ursua indicated the Spanish Flu reduced worldwide economic activity by 6-8%. 

Herbert Hoover proved up to the task of defeating this deep economic decline of the early 1920s. His work led to the booming economy in the decade ahead. 

 

It has never been a good bet to bet against America.

 

The Great Depression

If ever there was a president up to the task of defeating an economic crisis it was Herbert Hoover. President Hoover was concerned over the wild speculation on Wall Street. A nasty tariff fight in Congress spooked the markets and caused sharp declines, but quickly recovered each time in early and mid-1929. Then the wheels came off. 

On September 3, 1929 the Dow Jones Industrial Average hit a high, a level it would not see again until November 23, 1954. What started slow turned into a steamroll. In October 1929 it was free fall.

But the economy seemed sound by many measures. The stock market was down much more than economic activity would dictate. This started a process of efforts by President Hoover that never seems to work.

One measure after another was tried. Fear the solutions (usually involving more government debt) would exacerbate the problem caused President Hoover to use only half measures. Tax cuts were on the table, but not too many so as not to sink the national debt into the unknown abyss. Increased government spending was also on the table, but once again, only in half measures as to at least pretend fiscal constraint was being applied.

Hoover’s ideas were exactly what the nation needed to exit The Great Depression early, if only the president could have seen clear to unleash the dogs 100% in battle against the economic disaster unfolding. FDR, once in office, used virtually all the programs proposed by Hoover. FDR used greater flare to describe his programs and gave them different names. FDR also did not hold back. The national debt ballooned like never before. It was different that time.

Yet, even President Roosevelt could not go all-in. FDR’s programs started the economy rolling again, but not to new heights. And after a period of growth he increased taxes to reduce the deficit, triggering the second phase of The Great Depression in 1937. A quick learner, FDR saw the economy stall and stepped on the gas again quickly. There seemed no end to the deficit spending.

It took another world war to open the spending gates wide enough to permanently end The Great Depression. In 1946 the federal budget deficit exceeded 26% of GDP. This may stand as the largest imbalance in the U.S. government’s history.

 

2020 Is Not the Next Great Depression

This time is different is the battle cry of the unenlightened. History may not repeat, but is tends to rhyme. My good buddy Samuel Clemens once told me something along those lines a long time ago. However, every once in a while, it is different. In short, there always has to be a first time for everything.

By many economic measures the economy is taking it on the chin worse than any time in modern history. The stock market collapse is faster than 1929 or 1987. Thirty million are out of work in the first month of the pandemic and counting. Many businesses were forced to close and many never reopen due to the financial shock to their budget. 

There is another difference nobody wants to place front and center. Unlike the early days of The Great Depression, the government stepped up with all canons and fired fast and hard this time around. Even during the Great Recession of a decade ago Congress dragged its feet on how much stimulus should be provided the economy. 

This is the greatest time is history to be alive. What mankind is accomplishing was unthinkable a mere decade ago.

Unlike The Great Depression and with lessons learned from a half generation ago, the Fed dropped rates to zero instantly and reignited quantitative easing on a scale unthinkable a decade ago. Congress passed, and the president signed, stimulus bills at lightning speed. Trillions of dollars were pumped into the economy with fiscal policy (government spending) and trillions more with monetary policy (Federal Reserve activities).  

Never before have so many economic weapons been brought to bear, not even in a wartime situation. Some snickered when President Trump said he was a wartime president. Not a personal fan of the current president, I still agree with him on this issue. It will take a war time effort and war time powers to right the economic ship.

The Great Depression spiraled ever downward as elected leaders provided ineffective levels of economic stimulus 90 years ago and the reluctant efforts of a decade ago led to anemic economic growth as the economy left the Great Recession behind. The just finished economic expansion had one of the slowest, if not slowest, starts in U.S. history. 

The willingness of leaders in Washington to spend whatever is necessary, coupled with the Federal Reserve’s willingness to use unlimited resources to counter the economic dislocation, make it impossible for economic activity to descend into the chaos of the 1930s. Stimulus checks to individuals and forgivable loans to small businesses will limit the damage. Make no mistake, the damage will be acute and will linger. That lesson was taught us by The Great Depression. WWII spending proved the path necessary financially to beat the economic demon into submission. 

More proposals keep coming forward. Nearly $3 trillion in stimulus spending is already passed and working its way into the hands of individuals and businesses. It is not enough and will run short. Congress knows it and keeps pumping more stimulus measures at every whiff of a slowing economy. How much more stimulus spending will come is anyone’s guess. All I know is nobody seems to want to rein in the excesses at this time. And that is probably a good thing. The 26% of GDP deficit in 1943 is only the worst year of many with large fiscal deficits in the early 1940s. The spending was insane back then and America thrived afterwards. With the money going into the hands of Americans (back then and now) there is no doubt in this accountant’s mind the economy will pass this painful speed bump reasonably quickly with far fewer casualties than if belated measures similar to 2008-9 were used; or worse, the reluctant policies of 1929-1932.

The stock market has enjoyed a healthy bounce off the initial bottom. Nobody knows if this is a bear market rally or the first leg up in a V-shaped recovery. As always, follow the advice from another buddy of mine, Warren Buffett: It has never been a good bet to bet against America.

 

What Could Derail the Stimulus Measures

The Fed dropped rates to zero, opened the gates to unlimited quantitative easing bond purchases and has extended the purchases far beyond Treasuries. It seems the printing press (creation of more money/increasing the money supply) has not caused inflation to increase by any discernible amount over the past decade. In fact, inflation has been stepping lower and lower since the early 1980s. 

Printing more money, if you will allow my use of the term, has not ignited inflation in recent decades. What always seems to be an unbreakable law in times past does not seem to be an issue at present. Reason says at some point more money will force prices higher. Where that point is nobody knows. Many economists expected it to be an issue by now. Since inflation never seems to rear its ugly head anymore, economists as less frightened by it. 

Perhaps the lack of fear over inflation is low because most have never lived through it or it is a very distant memory. 

If inflation should make an appearance it could be game over. This whole fantasy of stimulus spending with the Federal Reserve buying all the newly issued bonds with fiat money only works if inflation does not attend the party. 

SpaceX is taking us to the future.

The national debt is likely to pass $25 trillion this calendar year with more red ink on the horizon. We could be paving the groundwork for one of the richest economic booms in the history of mankind or a worldwide inflationary disaster of Biblical proportions. I lay odds on the former.

Inflation may increase for a short time as demand is high and supply is artificially constrained. Once the pandemic passes completely in a year or two (the virus fades into the history books like the Spanish Flu or with the advent of a vaccine) supply and demand should find an equilibrium.

I know people are scared. Scared of getting sick and of losing loved ones. Scared of not having enough to feed themselves or their family, shelter and care for their family. Scared their business will fail. There are so many things that can befall us. I am an optimist and a realist. Businesses will fail. People will die. It will not be all roses. But we, as a people, will survive and even thrive. 

New businesses will be started; jobs will be created. Families will heal and new friendships forged. Warren Buffett is right, America’s best days are still ahead. The same can be said of the entire human race, all peoples, from all nations. 

This time is different. It is also the same. And like every time tragedy struck in the past, humanity has survived, thrived, grown and reached higher afterwards than ever before.

I for one am glad I am on this journey with you, kind readers. We should never be afraid of making the hard decisions. It will not be as bad as The Great Depression because this will not stretch out for a decade followed by a world war. This will last a year or so at most with the worst happening this year. And the other side will be glorious as the resources to build new businesses that will travel to the stars and beyond as being created as we speak. 

That is the hope you and I both need to live through this trial. There is no one more than you I would rather be on this journey with. Godspeed.

 

 

More Wealth Building Resources

Worthy Financial offers a flat 5% on their investment. You can read my review here. 

Personal Capital is an incredible tool to manage all your investments in one place. You can watch your net worth grow as you reach toward financial independence and beyond. Did I mention Personal Capital is free?

Medi-Share is a low cost way to manage health care costs. As health insurance premiums continue to sky rocket, there is an alternative preserving the wealth of families all over America. Here is my review of Medi-Share and additional resources to bring health care under control in your household.

QuickBooks is a daily part of life in my office. Managing a business requires accurate books without wasting time. QuickBooks is an excellent tool for managing your business, rental properties, side hustle and personal finances.

cost segregation study can reduce taxes $100,000 for income property owners. Here is my review of how cost segregation studies work and how to get one yourself.

In April of 2011 a young Canadian man decided to share his philosophy on work, living life well and early retirement by publishing his first blog post. His message of fiscal responsibility and frugality landed with a thud at first. 

Prior to starting his blog and before claiming the early retirement mantel, our young hero moved to the United States. The first year of blogging was brutal. He published a massive load of very useful information without the traffic or revenue matching his efforts. 

And then it hit. The right message at the right place at the right time struck a chord and the Mr. Money Mustache blog was no longer an internet backwater blog, but on a destiny to change the world.

It is only proper at this point I provide full disclosure. I served as the tax preparer/consultant for the Mr. Money Mustache (MMM) blog and its owner, Pete Adeney, for a few years. It was in a conversation with Pete and his wife at the time that I learned the first year of blogging was not all roses for Pete.* The first post didn’t automatically attract traffic. That came later.

If you produce good material they will come, and so it was for our hero. Pete kept telling his story. It was real so it resonated. He retired at 30 by design. Of course, if you retire at 30 you do not necessarily spend the remainder of your life planted in a chair. And that caused the largest complaint Pete faced in his blogging career: that he really didn’t retire.

Once you reach a level of success there will always be a few who want to tinkle on your shoes. Pete was not exempt. Once retired, Pete entered into a partnership, starting a construction company with a friend. As so often happens with partnerships (ask any seasoned accountant), it went south. You can hear the story straight from the source. It wasn’t pretty. It also placed a real risk in Pete’s retirement plans.

Pete also bought a property to fix and rent. That went much better. Pete loves working with his hands and building stuff. Working on a property at a casual pace (to assure quality and avoid burnout), Pete manged to hone his carpentry skills. From a failed construction company, to a rental property to the MMM headquarters in Longmont, Colorado, Pete found the prefect path to engage his passion.

Then we come to the MMM blog. Pete once again filled his time with something constructive (pun intended). Retirement is not short-hand for death! Pete decided to share his accumulated wisdom. But some were not having it.

 

That is NOT Retirement!

It didn’t take long before it was pointed out Pete didn’t actually retire since he was running a business for a while, remodeling/renting out a property and kicking out a massive quantity of material on his blog. Some of his readers were calling BS. 

A certain wayward accountant from the Northwoods of Wisconsin noticed our hero about this time. When the two met Pete instantly took to this wayward accountant for about 15 minutes. As good fortune would have it, the sickness passed.

I love Pete’s work and philosophy of living the good life, financial independence and frugality. But when it comes to retirement we are about as far apart as any two people can be. The 15 minutes we connected was limited to such a short time due to my attitudes about retirement. 

Climbing to the top is worth the effort.

The good news is that neither of us are right for the entire crowd. Some want a Pete style retirement and some, like me, start a business doing what they like and refuse to stop. (What am I supposed to do? Something I like less just so I can brag I retired?) I sometimes wonder how things would have turned out differently if the partnership Pete had with his friend had actually worked out.

My argument with Pete’s philosophy was not about living a productive, meaningful life. Rather, I always felt Pete’s encouraging others to retire just like him had a timing issue. 

April 2011 was a really good time to retire. Pete actually retired a bit prior to that which made it an even better time to retire early.

You see, we had a financial crisis that smacked the economy and stock market around pretty bad in 2008-9. If you had enough money to retire at the market low I would be far more comfortable with you taking said retirement than with all the fine folks who followed in Pete’s footsteps who wanted to push the retirement envelope to the limit when the market and economy were on a sugar high. Retiring on the edge financially when the market is pulling 10 years of near straight-up gains is not the best idea.

 

The Best Time to Retire is Now

Right now, this very day, is the best time to retire since Pete took those same steps! If you have the resources to retire when things are down you have an excellent chance of staying retired. 

True, the economy is still declining from the pandemic while the market has regained much of its losses. And the market is likely to get cranky when the reality of the economic damage done sets in. Still, it is during these trying financial times when you learn if you really are ready for retirement, early or otherwise.

Pete found the sweet spot in picking his early retirement date; he just happened to be 30 at the time. Many considered it a challenge to retire younger than Pete without remembering Pete still maintained financially gainful activities. 

Retiring younger than 30 will take some luck. Skill is unlikely to get you there much faster. 

Many claim they have retired in their 20s, hoping to strip Pete of his early retirement mantel. Deep down I think they hope they will be bailed out by publishing a profitable blog before anyone notices the emperor is not wearing his skivvies. 

How would I know all this? Because people pay me a lot of money to talk to them about their personal situation. And the theme is recurring. I don’t think Pete has a full grasp of the effect he has on some people. They are not really listening to what he said. They pick what they want and forget the rest. It turns out as expected. 

If you have thought of retirement, now is the time you can practice the process. The pandemic has left many forced to deal with a retirement lifestyle whether they like it or not. It takes talent to have a meaningful day when there are no pressing demands.

Pete retired after the bottom of the economic collapse of 2008-9. It was the perfect time to make the transition. If you can do it when all your assets are at or near lows, the chances of retirement going as planned increases dramatically.

Maybe today isn’t the ideal time to take the early retirement you planned. But the day is fast approaching. The pandemic will pass, economic activity will increase and the market will travel to new highs. Beginning retirement when the economy is at the beginning stages of a bull market allows for the longest period of growth before your budget is seriously challenged with declining asset prices.

Disaster Planning

Many clients have bent my ear the last few months as the financial pressures have increased. Discussions of taking early Social Security, and the consequences thereof, are common. 

Another frequent discussion involves people who took retirement too early. Instead of following the Pete plan and building multiple sources of income, they retired as soon as they thought they could get away with it and took up traveling. That fantasy came to a screeching halt.

Retiring at 28 just to say you beat Pete to the finish line is insane! Some of these early retirees are now looking to reenter traditional employment and it isn’t by choice. 

When planning early retirement with clients I use a formula for determining if you are ready to retire, assuming you are mentally prepared. In my formula I ask clients to consider a really bad economic decline where the stock market declines by 50% and real estate is hard to sell at any price. I also assume a decline in rent, interest and dividend income. If we can map out a serious economic disruption and it is nothing more than background noise in your financial plans you are probably ready financially for retirement.

This should not be confused with what I do, which is never retire. My plan is to work at my preferred tasks (taxes, accounting, business planning and consulting) until my body can no longer cash the check. Not everyone has that luxury. I’m lucky I found what I love doing at a young age and feel compelled to keep doing it. 

Most people want a designated time in life where they don’t have the stress of a job or of running a business. Many want to travel or explore other avenues of living. Those goals are no less valid than mine.

What I am saying is that the two ends of the spectrum have Pete on one side and me on the other. There is a large amount of middle ground for you to consider. 

There is no competition! There is no prize for retiring younger than Pete! And for crying out loud, don’t try to be like me. God knows the world has a hard time dealing with one of me. 

Find your path. Pete and I have provided excellent templates for the extremes. Finding what fulfills your life is what is important. You only live once; don’t waste it.

If you have been planning, saving and investing for retirement — and getting close — now is the time for a serious look at taking that step. Today (the day I’m publishing this) might not be the exact perfect day to pull the trigger. But the sweet spot is coming soon; probably within a year to year and a half at most.

There will be no bragging rights if you planned wisely and are now ready to make the transition. If the numbers still work when the markets finally move on from the current economic issues, you should be ready for a smooth entry into retirement.

There will be no excitement, but that is what you are trying to get away from in the first place with traditional work.

 

* As an insider I cannot share everything I know as it is confidential. Friends of Pete will know I have left out parts, as I should. The important parts for this story are all publicly available so I mention them. The links to the MMM blog provide greater details if you want to know more. In some cases there are multiple blog posts, but I don’t link to all of them. I leave it to you, kind reader, to take a deep casual dive into the MMM blog if you already haven’t.

 

More Wealth Building Resources

Worthy Financial offers a flat 5% on their investment. You can read my review here. 

Personal Capital is an incredible tool to manage all your investments in one place. You can watch your net worth grow as you reach toward financial independence and beyond. Did I mention Personal Capital is free?

Medi-Share is a low cost way to manage health care costs. As health insurance premiums continue to sky rocket, there is an alternative preserving the wealth of families all over America. Here is my review of Medi-Share and additional resources to bring health care under control in your household.

QuickBooks is a daily part of life in my office. Managing a business requires accurate books without wasting time. QuickBooks is an excellent tool for managing your business, rental properties, side hustle and personal finances.

cost segregation study can reduce taxes $100,000 for income property owners. Here is my review of how cost segregation studies work and how to get one yourself.

Restarting the economy is going to be more difficult than it was stopping it. A vigorous discussion on the topic is desperately needed as many feel talking about opening the economy is akin to reigniting the infection rate when in reality the discussion is needed to formulate an appropriate and workable plan.

Talking about restarting the economy is good policy. Shutting down large swaths of economic activity was necessary for public health. And for the most part it was a fairly easy process: governors gave the order and their state ground to a halt as people sheltered in place, giving COVID-19 no viable path to propagate. The same happened around the world. It is The Day the World Stopped.

The spread of COVID-19 had slowed and in many countries has all but stopped. Concerns the virus is picking up steam where social distancing is relaxed is still a real risk. However, policies designed to slow the spread of the virus appear to be working. Multiple medical therapies hold promise and a massive effort to develop a vaccine are in progress. A vaccine would be a game changer, but realistically that is still as much as 1 ½ years away before it becomes available. The economic price would be too high, and the resulting harm to human health from lack of services, too damaging to wait over a year before reopening the closed parts of the economy.

Reopening the economy can begin in as little as a few weeks to a month if handled properly. Germany has made signs they are ready to slowly restart economic activity. China, the first to suffer the scourge, has already reopened much of its shuttered economy. The real question now is: How well will it work? If the virus takes off again it will set us back. However, if enough people have built an immunity while social distancing is still practiced, many parts of the economy can reopen.

Turning economic activity back on will not be like flicking a light switch. There are several issues when restarting an economy after such a brutal and abrupt stoppage. We will now turn our discussion to an appropriate and safe way to reopen a shuttered economy. Even more important than opening closed businesses is how to get money flowing again. If nobody shows up for the party we are no better off.

 

A Plan for Reopening Shuttered Industries

While it is true the current economic downturn may be the most abrupt (fastest) and deepest decline in modern history, it isn’t the first time an economy had to plan on restarting after such a shock to the system. The situation (and rules) are different from rebuilding after the destruction from war; the rules, however, have many similarities, albeit on a much smaller scale. 

After World War II, Germany and Britain were in ruins, along with much of the rest of Europe and Japan and other areas of the Far East. While a contagious virus wasn’t running wild, a plan was developed for rebuilding the destroyed areas. Without the Marshall Plan, Europe would have suffered much longer as they worked to rebuild. A similar reconstruction plan was instituted in Japan. 

We don’t need anything as drastic as a Marshall Plan today. But the lessons can still be learned.  For example, you didn’t start rebuilding a war torn Britain by investing in industries that heavily rely on infrastructure before the infrastructure was funded and well on its way to becoming operational. In other words, there has to be an order to the reopening of an economy. 

It can happen fast. The Marshal Plan was a 4-year plan to fund investment in rebuilding cities and industries, and remove trade barriers between European nations and those nations and the United States. 

We do not need 4 years to reignite our economy! Still, it will take time and it will not always be a smooth process. Prior to a vaccine for COVID-19 there stands a strong chance there will be pockets of infection flareups. Fear will be the common enemy.

It would be unwise to open everything at once. A step-by-step process will allow for the fastest opening of the economy without undue risk to public health. The real question is: What gets opened first, second and so forth and to what degree?

Step 1 

Before any plan can work social distancing must be practiced by the public until an effective vaccine is found, effective and fast testing is available or most people are inoculated. If enough people develop a natural immunity (prior infection) the same result can be achieved, if only over a much longer time frame and higher number of dead.

A requirement everyone wear a mask in public would also go a long way, if not very fashionable. Social distancing and a mask would reduce the spread of COVID-19 to such an extent it might not remain viable for long as it can’t keep finding new hosts.

A cheap, fast and easy way to test for those currently contagious would also allow for a faster opening of economic activity.

Step 2

The first businesses to reopen should be retail establishments. It is easy to practice social distancing at a furniture mart and therefore, these businesses should be allowed to open soon.

Certain service businesses can be opened at this time as well. The law office, bank and public buildings and parks all allow for social distancing without much inconvenience to people.

Factories and other manufacturing facilities can reopen along with service businesses and retail outlets. Safety policies might mean some factories run at less than full capacity, but they would be open and should be able to find ways to slowly increase business activity until fully operational, or nearly so.

Churches and other places of worship would also be some of the first places to reopen. 

Step 3

After an adequate waiting period (say two or three weeks) to determine the virus is not spreading faster again, it will be time to open even larger swaths of economic activity. 

This is where it gets difficult. Bars and restaurants really could use a return to normalcy. Unfortunately, large groups of people gather at these establishments and social distancing is extremely difficult. Unless a natural immunity or vaccine reduces risk, large gatherings are a serious threat to reigniting the infection rate. 

Instead, it might be proper to open salons. Social distancing is impossible in these situations; by design the hair stylist has to be close to you to cut your hair. However, a mask might be enough to solve the problem. Yes, the hair stylist is close to the customer when cutting her hair, but the room isn’t crowded tight with people. A mask and hand washing between clients could do the trick. (This is more important than you think! Do you want to now what our world would look like after people go a year without any hair care? Yikes!)

An accurate and fast way to test for those currently contagious would also facilitate a quicker opening of these businesses.

Step 4

As serious as the matter is, certain businesses need to reopen as some point. Gyms are a high risk place, but social distancing, frequent hand washing and sanitizing equipment between use should make it a viable solution to reopening our exercise centers. A fast, accurate and low cost testing method to reveal who is contagious would certainly allow for these establishments to open sooner.

Restaurants are next. We might limit the number of people in the room and require masks for all employees. (Kind of hard for patrons to eat while wearing a mask.) The same for bars. A reasonable plan would be to allow a certain number of people per area and slowly raise the density of people allowed per gathering as long as infection rates remain low.

Step 5

The hardest hit is the last to reopen. Concerts and sporting events pack people in too tight for proper safety with a highly contagious virus on the loose. Yelling and cheering at a packed sporting event all but assures you will face a high risk of infection if an infected individual is present. Sporting events with empty stands is an option, but there is something about a full stadium that makes the event serious, real.

Travel will also be among the last to fully reopen. Packing a plane is not the best idea when a highly contagious virus is on the loose. Proper precautions could be taken to reduce risk. Disinfecting after each use and masks on public transportation would make sense. Testing, when available, would allow for a full opening of economic activity even if a vaccine is not yet ready.

 

These steps do not have to take place in a vacuum. Fully reopening the economy could happen in a few months with most business activity functioning at a high level within 30 days. Accurate, fast and low cost testing would also speed the reopening of the economy. A vaccine would be the best option, but the economy will still need time to reset as it opens after such a shock. Things will not pick up where they left off.

We have learned a lot about COVID-19 so far. Treatments are getting better and more equipment is available. That reduces the seriousness of the infection. Even without a vaccine there will be a growing number of people with a natural immunity. As we discover how effective an immunity infection provides, we can also focus on how many have been infected without serious symptoms. At some point we need to know how many people already are not at risk due to immunity. Reinfection issues will need to be addressed.

It is growing clearer each day we can reopen economic activity without undue risk to human health. There are measurable risks to locking people down to prevent the spread of disease. At some point it is a better choice to take precautions while letting the herd out in the pasture.

 

Velocity of Money

The velocity of money is the gorilla in the room nobody is talking about. Opening businesses is only the first step. My guess is there will be a surge in business activity as the wildlife gets a whiff of fresh air. Then the economic reality of the family budget will bear down. 

The stimulus money will certainly help, but that money helped people muddle through the abyss. Some jobs are not coming back. Some businesses will not survive the assault inflicted upon them. There is no amount of money that will put things back exactly as they were.

Will back rent need to be paid or will landlords suffer the loss? Will all employees be called back to work? What about businesses that close? If tenants are forced to pay a backlog of rent it will retard tenants’ spending on other goods and services. If the landlord swallows the loss the landlord will be forced to reduce spending. Either way money will not move as fast in the economy. The same applies to employees not called back to work as their employer closed permanently. 

The same applies to mortgage payments and other loans. Will payments be pushed to the back of the loan? Regardless, the family budget is worse off. Many questions still need answering for a smooth re-opening of economic activity.

And will jobs still pay the same with higher unemployment? 

 

 

Bars and restaurants might get an initial surge of business, but not all industries will enjoy such a bump. Travel and entertainment take time to set up. Planning a concert takes time. The day the switch is flipped is not the day people have airline tickets to get away. People will start closer to home before venturing further. Planning a vacation will not happen instantly.

And some industries are of the trickle-down type. For Boeing to sell more airplanes, airlines need to book more passengers. The money flows downhill and Boeing is not first in line for a check.

The above chart shows a damning detail about the American economy. From 1960 to 1990 the speed at which money exchanged hands in the economy was static. The accelerating economic growth of the 1990s bumped the velocity of money a bit higher before coming back down in the early 2000s.

But ever since the Great Recession the speed that money changes hands has been slowing. Part of the issue is the level of the money supply. The Federal Reserve has not been bashful about increasing the money supply over the last decade. If people don’t increase spending at the same pace the Fed increases the money supply we see the velocity of money come down. Each new dollar the Fed dumps into the economy has less effect than the one prior. This is a form of spin-down and it always comes to an end at some point.

That has been a problem for the last decade. More and more money gets pumped into the economy, but it has had a smaller and smaller effect. Money just does not move the way it used to, even when more is pumped into the system. 

The third major bear market in 20 years might drop the velocity of money even lower. A vibrant, healthy economy has a strong velocity of money as money is earned, spent, saved and invested. For a decade we have seen money pumped into the economy and mostly it arrived with a loud thump. Most of the past decade of economic gains is attributable to public spending on the national credit card. Without this so-called stimulus, we had no discernible economic gains. I will leave it to you, kind readers, to determine if this is a viable long-term solution.

The real challenge is not the reopening of businesses; it is the reinvigorating of the movement of money. If everyone has a million dollars, but they all sit on it — none of it moving — there is still no economic activity, at least as measured by Gross Domestic Product which tracks how much money has been put to work buying goods and services. If the velocity of money slows even more it could be a very anemic recovery, indeed! Or worse.

The economic expansion after the Great Recession was slow by historical standards. It is also a likely reason it lasted so long since the excesses of too rapid of growth were avoided.

But slow growth is like watching paint dry or suffering water torture if you need a job or are working to build a business. If money isn’t moving it means it isn’t going to wages or small businesses either. 

The challenge is starting a national dialog on reopening the economy as soon as safely possible and developing plans to avoid an incredibly slow recovery, even slower than the 2009-2019 expansion.

It seems during my entire adult life (from the early 1980s) each economic expansion has started slower and was harder to accelerate. Interest rates have dropped for 30 years until we are now at 0% yet again. If the Fed creates more money, only to see the velocity of money slow more, there will be little value gained by future Fed actions. 

Maybe a Keynesian style government infrastructure spending program might do the trick. However, China has tried to do this every time they want to spike growth and the benefits are not all they desired.

I guess the Fed could print money forever without consequences and give it away as a basic income. I also have a bridge I’d like to sell you if you believe there is such a free lunch without consequences. 

I certainly do not have all the answers. I think my plan for opening the economy is sound with some modest tweaks by the powers that be. The real problems start when the economy is back open and it isn’t what we remember when we last saw it.

And we better start tossing ideas around because I think time is running shorter than anyone wants to admit.

 

 

More Wealth Building Resources

Personal Capital is an incredible tool to manage all your investments in one place. You can watch your net worth grow as you reach toward financial independence and beyond. Did I mention Personal Capital is free?

Worthy Financial offers a flat 5% on their investment. You can read my review here. 

Medi-Share is a low cost way to manage health care costs. As health insurance premiums continue to sky rocket, there is an alternative preserving the wealth of families all over America. Here is my review of Medi-Share and additional resources to bring health care under control in your household.

QuickBooks is a daily part of life in my office. Managing a business requires accurate books without wasting time. QuickBooks is an excellent tool for managing your business, rental properties, side hustle and personal finances.

cost segregation study can reduce taxes $100,000 for income property owners. Here is my review of how cost segregation studies work and how to get one yourself.

 

The Coronavirus Aid, Relief, and Economic Security Act (CARES Act) is the attempt by Congress to reduce the economic dislocation caused by the current pandemic. Taxes play a key role in the Act, along with several economic stimulus policies. 

Normally a new tax law requires time to figure out all the details. The Tax Cuts and Jobs Act (TCJA) of 2017 is still looking for clarifications on several issues, some of which are addressed in the CARES Act. COVID-19 had pushed economic decline into overdrive. The American economy has never declined at such a pace. Businesses and individuals went from good economic conditions to millions unemployed and many businesses forced to close. A draconian stimulus package was required.

The CARES Act is $2.2 trillion of federal stimulus. With no time to iron out the details, rumors are flying. Normally reputable sources of information are struggling to get facts out. Misinformation is rampant. This post, along with the accompanying Facebook Live event, will outline the facts as they currently stand. The facts might change is some situations. I will correct those errors in this post periodically so you have a reliable resource.  There are many instances where the only answer is: I don’t know. Because nobody does, even the people in charge of the programs. 

I broke this post into sections covering several of the most important points of the CARES Act. While I might touch on issues in the Family and Medical Leave Act (FMLA), it is not the focus of this post. This post has many links to reputable sources. Use them, as they will contain additional updated information.

 

Stimulus Checks for Individuals

A refundable tax credit is provided by the Act of $1,200 for individuals ($2,400 for joint returns). There is an additional $500 rebate for each child under age 17. 

There is a lot of confusion around who gets the recovery rebate and how much. 

  • First, Social Security recipients also get the rebate. The Treasury Department and the IRS got this wrong when they stated these people must file a tax return to get the rebate. The Act made it clear this was not required and after much drama the Treasury Department changed its positions; a tax return is not required.
  • Second, the rebate is not taxable income.
  • Third, the IRS will direct deposit the rebate into your bank account if you used direct deposit on your last tax return or Social Security check. Everyone else will get a check in the mail.
  • Fourth, direct deposit payments will begin the week of April 13th and continue until all who qualify get their payment. Checks will be mailed starting in mid-May and continue until all are issued. The IRS will use information from your 2019 tax return to determine if you qualify for a rebate (see details below). If you did not file your 2019 tax return, the IRS will use your 2018 return. If you file neither year, the IRS will issue the rebate once you file your 2019 return anytime during 2020. If you do not need to file a 2018 or 2019 return you can file a 2020 tax return where the rebate will be issued then if you qualify.
  • Fifth, the rebate is on the 2020 tax return to be filed in the Spring of 2021. The rebate is a refundable credit (you get the rebate even if you have no tax liability). If the IRS screws up and overpays you, you don’t have to pay back the over-payment. If the IRS underpays you, you get the remaining amount with your 2020 tax return.
  • Sixth, there is an issue involving children that might be rectified in a future bill from Congress. Children 17 and older and in college or school are still usually claimed on the parent’s return. The parent gets nothing (children under 17 are an additional $500 to the parent, $0 for those 17 and older) even if the child is in school or college, but if the child files their own return — and not claimed on the parent’s return — the child would get $1,200. There are several problems here. Technically, there are no dependents on a tax return since the TCJA. However, similar rules are still followed for education credits and the Child Tax Credit (CTC). It isn’t as simple as removing a child from the parent’s return. The child has to disclose on their return they are a Dependent of Another when they file. If the parent is providing more than 50% of their support the child cannot claim themselves. It is vital to review all the support rules. If your child provides more than half of her support they can claim themselves and probably qualify for a rebate. 
  • Seventh, if you owe back taxes you will still receive the rebate. The only exception to receiving the rebate is if you owe back child support. Back child support is first paid before any rebate is sent to you.

The rebate is based upon your adjusted gross income (AGI). Single taxpayers get the full $1,200 rebate up to an AGI of $75,000 ($112,500 for head of household; $150,000 AGI for joint filers) The rebate is reduced by $50 for every $1,000 of AGI above the threshold (the CARES Act actually says a 5% reduction for AGI above the threshold) until it is reduced to zero at $99,000 for single taxpayers without children ($198,000 for joint returns without children). The complete phaseout of the rebate is higher if you have a qualified child as the rebate is reduced $50 per $1,000 over the threshold, meaning you can have a higher AGI with children and still get a small rebate

Planning tip! While caution must be advised when it comes to not claiming a child in college when the child does not provide more than half of their own support, there is an opportunity for high incomers to plan their rebate.

If your income is over the phaseout level for 2019 — but not 2018 — it might be advantageous to wait until you get your rebate before filing your 2019 tax return. if the opposite is true (2019 income is under the threshold and 2018 is above) you want to file your 2019 tax return as soon as possible. The IRS will issue your rebate anytime during 2020 once a tax return is filed if one (2018 or 2019) was not previously filed or additional rebate is allowed. If both 2018 and 2019 are over the threshold you have one more chance to get the rebate. If your 2020 income is below the limit the unpaid rebate you qualify for will be added to the 2020 return.

Remember, if the IRS sends too much you do not have to repay it. 

Here is a calculator to estimate how much you can expect in your rebate check.

 

Tax Return and Estimated Payment Due Dates

This section is not in the CARES Act.

The Treasury Department extended tax season for 2019 tax returns until July 15, 2020. That means 2019 tax returns are now due July 15, 2020. Any balance due is due at that time without additional penalty or interest. Estimated tax payments are also due July 15th. That means the April 15th and June 15th estimated payments can be made as one lump-sum by July 15th without interest or penalty. 

 

Charitable Contributions

Prior to the TCJA the maximum deduction allowed for cash charitable contributions for individuals was limited to 50% of AGI. The TCJA increased this to 60%. The CARES Act increases this limit again to 100% for tax years beginning after December 31, 2019. In all cases, the excess charitable contribution is carried forward up to 5 years.

Corporations (regular corporations, not S corporations) move from 10% to 25% of taxable income as the deductible limit for charitable contributions, with the remainder carried forward up to 5 years.

The CARES Act also allows up to a $300 cash charitable contribution deduction above-the-line (if you do not itemize) for individuals. The $300 above-the-line deduction excludes donor advised funds.

 

Student Loans

Federal student loan interest and principle are suspended for 6 months, from March 16 through September 30, 2020. Private loans no not count! There are several exceptions. All Stafford loans, PLUS loans for educational costs (instead of for tuition), consolidation loans under FFEL and Perkins loans.

Suspended payments will not hurt your credit. Interest will not accrue during this time either. Automatic payments are cancelled. To make a payment anyway, it will need to be done manually. Payments during the suspended period are applied to already accrued interest first and then principle. If financially able, making student loan payments on federal loans will pay down the loan faster as interest is not accruing for 6 months.

There is also a provision for employers to pay up to $5,250 annually of an employee’s student loans tax-free. This provision applies to payments made from March 28, 2020 to December 31, 2021. This cap includes other employer provided educational assistance. This might be a powerful tool to reward employees for 2020 and 2021.

Note: Some of the student loan material came from sources I trusted mostly. However, I was unable to verify all the material. I will update soon when I can verify this information with certainty..

 

Unemployment Benefits

For those impacted by COVID-19, funding has been provided for unemployment benefits, even if you exhausted state unemployment benefits or normally do not qualify for state benefits (self-employed, excluded members of a small business, etc.) These benefits run from January 27, 2020 to December 31, 2020.

There is also an additional $600 per week for up to 4 months, along with state benefits. Once state benefits expire, an additional 13 weeks of unemployment benefits are funded by the federal government.

All unemployment benefits are managed through your state’s unemployment office. My office has heard from clients some states are not up to speed on this yet. It may take persistence to get all the benefits you qualify for.

 

Required Minimum Distribution

The required minimum distribution (RMD) are waived for 2020.

 

Retirement Plan Distributions

Retirement plan distributions prior to age 59 1/2 face a 10% penalty in addition to the income taxes on the income. The CARES Act allows individuals to take a distribution of up to $100,000 from a qualified plan without the 10% penalty. The income tax on the distribution is still subject to income tax, but can be paid 1/3 each year starting in 2020. If the distribution is coronavirus related the distribution can be repaid to an eligible retirement plan within three years to avoid the income tax on the distribution as well.

Some states also have an early retirement plan distribution penalty (i.e. Wisconsin). The state penalty usually reflects the federal penalty. However, each state may treat this differently. Many problems can exists if the state of your residence does not follow federal law. For example: Your state may subject distributions to income tax in the current year. Later repayments to a qualified plan might be treated as an excess contribution on the state level. It is vital you discuss these issues with a competent tax professional before using this provision of the CARES Act. There are many considerations from a state tax standpoint beyond the federal CARES Act.

 

SBA Economic Injury Disaster Loan Grants

Small businesses have many tools from the CARES Act to deal with financial problems stemming from the coronavirus. My office was inundated with calls about the $10,000 grant provided to all businesses. Actually, this is technically a loan grant that is forgiven and is not added to income when it is forgiven.

Clients calling about this are right. Most small businesses will qualify (I think). The question is: How long will it take for money to arrive? Your guess is as good as mine. I think it is a good idea for all businesses to file an online application found here

Will everyone who applies get $10,000? Probably not. But many, even most, probably will.

The $10,000 is really “up to” $10,000 and treated as an advance. So don’t start spending before the check arrives. It could be weeks or months before funds arrive.

 

Delayed Payment of Employment Taxes

Employers can delay payment of the employer’s portion of the Social Security payroll tax. This does not apply to the Medicare portion of the payroll tax. 

As a recap: Employees have 6.2% withheld from their wages up to the cap for that particular year. The employer forwards this to the government, along with another 6.2% as the employer’s share of the payroll tax. It is the employer’s portion only that can enjoy a delayed payment. All of the employer’s Social Security portion of the payroll tax from March 12, 2020 to January 1, 2021 can be delayed. Half (50%) is due December 31, 2021 and the remainder by December 31, 2022. 

Self-employed individuals can take advantage of the same delay of payment for 6.2% of their self-employment tax. 

Note: If you receive any loan forgiveness under the CARES Act, including the Payroll Protection Loan Program, you are not allowed to delay tax payments under this provision.

 

Forgivable SBA Loans

Now we come to the elephant in the room. These so-called forgivable loans are shrouded in concerns. Just as the Treasury Department changed the rules on if Social Security recipients must file a tax return, the department changed the rules at least once on the terms of these loans to small businesses

These SBA loans are handled through your financial institution. As of Friday (April 3, 2020) some banks opened for applications. Here is a sample application. Many smaller banks are not ready to accept application. Bank of America in an email to my office outlined their procedures: notably, you must have a lending and deposit history with the bank. I have heard other large banks are easier to work with. 

Applications will start being accepted April 10th for independent contractors and the self-employed.

Payroll Protection Program Loans (PPP) have many details. Rather than make this post any longer, I will refer you to an excellent article in the National Law Review. We will use the National Law Review article in the Facebook Live. The video will be inserted into this post at the conclusion of the event. (See the video above.)

You should also review the SBA page on the topic. 

Here a few highlights to consider. These loan are not guaranteed forgiven! Too many people calling my office think this is guaranteed free money. It isn’t There are many rules to follow before they will forgive the loan.

  • First, employers can receive up to $10 million for 2.5 months of average payroll expense, including health benefits.
  • Second, this is in addition to the $10,000 advance Economic Disaster Injury Loan. 
  • Third, it only applies to businesses with 500 or fewer employees.
  • Fourth, the portion of the loan not forgiven must be repaid over a term no longer than 10 years at an interest rate of 4% or less.
  • Fifth, the amount forgiven is limited to payroll, mortgage interest, rent, and utilities paid or incurred over the 8 week period beginning with the loan origination date.
  • Sixth, if you lay off employees or reduce wages between February 15, 2020 and June 30, 2020, the amount of the loan forgiven is reduced proportionally. 

You are strongly urged to speak with your lending institution you intend to secure funding through for this program. You will need to provide additional information when you apply for the loan. This program is not as easy as the Economic Injury Disaster Loan Grants application. 

 

Additional Resources

In addition to the National Law Review article linked above, I strongly recommend the following resources:

CARES Act Summary by Foley (Pay special attention to the Employee Retention Credit not covered in this post.)

SBA Bridge Loans

SBA Paycheck Protection Program

SBA Disaster Loan Applications

Ward and Smith Review

Text of H.R. 748 known as the CARES Act (Caution: As a bill works through Congress many ideas are floated. Only the bill that became law counts. News reports frequently discuss items that “might” be in the final law. Again, read the final bill that became law for an understanding of the provisions.)

 

Stay safe, kind readers.

 


 

 

More Wealth Building Resources

Personal Capital is an incredible tool to manage all your investments in one place. You can watch your net worth grow as you reach toward financial independence and beyond. Did I mention Personal Capital is free?

Side Hustle Selling tradelines yields a high return compared to time invested, as much as $1,000 per hour. The tradeline company I use is Tradeline Supply Company. Let Darren know you are from The Wealthy Accountant. Call 888-844-8910, email Darren@TradelineSupply.com or read my review.

Medi-Share is a low cost way to manage health care costs. As health insurance premiums continue to sky rocket, there is an alternative preserving the wealth of families all over America. Here is my review of Medi-Share and additional resources to bring health care under control in your household.

QuickBooks is a daily part of life in my office. Managing a business requires accurate books without wasting time. QuickBooks is an excellent tool for managing your business, rental properties, side hustle and personal finances.

cost segregation study can reduce taxes $100,000 for income property owners. Here is my review of how cost segregation studies work and how to get one yourself.

Worthy Financial offers a flat 5% on their investment. You can read my review here. 

  • Following the 4% rule is not enough when accumulating wealth.
  • The recent market decline brought on by the pandemic requires around a third more index fund shares to be sold to maintain spending patterns if you are in retirement and are fully invested at all times.
  • How much money you should keep in cash depends on where you are in the wealth building cycle. How close you are to retirement, or if you are in retirement, determines the appropriate level of cash that should be held.
  • The 4% rule fails too often if not coupled with appropriate cash levels.

 

Rules of thumb are an easy way to quickly see where you stand financially. Once you reach 25X your spending in liquid net worth (the 4% rule presented as a multiple of spending) you are assumed to have enough to retire under the 4% rule, regardless your age.

However, as we are seeing with the current market turmoil, the simple rule of thumb has one fatal flaw. If you reached your 25X goal a few months ago and decided this was the time to step away from traditional labor, you now face a withdrawal rate from your index funds a third higher than expected. This will reduce the account value early in the distribution phase, lowering the total amount you can get from the investment over your lifetime.

Another rule of thumb is to keep 6 months of spending in cash in case you become unemployed. Under a normal job loss or economic decline this would be a reasonable policy to follow. Unemployment insurance can provide additional cushion to the 6-month cash reserve.

Black Swan events (unexpected negative economic events such as the housing crisis or pandemic) throw the whole rule of thumb out the window. Black Swan events do not happen often, but they do occur every decade or so. Looking back at U.S. history, it seems something always happens every decade to knock the markets lower and slow economic activity. The 2010s are the only decade to avoid that fate and 2020 seems to be making up for the oversight.

Black Swan events are impossible to plan for, but you can manage your investments with the understanding something unknown will shake the market’s confidence every so often.  You can prepare contingencies to deal with unexpected market breaks, or take your chances and hope you get lucky… this time.

 

Determining Your Proper Cash Level

One of the hottest topics of discussion in consulting sessions with clients involves how much liquid net worth be held in cash. Emails and even social media requests from followers press on how much cash is the right amount of cash to keep on hand as a percent of investable money.

The 4% rule doesn’t consider a cash position. It just assumes you take 4% every year from your portfolio to live. If the market declines, the 4% rule says you either need to cut back on spending or risk running out of money before death. Cutting spending enough isn’t always possible. And when markets are down many goods and services become cheaper so you should be stocking up at these times.  The 6-months cash rule also falls short in many cases. A down market can last for years and selling at a low to fund living expenses is a painful exercise.

Where you are on your journey to retirement determines the amount of cash you keep on hand. Many times readers of this blog, and those who follow me on social media, think I am timing the market when I carry a substantial cash position. But that isn’t true. I have no desire, nor skill, at timing the market and do not waste any time trying to do so. I do, however, increase my cash position when the sun is shining and decrease my cash position when it rains. This isn’t a timing issue. As I near retirement and have substantial financial resources, I have no desire to maximize my returns. I already made it. No room for heroes anymore.

You are probably at a different part of the wealth creation cycle. Maybe you are older and well into retirement, collecting a pension and Social Security. Or just starting out.

The advice I give clients is based on their specific facts and circumstances. I will give you the same advice here based on where you are on your journey to retirement, early or otherwise. I will finish with my advice to clients already in retirement. You can use these guidelines to prepare for your retirement. Knowing the appropriate way to invest at each stage of the wealth creation cycle is helpful; looking to the next step in advance can be very motivating, knowing you will have plenty of financial resources once you do retire.

Before we start I need to define some terminology. When I say cash I mean money market accounts, bank deposits and CDs. Everything else is invested, meaning broad-based index funds, most notably Vanguard’s S&P 500 Index Fund (VFINX or VOO for the ETF) or the Vanguard Total Stock Market Fund (VTSAX). 

 

Starting Out: When you start out you have the fewest resources. Time is your best friend, however. The sooner you get money invested the sooner it can start growing. And time invested determines your level of wealth. Cash reduces the level of wealth years down the road, but keeps an unexpected expense from turning into a disaster that sends you back to square one. It is a delicate balancing act between investments and cash.

The problem with too low a level of cash is twofold. First, any minor emergency (flat tire, furnace repair, medical bill) and your financial plan is in crisis. Second, job loss or disability can destroy all the work done to-date.

Starting out is the riskiest place financially. By default you will be closer to the red line; income and savings are generally lowest when you are young and starting out. Six months of spending in cash is probably impossible. And if your employer matches contributions to your retirement account you need to find a way to contribute at least to the matching level.

If you are at day 1 you want to take a page from Dave Ramsey’s book (and workbook). His Baby Step #1 is to get $1,000 into a bank account for emergencies. It’s a good plan I agree with. If you have an employer retirement plan with matching, try to invest at least to the matching level as well. A good way to start is by adding $50 every paycheck or per month to your emergency fund until it reaches $1,000. When an unexpected bill shows up you have the funds to deal with the issue. Then start adding $50 or so each pay period to restore the emergency fund to at least $1,000.

The balancing act would be reasonable if all you had to worry about is building a reserve while you are earning starting wages. Add to that the expenses of starting out (furniture, transportation, home furnishings), a mortgage or rent and it can quickly become overwhelming. 

There is one advantage you have when starting out; you are young. With youth comes resilience. Starting a family, paying down a mortgage, building a retirement fund while working many hours to achieve these goals takes the vigor of youth. It can also wear you down.

Regardless your level of energy, financial problems can wear you out. That is why even a modest emergency fund, Dave Ramsey style, can be such a powerful tool to keep you on track. The real risk is job loss, medical issues and disability before you build your finances to a level where you can withstand larger financial assaults.

That leads us to the next level.

 

Building Wealth: You will spend more time at this level than the starting out phase. A $1,000 emergency fund really isn’t enough, especially as you grow older and medical bills have a greater chance of messing up your plans. Job loss is a strong possibility at least once in your working career. The 6-months of living expenses rule now comes into play. The truth is, 6 months still isn’t adequate. An extended economic decline can put you into a bad position where you are tempted to add more debt or tap into a retirement fund to pay for day-to-day expenses.

In the wealth building phase you want to secure your finances to withstand as much as possible. Many people don’t keep an official emergency fund once they build a modest net worth. (This accountant never had any funds earmarked for unexpected expenses.) However, that doesn’t mean you don’t have a tidy stash of money tucked away to get you through an income drought.

These are the priorities in the wealth building phase:

  • Pay down and eliminate debt
  • Build a cash reserve for surprise expenses and to tide you through a reduction in income
  • Grow your retirement savings
  • Invest outside your retirement account (non-qualified accounts)

There is no fast way to accomplish these goals, but there is an easy way. Consistency wins the race. Paying a bit extra each mortgage payment will eliminate the mortgage years early; every paycheck should add to your retirement fund in good or bad stock markets automatically; merge your emergency fund into your other non-qualified investments and make investments automatic.

I use Vanguard. You can use Vanguard or any similar investment house. Retirement and non-qualified investments will grow as the years peal away. The tax advantages of retirement plans are the best deal in America for the middle class. Adding to your retirement funds with each paycheck is about the easiest and most painless way to dollar-cost-average there is.

Once you fill your retirement account it is time to build some non-retirement funds. Non-qualified investments can be an appropriate surrogate for an emergency fund. A modest $1,000 worked when you were starting out. As you build your wealth $1,000 is inadequate; you are no longer interested in borrowing money to buy a car or anything else for that matter. You need larger sums of liquid money to replace a car or repair a roof. Investing in a broad-based index fund is the perfect way to grow your non-qualified monies. 

This is where common sense comes in. As you grow your non-qualified account some money will be held in a money-market fund or bank deposit. When a planned, budgeted or surprise bill shows up you will have the resources to pay the expense immediately. To reach this financial position you need to add consistently, just like with your retirement account. You can make the investment automatic in your non-qualified account, the same as with your retirement account. Set up automatic investing with monthly contributions. Part of each payment should go into the index fund and some into the cash portion of the account. When the stock market is acting like the world is about to end again, put most of the new money into the index fund. If you are uncomfortable with the high level of the stock market, put most (not all) of the new money into the cash account. It isn’t a crime to have a lot of cash! Sleeping well is better.

If the economy sours you can always move cash into the index fund. Once you determine your income is not at risk and will remain steady or climb, you can lower the cash position. This is more art than science. There is no exact level of cash you must have. Rather, if you feel uncomfortable, there is nothing wrong with sitting on the sidelines. In fact, the more wealth you have the less likely you want to be 100% in equities all the time. Cash is always nice because it gives you the opportunity to invest when the right investment comes along. It is hard to buy a cheap income property if you can swing the purchase. And cash is always available for spending needs without worry about selling in a bear market.

My point is that you decide what is best for you. Almost everyone should have at least some portion of their portfolio in equities in the wealth building phase. The first goal should be to increase your liquid funds to around 6 months of expenses. This should provide an adequate cushion if things go south. Then get serious about growing investment accounts.

The greater your wealth the better able you are to weather a storm. As your non-qualified account grows, the 6 months of living expenses in cash are supplemented by dividends if the need become great enough. Dividends and capital gains should be reinvested into your index funds. However, rather than selling an investment when the market is down, consider diverting dividends and capital gains distributions into your cash account when the cash account begins to deplete. This will provide added cushion while you decide the best financial move if a recession hits the family income stream.

 

Nearing, Entering and in Retirement: The last phase of your financial life is when you approach, enter and are in retirement. The following advice works regardless the age you retire. Early retirement still requires a proper financial plan. My clients pay me a lot of money to tell them what you are about to read.

The 6-month rule is nowhere near acceptable once you enter retirement. Side hustle income, pension and Social Security keep cash flowing into the budget, but your maximum earning years are now part of history. And besides, even if you can go back to work, is that really the goal here? The goal now is to structure your finances to keep your financial life simple with as low a level of risk as possible.

There might be times when you still add to investments once you enter retirement. We will assume retirement is a consumption of wealth phase. This doesn’t mean your accounts lose value! Your level of consumption can, and ideally should, be lower than the rate of the investment growth. 

Outside cash, investments will fluctuate in value. Only the fluctuating investments provide a potential acceptable return. Cash provides a low, or even no, return and is earmarked for expenditures in the relatively near future. Selling index funds at or near market highs and consuming cash when index funds are not at a high is an easier strategy than you might think. 

Market timing is a sucker’s game. Dollar-cost-averaging when you were growing your wealth was not a market-timing call. The opposite behavior when consuming your wealth is also not market timing.

The stock market is always climbing with short down periods lasting from a few months, to a few years, to rarely a decade or longer. Selling at a market high does not mean the market will not be higher in the future. What I am saying is that selling at or near a current market high is easy to do. Look at the index level. Is it at or near a high? Then it is an appropriate time to sell if it meets the criteria discussed below.

Your cash position in retirement needs to be at least two years of spending! Preferably 3-4 years of spending. With 4 years of spending in your cash account you have plenty of money available to live without consideration for the economy or stock market levels. If the market declines, use the cash account to fund spending. If the market is at or near a high you can sell enough to cover your needs on a monthly or some other schedule. You can rebuild the cash position when the market returns to new highs if the cash account becomes depleted.

When the stock market has one of those wonderful moments where it predicts yet another zombie apocalypse, you have several options. Rather than reinvesting dividends and capital gains distributions, you can divert those to your cash account instead. This effectively stretches your cash account to cover more than 4 years of market decline. Only as a last resort would you be forced to sell below a market high and/or cut back on spending.

The stock market rarely goes down and stays down for more than 4 years. Anything is possible. With dividends mixed in, your cash position can extend to 6-7 years or more, depending on the amount of your investments in index funds. Virtually all situations become background noise then as you enjoy your retirement.

 

As you can see, a simple rule that works for everyone does not exist. When you are starting out it is unlikely you have the resources to have even 6 months of liquid cash available to cover a job loss or serious expense. The goal is to move from that risky early position to a more stable and secure level. Eventually you will reach that 6-months cushion. But then you need to keep pushing because your needs will change as you approach retirement. 

The more wealth you accumulate, the more comfortable you become with cash earning a meager return. Many people lose interest in remaining 100% invested all the time once they enter the 7-digit net worth arena. As the 7 figures keep climbing, cash looks better and better. Of course, virtually everyone should have some invested in an equity index fund at all ages. What I want to impress upon you is that in the early days of your wealth accumulation journey you will be nearly 100% invested all the time with a modest sum available for an emergency. As you approach and enter retirement it is not uncommon to have 20% of more of your investable funds in cash. Find your comfort level and enjoy the well-deserved retirement you worked so hard to attain.

 


 

 

More Wealth Building Resources

Personal Capital is an incredible tool to manage all your investments in one place. You can watch your net worth grow as you reach toward financial independence and beyond. Did I mention Personal Capital is free?

Side Hustle Selling tradelines yields a high return compared to time invested, as much as $1,000 per hour. The tradeline company I use is Tradeline Supply Company. Let Darren know you are from The Wealthy Accountant. Call 888-844-8910, email Darren@TradelineSupply.com or read my review.

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QuickBooks is a daily part of life in my office. Managing a business requires accurate books without wasting time. QuickBooks is an excellent tool for managing your business, rental properties, side hustle and personal finances.

cost segregation study can reduce taxes $100,000 for income property owners. Here is my review of how cost segregation studies work and how to get one yourself.

Worthy Financial offers a flat 5% on their investment. You can read my review here.