Certified financial planner

The Certified Financial Planner™ (CFP®) designation is a professional designation which is frequently held by financial planners, investment advisers and other financial advisers.  It is conferred by the Certified Financial Planner Board of Standards, Inc.  Candidates must have a bachelor’s degree (or higher) from an accredited college or university, three years of full-time personal financial planning experience and complete a course of study in financial planning topics.  These subject areas include investments, taxes, estate planning, insurance planning, employee benefits, and asset protection.

A candidate may be exempt from the course of study requirement if he or she holds a CPA, ChFC, CLU, CFA, Ph.D in business or economics, a Doctor of Business Administration, or an attorney’s license.

All candidates must successfully complete the CFP® Certification Examination, which has a reputation for being very challenging, comprehensive and arduous.

CFP® practitioners are subject to the CFP Board’s ethical standards, and must abide by a fiduciary standard.

Certificants must typically complete 30 hours of continuing education every two years, and 2 hours of these 30 hours must be in topics related to ethics.

In many jurisdictions, the CFP® designation will exempt an investment adviser representative from having to pass the Series 65 examination.

Cash basis accounting versus accrual accounting

Bookkeeping methods for managing the balance sheet and other books of a business or household include the cash basis method and the accrual method.

With the cash basis method of accounting, expenses are accounted for as they paid, and revenues are accounted for when they are received.  This method is simpler to administer but portrays a less accurate picture of the financial condition of the business or household.

With the accrual accounting method, expenses are accounted for as they are incurred, and revenues are accounted for when they are earned.  This method is more complex to administer and track but provides a more accurate picture of the financial condition of the business or household at any point in time.

The accrual accounting method gives a more accurate picture of the financial condition of a business, as it removes any inaccuracies in the balance sheet related to expenses being paid late and revenues being received early.

In order to illustrate the difference between these two methods, consider an example where an insurance policy’s annual premium is paid in advance.  In this scenario, the premium would be booked as an expense in one lump amount when the cash basis method is used.  Should the accrual method be used, the annual payment would remain on the balance sheet as a prepaid expense and would be amortized over the duration of the annual term.

Consider, similarly, revenue received in advance for a contract which is 3 months in duration.  Should the cash method be used, this revenue would be booked in one lump sum.  Should the accrual accounting method be used, the revenue would be booked piecemeal over the three month contract period.

As can be seen from both of these examples, the accrual method is a more accurate method in terms of describing the financial state of the business or household because it takes into account the effect of revenue received but not yet earned, and expenses paid but not yet accrued.

Should you pay off your mortgage early?

In today’s low interest rate environment, whether or not to pay off a mortgage early is a question which is often asked and debated.  Oftentimes one could benefit more by paying off a loan over a longer time frame, as inflation will tend to degrade the real value of the loan principal over time.  In the current low interest rate environment the carrying costs of the debt are minimal.  Because a mortgage is a long term obligation, the additional funds can instead be invested in a diversified portfolio of equities and bonds, preferably in a ROTH IRA or ROTH 401k.

Many of the arguments for early mortgage payoff were valid in prior decades, when interest rates were much higher.  Take, as an example, the 1990’s when the 30 year rate hovered between 7% and 10%.  In these years, it was usually advisable to pay off a loan early, as significant savings could be realized by doing so.  As an example, consider a $500,000 30 year mortgage at an 8% rate, which was a typical situation in the 1990’s.  By paying off such a mortgage 10 years early, savings of over $300,000, or 60% of the loan principal, could be realized.

Contrast this with a $500,000 30 year loan at a 3% rate, which is more typical in today’s environment.  Paying off this mortgage 10 years ahead of schedule would result in savings of less than $100,000, or about 20% of the loan principal.  An argument could be made to pay off such a mortgage later rather than sooner, as one could more easily afford to carry the principal and invest the additional funds elsewhere.  Meanwhile, inflation will tend to reduce the real value of the loan principal over the 30 year period.


Home equity line of credit and loan

Owners of real estate, including home owners, are able to access the equity in their property in several ways, including reverse mortgages, liquidation of the underlying real asset, and using the property as collateral for a loan.  A home equity line of credit or loan is a way to use the equity in a piece of real estate as collateral for a loan or line of credit.  The loan or line of credit places a lien on the real estate that is used as collateral, which has the effect of reducing the amount of equity in the real property.  Here we will discuss the situation where a homeowner uses their primary residence as the collateral for this credit.  In this scenario, the interest on the loan or line of credit is typically tax deductible.

Home equity loan versus line of credit

A home equity line of credit (frequently known as “HELOC”) is a facility which can be accessed or drawn upon by the borrower.  Funds can be drawn during the draw period, and the payment amount during the draw period is usually based upon the amount drawn and the interest rate on the loan.  Oftentimes it is only required to make interest payments during this period, and in some situations no payment is required.  The length and terms of the draw period vary.  Once the draw period ends, the repayment period usually begins, and the required payments during the repayment period are typically higher than during the draw period.  In some cases, a single lump sum payment, known as a “balloon payment”, is due at the end of the draw period, which can expose the borrower to significant risk.  Interest rates on a HELOC are usually variable.

A home equity loan is a lump sum loan amount, secured by the equity in the home, which must be paid according to a fixed term or schedule.  Unlike with a HELOC, which usually has a variable interest rate, the interest rate on a home equity loan is typically fixed.

Any home equity loan or line of credit contract or agreement should be understood carefully and in detail before executing or signing.  Careful attention should be paid to interest rates and repayment periods and terms.  Keep in mind that you typically have the right to cancel any home equity loan or line of credit contract within three days of signing.

Household financial statements part III: income statement

We believe that individual or household finances should be managed as those of a business are managed, therefore financial statements, including the balance sheet, income statement and cash flow statement are very important.  We discussed the former two in previous articles.  Here we will discuss the personal income statement and how it is constructed.  Unlike the balance sheet which is the snapshot of the household at a particular point in time, the income statement is related to how financial assets move through the household or other entity within a specified time period, for example monthly, quarterly or annually.

On one side of the income statement are items which may include employment income, dividend and interest income, pension income, and social security income.  On the other side of the income statement are items which may include fixed and variable expenses as well as payments to service liabilities such as mortgage payments, student loan payments and credit card payments.

Household financial statements part II – balance sheet

Balance sheets are financial statements used by businesses.  Here we will describe the balance sheet for an individual or family.  Your balance sheet is a snapshot of your assets, liabilities and capital at a particular point in time.  It gives you a sense of what you own, what you owe, and what you have invested.


Assets include cash, marketable and non marketable securities, antiques and collectibles, real estate, cash value of life insurance, annuities, vehicles, prepaid expenses, and wages and other income receivable.

Liabilities and net worth

Long term liabilities include secured and unsecured installment loans, mortgage loans, credit card balances, and student loans.  Current liabilities include unpaid bills and loans which are due to be paid off within the next year.  Net worth is the differential between the assets and liabilities, and therefore assets will always be equal to liabilities and net worth.

Asset location

Where assets are “located” has a significant impact from both a tax perspective and an asset protection perspective.  Assets can be placed/located in retirement accounts, taxable accounts, life insurance policies, annuities, trusts, corporations, and LLC’s.  This can be a complex subject overall.  We will briefly discuss here a comparison between ROTH retirement accounts and traditional retirement accounts, a comparison between retirement accounts and taxable accounts, as well as some discussion of life insurance policies and annuities.

Retirement accounts – ROTH accounts versus traditional accounts

Assets in retirement accounts typically accumulate and grow tax deferred (in the case of traditional 401K, 403B and IRA accounts) and in the case of ROTH 401K and ROTH IRA accounts can be withdrawn tax free.  For this reason, a case can be made for placing assets which have the capacity to generate the largest long term gains (such as small cap stocks) into ROTH accounts, while placing the assets which are lower risk and do not have the capacity to generate large long term gains (such as U.S. treasury bonds) into traditional accounts.  A careful analysis should be done of the tax bracket now and the expected tax bracket during retirement.

Taxable accounts versus retirement accounts

As taxable accounts do not have any tax deferral features, a case can be made for placing growth, non dividend paying assets into these accounts, and placing dividend paying assets into retirement accounts and reinvesting those dividends and interest.  This way, the investor can benefit from the long term capital gains taxes which are typically lower than the income taxes which are levied on dividends and interest.

Annuities versus taxable accounts

Assets in annuities grow tax deferred, with the basis determined by the amount contributed to the annuity.  For this reason, a case can be made that it is advantageous to place dividend-paying assets into annuity contracts while placing non-dividend paying, long term appreciating growth assets outside of annuity contracts.  This way, dividend generating assets can accumulate and grow tax deferred inside the annuity contract, and the investor can benefit from the lower capital gains taxes on growth assets held outside the annuity contract.

Owning versus renting

Owning versus renting: which is better?  We will provide a basic comparison between owning and renting a home.  Oftentimes a home is thought of as an investment, however we believe that it is more of a consumption item than an investment item, with the added benefit of serving as an inflation hedge for the owner.

As an example of this, consider a 30 year fixed mortgage note which is paid exactly as agreed.  Over this 30 year period, rents and wages will rise, however the mortgage payment will remain constant.  There may be times when housing prices rise at a substantial rate however research has shown that in the long run housing has merely kept pace with inflation since 1890.

A large part of this is due to the large transaction costs incurred during purchase and sale of real estate.  These costs are much higher for a typical consumer purchasing a home than they are for typical professional real estate investors, who purchase real estate regularly and thus enjoy an economy of scale due to their expertise and the volume of transactions which they engage in.  Owning a home also results in additional time which must be spent by the homeowner in maintaining the home, while renting will typically require less time and expense on maintenance.

Retirement income planning

Retirement income can be broken down into three general categories: income from investments, income from pension plans, and income from social security.  Of course, many decide to continue working during retirement so employment, self employment or business income may be available as well.

Investment income

Investments can be used to to fund retirement needs by either generating dividend and interest income or by gradually liquidating the assets over the course of retirement.  The main advantage of the first method is preservation of principal, and its disadvantage is that it results in lower income than the second method.  The advantage of the second method is larger income, and the disadvantages include depletion of principal and longevity risk related to the assets lasting throughout retirement.  In certain cases this longevity risk can be managed by means of insurance contracts such as annuities, however such contracts require the policy owner to give up control over the principal.

Income from pension plans

Defined benefit pension plans are another source of retirement income.  Benefits paid are typically a function of age, income received while employed with the company or organization associated with the defined benefit plan, and years of service provided to the employer or organization.  Other factors can also impact the income provided by the plan, including whether or not a spousal survivor benefit is included in the plan.  Pension plan income is advantageous in that there is no longevity risk associated with the benefits, as benefits are in most cases paid throughout the life of the pensioner.  Careful planning should be done with respect to coordinating survivor benefits of the pension plan.  In certain cases, life insurance contracts can be purchased in lieu of activating survivor benefits on pension benefits, however a careful analysis should be done before doing so.

Income from social security

Income from social security is the most common source of income for Americans, providing 40 percent of income for persons 65 years old and older according to the Social Security Administration.  When to file for social security benefits is an important decision and should be coordinated carefully with other retirement income sources in order to maximize retirement income.



Auto financing

Auto financing can be accomplished in several ways.  Here we will briefly discuss a comparison of leasing versus buying.

Auto leasing

The advantages of leasing include lower down payment and lower monthly payments.  Disadvantages include limited mileage, no equity in vehicle, and being held responsible for excessive wear and tear

Auto buying

The advantages of purchasing a vehicle include equity in vehicle, no mileage restrictions, and no issues with excessive wear and tear.  Disadvantages include higher down payment and higher monthly payments.

Credit scores

Credit scores are metrics which are used by lenders or other parties in conjunction with other factors to evaluate the risk which you would pose to them if they did business with you.  They are most commonly used in the loan origination process but are used in the insurance industry as well.  We will cover the basics in this article as relates to how credit scores are calculated as well as how they are used by lenders in determining whether or not you will qualify for a loan.

What factors go into a credit score?

Much of the mechanics behind how a credit score is calculated is proprietary and is not disclosed to the public, however some basic information is provided by the credit bureaus related to the scoring system.  The main factors which determine a credit score, in order of importance, are payment history, credit utilization, length of credit history, number of credit inquiries, and credit mix.  Payment history is related to the number of late payments and the total number of payments, and is intended to measure the timeliness of payments made in the future.  Credit utilization is the amount of outstanding credit in relation to the total amount of credit available, and is intended to measure how responsibly available credit resources are managed.  Length of credit history is related to the amount of time for which accounts have been in existence, and is intended to measure credit tenure.  Number of credit inquiries is related to the amount of time which credit has been applied for, which is reflective of new credit accounts.  Credit mix is related to the different types of accounts – mortgage, installment loans, student loans, and revolving lines – in the credit profile.

Mortgage financing

For many individuals and families the purchase of a home is the largest purchase they will make in their lifetime, and determining how much to spend is therefore very important.  How much of a house you can afford  will depend on the amount of your income as well as the stability of your income.  The lender or originator of the mortgage will be happy to tell you how much home you can afford according to their standards, but these standards are designed to manage their risk, not yours.  Although oftentimes your interests happen to be aligned, it is important to do your own careful analysis of your financial situation before purchasing a home.  In this article we will discuss ways to determine how much home you can purchase using an analysis of your income, cash flow, assets and liabilities, and financial objectives and goals.

Bank/lender underwriting standards

The bank, lender or originator of the mortgage has certain guidelines which they use to determine whether or not you meet their criteria.  The two most important metrics which they use are the “front end ratio”, which is designed to measure the house payment in relation to your gross income, and the “back-end ratio”, which is designed to measure your total long term liabilities in relation to your gross income.  Other factors are used as well, but these two metrics are the ones which are most easily quantifiable.  A standard which is frequently used for a good credit score is a 28% front-end ratio and a 38% back-end ratio.  In other words, if your gross monthly income is $10,000 your principal, interest, taxes and insurance can not exceed $2,800 per month.  Similarly, your principal, interest, taxes, insurance, installment loan payments, credit card payments, and student loan payments combined can not exceed $3,800 per month.  Note that loans which are scheduled to be paid off within the next 12 months are considered a current, not long term liability and are thus not included when calculating the back-end ratio.