Many pastors don’t have a solid understanding of how Social Security works and don’t think they need to because they have opted out. However, there are some things everyone should understand about Social Security, even pastors.
How Will A Biden Presidency Affect Taxes For Pastors?
Whether or not you believe that Joe Biden won the election, let’s set aside politics and talk about taxes. Because there’s no way I’m going to go there. I don’t care who you voted for or who you think will be president next year, today we are going to talk about Biden’s tax proposals. I should also remind you that US Presidents are not dictators and it is Congress that has to make the laws, so just because this is what Biden wants to do doesn’t mean it will actually happen.
Now that I have all of those disclaimers out of the way, let’s get to the fun part. Taxes. How does Joe Biden want to tweak the US tax code?
Changes That Might Affect You
The good news is that most of Biden’s tax increases will not affect the average American, at least directly. Of course, raising taxes on business can lead to increased prices, slower economic growth, lower wages, lower tithes, lower pay for pastors, etc. It’s all connected. However, most of the changes that would affect you directly would probably benefit you.
Child Tax Credit
The one that I think I would benefit the most from is the proposed increase in the child tax credit. Trump doubled it with the Tax Cuts & Jobs Act and Biden must have liked the response. He would like to increase it from $2,000 per child to $3,000 per child and also include a $600 bonus for children under 6. The tax credit would also be fully refundable, which would help pastors who have had their Child Tax Credit limited because of their housing allowance exemption.
Child & Dependent Care Tax Credit
Biden would also like to expand the Child and Dependent Care Tax Credit. The maximum would increase from $3,000 to $8,000 ($16,000 for multiple dependents) and the reimbursable amount would increase from 35% to 50%.
First Time Homebuyers’ Tax Credit
Another one for those earlier on in their adult lives (or pastors of any age moving out of a parsonage!) is the reinstatement of the First Time Homebuyers’ Tax Credit. This tax credit was born during the Great Recession in an attempt to combat the bursting of the housing bubble and help people buy homes, but it was only temporary. Not only does Biden want to bring it back, but he wants to increase it to $15,000. If this comes to pass, though, remember that there is no double-dipping. You can’t claim both a tax credit and a housing allowance for the same expenses!
Earned Income Tax Credit
For those on the other end of the spectrum, entering your golden years, Biden’s got something for you as well. The Earned Income Tax Credit is a reimbursable (they’ll refund you the money) tax credit for workers with low incomes. It’s the government’s way of trying to make up for the payroll taxes that lower-income earners pay. Right now, you can only claim the tax credit if you are under age 65 unless you have qualifying children. Biden’s proposal would open up the tax credit to those over age 65. I’ve heard from readers that this would definitely benefit and I’m sure they’re not the only ones.
Capital Gains Taxes
Up until this point, everything we’ve talked about would be beneficial to you. Not anymore. This one could affect your inheritance or your legacy. As you know, when you earn money, whether through work or investments, the government taxes it. When it comes to investments, you don’t pay the taxes until you sell them, even if they are growing every year.
Right now, if you have investments that have grown but you haven’t paid the taxes on them and you die, the tax liability dies with you. Your heirs do not have to pay the taxes on the growth from your lifetime. They only have to pay taxes on the gains the investment has earned since you died (the technical term is step-up in basis). Biden would like to eliminate that provision of the tax code so that heirs (or estates) would have to pay the taxes on all earnings. That means that if you receive an inheritance, some of it might end up going to the government and there would no longer be a tax benefit for you to hang on to your investments until you die.
Other Proposed Changes
There are a few other proposed changes that could affect you. He would like to expand the Obamacare premium tax credit. Biden would also like to create a refundable renter’s tax credit in an attempt to keep rent and utility payments at 30% of monthly income.
Changes To Retirement Contributions
This proposal is going to take a little bit more explanation, so I’m giving it its own section. Right now, if you make a contribution to a retirement plan that isn’t a Roth, you get a tax deduction for it. The amount of your contribution is subtracted from your income before you calculate your taxes due. That’s why it’s called a pre-tax retirement account. You don’t have to pay taxes on the money that you contribute (though you have to pay taxes when you take it out).
Biden would like to make some changes to the tax benefits of these retirement contributions that favor lower-income earners. Instead of allowing a tax deduction, he would like to have a matching refundable tax credit at a flat rate of 26%. The tax credit would be deposited into your retirement account instead of being issued directly to you.
Does that make any sense? I didn’t think so. Let’s see if an example will help.
Example
Let’s say you contribute $1,000 to a traditional IRA today. When you file your tax return, you can subtract that $1,000 from your taxable income. If you’re in the 12% tax bracket, that will save you $120 in taxes. If you’re in the 37% tax bracket, that will save you $370.
Under Biden’s plan, what would happen when you contribute that $1,000 to your traditional IRA? Instead of lowering your taxable income and therefore your tax bill, the government would make a contribution to your retirement account for you of $260 (26%). There are two things happening here. First of all, the benefit goes directly into your retirement account and not your hands, as it currently does. Second, it benefits those in lower income tax brackets more. The person in the 12% tax bracket now gets $260 instead of just saving $120. The person in the 37% tax bracket also only gets $260 instead of saving $370.
This proposal accomplishes two goals. First, it puts more money into retirement accounts, which is why the government offers these tax incentives in the first place. Second, it shifts the tax benefits more heavily towards low- and middle-income savers, which is their stated goal.
Changes For High-Income Earners
Most of Biden’s tax increases for individuals are aimed at those who earn over $400,000. If that’s you, congratulations on having a high income, and I’m sorry to say that you might have to share more of it with the government soon.
Right now, Social Security taxes are only paid on wages up to $137,700 (the cap adjusts annually with inflation). Any income above that amount is not subject to the Social Security tax of 6.2% for employees and 12.4% for self-employed individuals and pastors. (The Medicare tax, which brings a pastor’s total SECA tax to 15.3%, does not have a cap and is levied on all income.) Biden would like to reinstate that tax on income over $400,000. Under his plan, only income between $137,700 and $400,000 would escape Social Security taxation.
Biden would also like to raise the current top tax bracket. The Tax Cuts & Jobs Act lowered the top bracket from 39.6% to 37% and Biden would like to reverse that so that those with incomes over $400,000 are paying 39.6% again. It is important to remember that the Tax Cuts & Jobs Act individual tax bracket changes are temporary and due to expire after 2025. That means even if Biden makes no changes, the tax brackets will revert back to pre-Tax Cuts & Jobs Act levels for the 2026 tax year.
Other changes aimed at those who earn more than $400,000 are limiting itemized deductions and phasing out the qualified small business income deduction.
When you invest money for the long-term, you usually receive preferential tax rates on any gains that you achieve. The government does this to encourage investment and also help mitigate the diminishing purchasing power of money over time. One of Biden’s proposals is to eliminate the preferential tax rates for those earning $1 million or more.
Other Changes
Hang in there, we’re almost done here. Another Tax Cuts & Jobs Act change that Biden would like to undo is related to estate and gift taxes. Actually, he’d like to go even further back and restore those taxes and exemptions to the level they were at in 2009. This will only affect you if you have several million dollars when you die or are the beneficiary of someone that does.
Finally, Biden wants to raise taxes on businesses. I won’t go into it here, but for businesses, most of the proposed changes are not in their favor except for some select tax credits, such as those to encourage small businesses to sponsor retirement plans or bring manufacturing back to the US.
In conclusion, those are Biden’s tax proposals in a nutshell. For most of you, you’re probably happy because you mostly stand to benefit from them. I would like to issue a word of warning, though. Do you know how much money the government has spent fighting the coronavirus and the economic effects of the lockdowns this year? A lot. More than a lot. And I’m afraid we will be suffering the effects of it for years to come. Before doing a celebration dance, just remember that we will have to pay for it all one way or another, regardless of who is President.
To learn more about Biden’s proposals or help fight insomnia, read this article from the Tax Foundation.
How To Teach Your Kids About Money (No Matter Their Age)
I am officially a homeschool mom. While my kids have been home since March, I decided to officially cut ties with the local elementary school and go out on my own this fall. And I can honestly say that I have had no regrets whatsoever.
So far in third grade math, my daughter has learned how to count coins and different kinds of bills. This week, my daughter is going to be learning how to write a check. It is all very helpful (her older brother never learned to write a check in school!), but it isn’t enough. Kids learn in school the difference between a dime and a nickel, but they don’t learn what to do with them. That’s our job as parents. Some schools now offer financial classes, which you really should encourage your kids to take, but learning about compounding interest is still only a piece of personal financial management.
It would be easy if the schools would just teach our kids everything, but there are some things that must be learned at home. Like table manners. Or brushing teeth. Or money management.
Now, you may be thinking, “I can teach my kid to brush her teeth, but money management? Why can’t the schools teach that again?”
Teaching Kids About Money Is A Parent’s Responsibility
It’s scary and intimidating for most parents to think about teaching their kids about money. Money is a taboo subject in our culture, so it can be hard to talk about. And a lot of parents simply aren’t confident enough in their own money management skills.
You may need to brush up on your skills a bit (you’re in luck, you’re reading just the blog for that!), but if you really want the best for your kids, you need to teach them about money. Do you really want your kids learning about paying taxes from people like Willie Nelson (owed the IRS $16.7 million in 1990) or learning about debt from Kanye West (who a couple of years ago revealed he owed $53 million)? I sure don’t!
How To Teach Your Kids About Money
So how do you teach your kids about money? And is it too late if they’re already teenagers?
Here are three keys to teaching your kids about money. And you’re in luck! They work at any age, though the younger you start, the better.
1. Set A Good Example
We’ve all caught ourselves telling our kids not to talk with food in their mouths while we’re still chewing our last bite. But that just won’t cut it when it comes to money management. Our kids don’t really care what we say, but they watch what we do. And whether we want them to or not, they will mirror our behavior.
If you want your kids to have a strong foundation in their finances, you need to model to them how to do it. I know, it’s much easier said than done. But it’s true. The first step in teaching your kids about money is to simply show them.
2. Talk To Your Kids About Money
In our American culture, there are certain things we don’t talk about. That list is getting smaller and smaller, but it still exists. Sex lives seem to have escaped the list, but money still hasn’t. Can you believe that a 2013 study found that 63% of Americans would rather share their body weight with co-workers than their bank account balance?
That same avoidance carries over into the home as well. Many parents say they would rather discuss drugs or sex with their kids than money.
Some things can be learned by observation. Your kids can probably learn how to load a dishwasher just by watching you, though I’m sure you’ve nagged them about silverware placement once or twice. But finances aren’t very visible. The only way your kids will learn about proper money management is if you actually open your mouth and talk about it.
Many parents don’t want to worry their kids or don’t want to admit their mistakes. If you’re stressed about money, they will pick up on it whether you are open about it or not. Talking about it will probably make them feel better, even if things aren’t going well. The only way to prevent them from the same pitfalls is by talking about them. Give them the chance to learn from your mistakes so they don’t have to repeat them.
Silence about money will only cause your kids problems. Most parents don’t expect their kids to understand the dangers of drugs just because they have never seen their parents shoot up. Some things require more in-depth discussion and openness, and finances are one of them.
3. Get Your Kids Involved
Learning theory and research have consistently shown that the more active a learning experience is, the greater the learning gains and retention. How do you teach your kids about money? Let them do it!
How this plays out will differ by age. If you are buying your preschooler a toy, have him hand the money to the cashier himself. In this transaction, he will learn that he has to give up something (the money) in order to gain what he wants (the toy). He will learn that everything costs something.
If your 10-year-old has been begging you for a new video game, don’t just refer her to grandma. Have her figure out the cost of the new video game, plus tax (don’t want her to end up like Willie Nelson), and help her save up for it.
Let your teenager buy her back-to-school clothes (yes, some day they will go back to school) on her own with a set amount of money. She will either be more frugal than if you were with her or learn the hard way the value of budgeting.
Nowadays, a lot of kids are going off to college only to realize that they have no clue how to use money. Don’t let your kid be one of them. Take the time now and make a conscious effort to teach them about money. Otherwise, their bank’s overdraft fees will (we hope).
Are You Wasting Money Without A Health Savings Account?
Despite being a hot topic over the last couple of decades, the cost of health care is still a major problem for American families. Healthcare costs tripled between 2001 and 2016, and the average non-elderly family now pays $8,200, or 11% of their income, each year.
That is a national average where many people have employer-provided health insurance. Many churches cannot afford to pay as much of their pastors’ premiums or even offer health insurance at all. If you are without health insurance, it is open enrollment right now for the Affordable Care Act and you can sign up right now on the national exchange. You can also read about your other health insurance options here.
Even with insurance, most of us don’t have an extra $8,000+ just laying around for medical costs. It’s something we should be saving for on a regular basis so we can be prepared when something does come up. It can be hard to find the room in your budget to save for medical costs, but the government has provided something that makes saving towards health care costs a little bit easier and more cost-effective: Health Savings Accounts (HSAs).
What Is A Health Savings Account?
Back in 2003, the government established HSAs as a way for people covered under high-deductible health plans (HDHPs) to get special tax treatment for saving money for out-of-pocket medical expenses. By saving in an HSA, they received a tax benefit for planning ahead. As HDHPs gained in popularity, the government wanted to incentivize saving to cover the higher deductibles, so that medical events would not be financially devastating even with insurance in place.
What’s So Great About Health Savings Accounts?
There are two aspects of an HSA that make it especially attractive:
No Taxes On The Front End
First of all, you can contribute money to your HSA pre-tax. Because tax hasn’t been taken out, you end up with more to contribute. Many people have their HSA money withheld directly from their paycheck so that they never even see it or have to pay taxes on it. You don’t have to have it automatically withheld, though, you can just take a deduction when you file your taxes for the same result. Either way – save now or save later – you still save on taxes by contributing to an HSA.
No Taxes On The Back End
Not only do you save on taxes when you put money into an HSA, you save when you take it out as well. Distributions from an HSA are tax-free when used for qualified medical expenses.
This makes an HSA very unique among tax-advantaged government savings plans, like IRAs. Usually, you either contribute pre-tax but have to pay taxes on withdrawals, or you pay your taxes upfront before contributing and don’t get taxed on the withdrawals. Health Savings Accounts take the best of both kinds of plans to make a superiorly tax-advantaged savings vehicle.
Example Of Tax Savings
Let’s look at an example with real numbers. Ben and Dan each have $1,000 to save towards medical expenses. Ben saves in a regular savings account and Dan opens an HSA.
Before he can start saving, Ben has to pay his taxes, 20%, so he only has $800 to put into his account. His savings account earns him 0.1% a year. If he leaves it in there for 5 years, it will grow to an amazing $804.
Since Dan is using an HSA, he doesn’t pay taxes on his $1,000 and it all goes into the account. Because of this, even if he earns the same interest rate as Ben he’ll end up with $201 more than him, or $1,005 total. However, if he isn’t planning on using the money any time soon, he can likely earn a much better rate of return. Most HSAs offer a wide variety of investment options, from money market to stock mutual funds. And the best part is that you don’t have to pay any taxes on the interest you earn when used for qualified expenses.
Are You Eligible For A Health Savings Account?
These are the requirements to be eligible to open an HSA:
- You must be covered by an HDHP
- You cannot be enrolled in Medicare or other health coverage
- You cannot be claimed as a dependent on someone else’s tax return
HSAs cannot be joint accounts, they are individual accounts. If you are married, only one of you owns the account while the other can be an authorized user. When the account owner dies, the spouse gets to take over the account. The surviving spouse gets to use it as his or her own without paying any taxes (for qualified expenses) or penalties.
What Are The Contribution Rules?
As long as you are covered by an HDHP, anyone may make contributions to your HSA. This includes you, the account owner, your employer, any family member, or another third party, like a church or church member.
The 2020 contribution limits are $3,550 for singles and $7,100 for families, with a $1,000 catch-up contribution available to those over 55. Contributions for 2020 can be made all the way up to the tax filing deadline for the year, April 15, 2021. The limit will go up $50 for singles and $100 for families in 2021.
Once you are no longer covered by an HDHP, you can’t make anymore contributions. You can still use the funds in the account for eligible expenses, though.
What Can You Spend The Money On?
HSA money can be used for many things that aren’t usually covered by health insurance plans. A few examples are deductibles, co-insurance, prescriptions, dental care and vision care. Most things that would typically qualify for the medical expense deduction on your tax return qualify for an HSA.
For people over 65, qualified expenses include:
- Premiums for Medicare parts A, B, D and Medicare HMA
- The portion an employee pays for employer-sponsored health insurance
- The employee portion of employer-sponsored retiree health insurance
Supplemental policies like Medigap are not IRS qualified expenses.
It’s Not A Use-It-Or-Lose-It Account
It’s easy to confuse HSAs with FSAs (Flexible Savings Accounts) and all of the other acronyms the government uses. If you’re familiar with an FSA, you know that any unused funds in excess of $500 are forfeited at the end of the year.
Luckily, HSAs are different. Account balances simply roll over from year to year, allowing for incredible growth and accumulation of savings. As long as you are eligible, you can continue to contribute to your account tax-free and let the money grow tax-free for use at any time in the future, whether near or distant.
How Do I Open A Health Savings Account?
Now that you’ve seen how great they are, how do you get one? It’s as easy as opening a bank account, once you’ve chosen who you want to open it with. Just fill out the application and start depositing.
You can start HSAs with banks, brokers, credit unions and insurance companies. If you just Google “Open HSA,” you’ll see plenty of good options. Here is a good article with tips for choosing an HSA custodian, and this blog post lists some of the most popular ones along with their fees and investment options.
Good luck and happy savings!
Does The Clergy Housing Allowance Count Towards Income For The Premium Tax Credit?
A big part of the Affordable Care Act, or Obamacare, legislation was the creation of the Marketplace where people without access to a workplace health insurance plan could shop for and purchase an individual policy. This was good news for many independent pastors because a lot of small churches simply cannot afford to offer health care benefits.
How Obamacare Subsidies Work
Not only did Obamacare create the Marketplace but it also created government subsidies, or tax credits, to help people pay their premiums. Subsidy eligibility is based on income, beginning at 400% of the federal poverty level. For example, the federal poverty level for a family of 4 is $26,200 so if a 4-person family’s income is $104,800 or less, they should be eligible for a subsidy. Those at or below the poverty level are usually eligible for Medicaid instead of subsidies. Click on the link above to see the federal poverty level based on household size.
The subsidy is based on income during the year of coverage, so if you sign up for 2021 coverage today, you will need to estimate your 2021 income for them to calculate your subsidy. If you overestimate, you will have to pay back the excess at the end of the year. If you underestimate, then you could get additional tax credits at the end of the year.
How The Pastor’s Housing Allowance Affects Income
When it comes to income-based programs, pastors always have the same question: Does my housing allowance count as income? That’s a really good question to ask because the answer varies by program. For some things it does and for some things, it doesn’t. You can read all about that in my book about the housing allowance.
When it comes to the Premium Tax Credit, the official name for the Obamacare subsidy, the housing allowance DOES NOT count as income. This is the way that they calculate income:
Adjusted Gross Income (AGI)
+Non-Taxable Social Security Benefits
+Tax-Exempt Interest
+Excluded Foreign Income
=Modified Adjusted Gross Income (MAGI)
Your AGI comes from your tax return, Form 1040, and does not include the housing allowance. Neither is it added back in, like excluded foreign income, tax-exempt interest, and non-taxable Social Security benefits. This is the same calculation that they use when computing income for Medicaid and the Children’s Health Insurance Program (CHIP) as well.
Obamacare Open Enrollment Is Now
Open enrollment for 2021, when you can sign up for a new Marketplace plan, began yesterday and goes until December 15. So, if you need health insurance now is the time to get it. If you want to learn more about your options beyond the Obamacare Marketplace, read this article.
How I Got An 800+ Credit Score
I’ve always assumed I had good credit based on my behaviors, but I never knew my credit score. Then, we bought a house 6 years ago and had to apply for a mortgage.
The mortgage broker was downright giddy when he pulled our credit reports and got our scores. He excitedly told me that he could count on one hand the people that he had worked with with an 800+ score. Yay, I’m a celebrity in his world!
Are Your Heart And Wallet In Alignment?
Do you feel like your money is all gone before you have a chance to spend it on what really matters to you? Here are 4 steps that you can take to ensure that your spending habits match up with your values.
How Do You Save For Retirement Without A Workplace Retirement Plan?
How much do you have saved for retirement? Do you think it will be enough? A quarter of American adults have absolutely nothing saved for retirement. This is why you may have heard talk of our nation’s retirement crisis. Most seniors have not accumulated enough money to live on in retirement. This is an even bigger problem among pastors since many have exempted themselves from Social Security.
For most people, the majority of their retirement savings are in a workplace retirement plan, like a 401(k) or 403(b). However, many independent pastors and employees of small businesses have no workplace retirement program available to them. How are they supposed to save for retirement?
What Is An IRA?
If you don’t have access to a retirement plan at work, your only tax-advantaged option is an individual retirement account (IRA). IRAs are available to anyone with an income and their spouse. IRAs are tax-advantaged because depending on the type, either your contributions are tax-free or your withdrawals are.
The big downside to IRAs is their contribution limits. For 2020, the limit is $6,000 a year before you turn 50 and $7,000 afterward. If you start saving young and get a good return on your investments, you can probably save a decent nest egg. However, if you’re well into your 30’s and beyond, you may be looking for other options.
What Is An Individual Brokerage Account?
Without a workplace plan, your only other option is an individual brokerage account. These are not specifically retirement accounts, but just general investment accounts. Anyone can open one, but they don’t get special tax treatment. You pay income taxes on the money that you put in, and capital gains taxes on the money that your investments earn. For more detail on opening a brokerage account, read this article.
What Should I Put In Each Kind Of Account?
If you decide to use both an IRA and a brokerage account for your retirement savings, you need to pay close attention to the investments you put in each. Because of their differing tax treatment, where you put your investments can make a huge difference in how much money you keep in the end.
In a brokerage account, capital gains taxes are due every time an investment is bought or sold. In a tax-advantaged account, taxes are only paid when you put the money in or take it out. What happens while the money is in the account doesn’t matter.
Mutual funds are a good investment vehicle for retirement. Mutual funds can be either actively managed or indexed. Actively managed funds have a team of really smart people buying and selling the stocks that they hold on a regular basis. Index funds hold investments in a set list of companies and rarely change.
If you hold an actively managed fund in a brokerage account, you will owe taxes each time the fund managers change the fund’s investments. Because of this, it is better to hold actively managed funds in your IRA where the fund’s turnover rate will have no tax effect. You will pay a lot less in taxes every year if you use your brokerage account for index funds, since they rarely change and incur taxes.
When looking at funds, check their turnover rate. Fidelity’s 500 Index Fund has a 4% turnover rate while their New Millennium Fund has a 44% turnover rate. Which one would you put in each account? If you want to keep your money invested instead of paying it in taxes, you would put the second fund in your IRA and the first in your brokerage account.
Are Those Really My Only Options?
No, they aren’t, but they’re your best ones. You could always save money in a savings account. But then, instead of growing your money you would slowly be losing it to inflation. Same thing if you keep it under your mattress. If you have a health savings account (HSA) and enough money to cash flow your medical expenses you can use the HSA for retirement. You can read about how to do that here.
In summary, without a workplace retirement plan, your retirement investing options consist of an IRA and individual brokerage account. IRAs are tax-advantaged, so you should max one out before adding a brokerage account. And once you have both, be careful which investments you have in each to limit your tax liability.
How To Get The Most Out Of College Savings
Last week, I wrote about things you should do after having a baby. One of the things I mentioned was saving for college and I got a lot of questions about it. We all know it’s a good idea to save if we want our kids to go to college, but for most of us, that’s the extent of our knowledge. How do you save? What are your options? Where do you put the money? How do you even open an account?
Today I’ll go into more detail about what your options are and how you can make the most of the money you are working hard to save.
Use A Tax-Advantaged Account
Anyone can save money in a simple savings account. There are two problems with doing that, though. First, you hardly earn any interest on your money. When you factor in inflation, your money is actually worth less after sitting in a savings account for awhile. Second, you have to pay taxes on any interest you do manage to earn.
Usually, we think of taxes as an inevitable part of living in a civilized society, but when it comes to college savings they don’t have to be! The government has provided two different options for saving where you don’t have to pay any taxes on the growth when used for qualified educational expenses.
Coverdell Educational Savings Account
The first option is the Coverdell Educational Savings Account (ESA). Sometimes called Educational IRAs, these work a lot like IRAs do for retirement except that they are used to save for qualified educational costs. If your income does not exceed the limits, you can open one for anyone under the age of 18 and contribute up to $2,000 each year. A beneficiary may have multiple accounts, but $2,000 is the limit that can be contributed annually from all contributors combined.
The best thing about an ESA is the investment flexibility. Just like an IRA, they can be invested in any number of stocks, bonds, mutual funds, etc. and the person that opens the account makes all of the investment decisions. Another noteworthy feature of the ESA is that it isn’t just used for college, it can be used for K-12 education as well.
529 Plan
The second tax-advantaged savings option is a 529 plan. They are offered by states or educational institutions and get their numeric name from the section of the Internal Revenue Code that authorizes them. Every state sets up their plan(s) differently, and you don’t have to be a resident to participate in a state’s plan.
These plans are great because they usually have no annual contribution limit (only high lifetime limits), no age limits and no income limits. Anyone can contribute to them. Also, many states offer tax deductions for residents who invest in their state’s plan. Thanks to the Tax Cuts & Jobs Act, up to $10,000 a year of 529 funds can be used for K-12 educational expenses.
Types Of 529 Plans
There are generally two types of 529 plans; savings plans and prepaid tuition. Savings plans work just like most workplace retirement accounts. You choose from several available investment options and then your account balance goes up and down based on how those investments perform.
Prepaid plans are a way of pre-paying tuition for a specific school or state college system. They can usually be converted to cover out-of-state or private tuition as well.
Which Type Is Better?
Since you can choose from any state’s plan, you have a lot of options. Which kind of plan is better? Let’s look at the math. Over the last 10 years, the cost of college has gone up about 5% a year. So, if you prepay, you essentially get a 5% rate of return. That’s much better than just a savings account! But is it the best you can do?
If you were to go for a savings plan, you could invest in the S&P 500, or an index fund that tracks it. From 1926-2018 the S&P 500 averaged 10% – 11% a year. That’s twice what you would get with prepaid tuition. Double sounds good, but doubling the rate of return doesn’t just double how much money you have. Thanks to compounding interest, doubling your rate of return means you would end up with more than twice as much money.
Basically, the kind of investment you choose for your savings plan will dictate whether you can get a better or worse return than with a prepaid plan. A plan that earns you more than 5% a year will make your money go farther than it would in a prepaid plan. Just remember, investing in the stock market carries risk and the potential to lose your money as well as earn more.
Since I live in the Pacific Northwest, let’s take a quick look at Oregon and Washington’s 529 plans as examples:
Oregon 529 Plan
The Oregon College Savings Plan is a savings plan that offers age-based portfolios, guaranteed portfolios, multi-fund portfolios and single-fund portfolios. You can see the historical performance of the different options here, and you’ll see that they range from almost 1.5% to over 9.5%. Money held in an Oregon 529 can be used at any accredited college or university nationwide.
Contributions to the plan are deductible for Oregon state income taxes. The lifetime maximum contribution is $400,000, but you only need $25 to open an account. To make saving easier, they offer automatic payroll deductions of as little as $15 a month. Accounts can be opened online through their website in about 15 minutes.
Washington 529 Plan
Washington state’s 529 plan is called GET, Guaranteed Education Tuition and is a prepaid tuition plan. You participate by purchasing units for the going price which can then be redeemed when your child is in college. The value of a unit is based on the cost of tuition and fees for the most expensive public university in the state in the year that it is redeemed. Though the plan guarantees tuition for state schools, the money can be used for attending schools out-of-state. Tuition levels vary by state and school, so your money may not go as far in another state as it would in Washington.
What I Use Personally
We have both kinds of plans for each of our children. We started with ESAs for their increased investment options and then opened 529 plans to avoid the limits associated with ESAs. They are all invested in good mutual funds and I have been very pleased with them so far. I can’t play favorites because I’m happy with them both.
Now Take Action!
Hopefully the information here has given you a better understanding of your college savings options. Now it’s time to take action, choose one and start saving! To learn more about choosing investment options within your college savings plan, follow this link.
How Can A Church Reverse Its FICA Exemption?
Several months ago, I got an email that had me stumped. The writer was from a church that was exempt from paying FICA (payroll) taxes but wanted to start paying them. Since I was unsure how to answer the question, I referred her to a CPA that has helped me (and a lot of pastors and churches) with ministerial tax issues. She said she had searched the internet and couldn’t find an answer, so today I am solving that problem with the information provided by Wayne Vinson, CPA, of The Vin Group.
Do Churches Pay FICA?
First, we have to look at the question of churches paying FICA. Not all churches pay FICA taxes for their employees. Churches have a choice. Churches who are opposed to paying FICA for religious reasons may exempt themselves by filing Form 8274. Employees of those churches have to pay their Social Security and Medicare payroll taxes as if they were self-employed.
If a church is not opposed, then it will pay FICA taxes just like any other business for their non-minister employees. Ministers always pay all of their own payroll taxes as if they were self-employed unless they choose to opt out.
How To Revoke A Church’s FICA Exemption
When a pastor opts out of Social Security and Medicare (payroll) taxes, it is permanent. There is no option to opt back in. However, the IRS does not take such a hard-line approach with churches. Churches are able to reverse their FICA exemption and start paying payroll taxes for their employees at any time. To revoke its exemption, a church simply has to start paying the taxes.
How To Start Paying FICA Taxes For Churches
Form 941 is the form that employers file with the IRS along with the taxes that they have withheld from their employees’ paychecks. Even churches that don’t pay FICA fill this out and send it in with the income taxes that they have withheld from their (non-minister) employees’ pay. Exempt churches simply check a little box on the form (currently line 4) saying that they don’t have to pay Social Security and Medicare taxes and skip that section.
To revoke the exemption, a church just doesn’t check that little box. Leave the box empty and then calculate the payroll tax obligation on the subsequent lines. Then, pay the tax liability in full when you submit the form. It’s that simple. You can make the change any time, just file and pay on or before the due date for the first quarter for which the revocation is to be effective.
It would be wise, also, to let the non-minister employees know that they no longer have to pay both halves of the payroll taxes as if they were self-employed. I’m sure that will be welcome news for them.