NEW YORK — In these rough economic times, funding long-term care poses a challenge for seniors and their families. There are a range of strategies you can pursue, though.

Older Americans who had banked on selling their homes to finance care in assisted living facilities and retirement communities have seen their dreams go up in smoke amidst a housing market meltdown. At the same time, their investment portfolios have nose-dived.

For people without long-term care insurance, which is the majority, the financial hit can be hard if care is needed. The average cost of a private room at a nursing room runs $76,500 per person annually, while a one-year stay in a one-bedroom unit in an assisted living facility costs $36,000 and periodic care from a home health assistant at $18,000 or more per year doesn’t come cheap. While there are no easy answers, shopping around, switching the care setting, pooling family finances and looking at loan options can be conduits to affordable care.

Many independent living and assisted-living facilities, in particular newer facilities or those that embarked on ambitious expansion plans when the economy was riding high, are offering specials to boost flagging occupancy rates.

“Many facilities are offering to defer rent until seniors can sell their homes or are offering lower introductory rates for the first six months’ as sweeteners, says John Temple, chief operating officer at A Place for Mom Inc., a national senior housing referral service. (The service is provided free to consumers. A Place for Mom is compensated by the facilities when a senior is placed).

Many facilities will waive the “community fee,” a deposit typically equivalent to one-months rent, to those who ask. The best deals to be had are often at smaller residential homes, as they need to fill vacancies quickly and they have more latitude to cut individual deals, according to Temple.

Continuing-care retirement communities, which offer more health services as seniors age, typically require entrance fees of hundreds of thousands of dollars plus monthly fees. Cheryl J. Sherrard, a certified financial planner at Rinehart & Associates in Charlotte, says switching to a smaller apartment can be a money-saving strategy for older Americans who’ve set their hearts on moving into a specific retirement community.

“I’ve seen communities allow couples to move in with a percentage of the entry fee due initially, but a delay on the remainder being due for a period of six months after move-in,” giving seniors wiggle to complete the sale of a house, she says.

“Retirement communities backed by nonprofit religious organizations can be a more affordable option,” says Karen Schaeffer, president of Schaeffer Financial in Rockville, Md. (These communities welcome people of all beliefs).

Temple recommends asking independent and assisted-living facilities about “non-premium rooms’ that can be real bargains, but generally aren’t advertised. Longer walks to the dining room and less desirable layouts or views account for the cheaper rates. Having a roommate might not be everyone’s cup of tea, but “companion rates” can shave $1,000 a month off rent for single seniors who are willing to share, he says.

Widening your geographic search even by just a few miles can produce more budget-friendly options, says Karen Altfest, vice president of L.J. Altfest & Co. Inc., a fee-only financial planning firm in Manhattan.

Family members can pitch in toward the cost of care in a variety of ways. For instance, individuals can make gifts of up to $12,000 per person per year without paying a federal gift tax. That exclusion amount will increase to $13,000 in 2009.

Another option is an intra-family loan. This could provide a mechanism for adult children to lend money to cash-strapped parents who need funds now to pay for care until they can sell their homes.

A reverse mortgage is another option. Reverse mortgages enable home owners aged 62 or older, who own their home outright or have a small mortgage balance, to convert home equity into cash without selling the house. The Home Equity Conversion Mortgage, or HECM, insured by the Federal Housing Administration and backed by the U.S. Department of Housing and Urban Development, or HUD, is the most popular kind. Lending institutions also offer their own proprietary products.

The amount you can borrow will depend on your age, how much your home is worth and current interest rates. For a HECM the limit is $417,000, proprietary products may allow you to borrow more.

Payments can be taken as a lump sum, in regular installments or as needed, or through a combination of these options. The accrued principle and interest comes due when the last borrower dies, sells the home or moves out permanently.

A big drawback of a reverse mortgage is the high fees, which closely mirror the closing costs on a regular mortgage. For this reason, says Sue Hunt, a housing counseling programs manager for Consumer Credit Counseling Service of Greater Atlanta, reverse mortgages tend to make the most sense for people who want to spend the rest of their lives in their homes and whose total income, including the loan, will be sufficient to cover all their future expenses, she says.

Another consideration is what, if anything, you plan to leave your heirs.

With any type of loan, it’s important to ensure you understand the fees, interest rates, repayment terms. For instance, an important safety feature of a HECM is that your payments from the lender are guaranteed by the federal government. Plus, if your home is sold for an amount lower than the value of the loan neither you nor your heirs will be liable for the balance, which isn’t always the case with proprietary products.

And finally, whatever financial strategy you’re thinking of pursuing don’t forget to run it by your tax adviser before you sign on any dotted lines.

By Victoria E. Knight
A DOW JONES NEWSWIRES COLUMN

WASHINGTON — U.S. Federal Reserve officials on Tuesday slashed official interest rates to an historic low range to combat a deepening recession and signaled they will keep rates “exceptionally low” for some time amid rapidly waning price pressures.

Officials also signaled a new phase for policy in which lending programs financed by the Fed’s ballooning balance sheet, a process known as quantitative easing, replace the federal funds rate as the Fed’s primary policy tool.

The Federal Open Market Committee voted unanimously to reduce the target fed funds rate for interbank lending from 1% to a range of zero to 0.25%, the lowest since the Fed started publishing the funds target in 1990. The market-determined effective fed funds rate already has already hit record lows in recent weeks.

Economists had expected a smaller cut of just 0.5 percentage point, and hadn’t envisioned the Fed setting a range.

“The Committee anticipates that weak economic conditions are likely to warrant exceptionally low levels of the federal funds rate for some time,” the Fed said, adding it will “employ all available tools” to promote growth and maintain price stability.

The Fed has used a variety of operating targets through the decades, including the discount rate and monetary aggregates.

The Fed also lowered the discount rate paid by commercial and investment banks for Fed loans by 0.75 percentage point to 0.5%.

In a statement, the FOMC said its focus “will be to support the functioning of financial markets and stimulate the economy through open market operations and other measures that sustain the size of the Federal Reserve’s balance sheet at a high level.”

Ben Bernanke tipped the shift toward quantitative easing — in which cash is essentially created and used to finance lending facilities — earlier this month. He said that while the Fed’s ability to use interest rates to support the economy “is obviously limited” with rates so low, the “second arrow in the Federal Reserve’s quiver — the provision of liquidity — remains effective.”

Even President-elect Barack Obama on Tuesday said “we are running out of the traditional ammunition that’s used in a recession, which is to lower interest rates, they’re getting to be about as low as they can go.”

The Fed already has nontraditional initiatives in place to support lending to commercial and investment banks, provide U.S. dollar funding overseas and stabilize commercial paper and money market mutual funds. The Fed recently started purchasing agency debt and has announced plans to purchase hundreds of billions of dollars of agency-backed mortgage backed securities and consumer-linked asset backed securities.

In Tuesday’s statement, the Fed also said it is “evaluating the potential benefits of purchasing longer-term Treasury securities.”

When loans to Bear Stearns and American International Group are included, the Fed’s balance sheet now tops $2.2 trillion, more than double where it was when Lehman Brothers collapsed in mid September.

Meanwhile, the drumbeat of economic news worsened considerably between the late October and December FOMC meetings, highlighting the need for more stimulus. Consumer spending got off to a horrible start in the fourth quarter, and the economy lost more than 500,000 jobs in November alone, a total that could be matched or exceeded this month.

On Dec. 1 the National Bureau of Economic Research, the semi-official arbiter of recession, declared that the U.S. has been in a recession since last December. And it appears to be getting worse. Wall Street economists expect U.S. gross domestic product to plunge as much as 6% at an annual rate or even more this quarter. Some are penciling in another steep drop for the first quarter of 2009.

“The outlook for economic activity has weakened further,” the Fed said, noting weak labor markets and declining consumer spending, production and investment.

That weakness, coupled with a steep declines in energy prices, has not only brought inflation rates down sharply but also fanned some fears of outright deflation — which is a sustained, economy-wide decline in prices that cripples consumer and business spending. In its worst form, deflation is associated with Japan’s deep recession earlier this decade as well as the Great Depression.

According to November consumer price data released Tuesday, annual U.S. inflation is now running just 1.1%, matching its lowest rate since 1965. If December data come in soft as expected, the annual rate could approach zero.

“Inflationary pressures have diminished appreciably,” the Fed said, citing lower energy prices and the weak economy.

Still, Fed officials didn’t go as far as they did in 2003, when they referred in policy statements to the risk of an “unwelcome fall” in inflation.

Officials have good reason to avoid such language for now. Outside of energy and energy-dependent sectors, prices are still rising albeit at a slower pace then they were a few months ago.

And the Fed’s deflation fears in 2003 and 2004 appear in hindsight to have been overblown and may even have contributed to ultra-low interest rates that fueled the housing bubble.

By Brian Blackstone andMaya Jackson Randall
Of DOW JONES NEWSWIRES

Transfer & Gifting

I was having a conversation with a wealthy individual this week and after we were done talking about how much money he had lost in the markets I suggested that perhaps he should give some of what he has left away. He looked at me like I was from outer space.

During periods of difficult markets, it may seem superfluous to speak of giving wealth away, whether planning for beneficiaries, charities or other potential recipients. But this is one of the areas in which difficult markets can help in the process of transfer to a greater
effect than in more bullish times.

One aspect of difficult market years is that it provides some relief in that transfers of wealth to younger generations are made much easier. Whether giving wealth away to trusts, charities or other people, a depressed value can help to minimize taxes and other administrative problems associated with building an estate plan.

Gifting

• Gifts of securities held by your broker on your behalf are not considered completed until the position is credited to the donee’s account. If the security is held in registered form in the name of the owner, the gift is not completed until the registered owner has formally changed on the corporate books.

• Gifts of cash are not considered to have been completed until the check is paid by the bank on which it is drawn, not when the check is given to the donee. A client can save gift and estate taxes by making gifts sheltered by the annual gift tax exclusion before the end of the year. An individual can give $12,000 per person per year (a married couple can provide separate gifts of $12,000 each for a maximum total of $24,000 in 2008) to an unlimited number of individuals without incurring gift taxes but cannot carry over unused exclusions from one year to the next.

• Given that 2008 has been a difficult year for market returns, now may be the right time to consider the rescission of gifts made earlier in the year when their values may have been substantially higher. A rescission is always easier to accomplish during the year in which the gift was given and may now allow for more securities to be gifted than when the prices were higher.

• Taxpayers should check with their tax advisors regarding the advantages, disadvantages and process of gift rescission and whether it may be a useful strategy to employ given their tax situation.

Direct Charitable Contributions from an IRA

For taxpayers who are age 70½ or older and who own IRAs (or Roth IRAs), charitable gifts can now be made from their retirement accounts, paid directly by the IRA trustee, achieving important tax savings.

As part of the Emergency Economy Stabilization Act of 2008, Congress has extended the charitable donation incentives through 2009, limiting the amount allowed to $100,000 per taxpayer from either IRAs or Roth IRAs per year, excluding the amount from distributions to taxable income. A married couple can donate $200,000 per year. If the purpose of the charitable intention is to maximize donations without paying any additional tax, then donations for 2008 must be made by the end of the year. Afterwards, a second donation can be made in 2009. All donations must be paid directly to the charity from your IRA/Roth IRA trustees, who must then provide detailed written substantiation (receipts) to prove the donations were made and are eligible for treatment.

Also, please note that assets in 403(b) plans, 401(k) plans, pensions and other retirement plans are ineligible for this tax-free treatment.

Charitable Contributions

The timing of charitable contributions can have an important impact on year-end tax planning. Charitable contributions should be timed so as to obtain the maximum tax benefits for the year. If a taxpayer plans to make a charitable contribution in 2009, he or she should consider making it this year instead if speeding up the deduction would produce an overall tax savings (e.g., because the taxpayer will be in a higher marginal tax bracket in 2008 than in 2009).

• On the other hand, a taxpayer who expects to be in a higher bracket in 2009 may wish to consider deferring their contributions.

• In making any sizeable charitable contributions, the contributions should be made, to whatever extent is possible, in appreciated capital gain property that would result in a long-term capital gain, if sold. That way, a deduction generally is obtained for the full value of the property, such as shares of stock, etc., while any regular income tax on the appreciation in value is avoided. One caveat to this deduction is that for tangible property this favorable treatment is only available if the donated item is related to the exempt purpose of the donee charity.

• An additional consideration is that gifts made with short-term capital assets are limited only to a deduction equal to the purchase price of the asset.

This is a very emotional time for individuals when it comes to the discussion of money. But if you plan to make gifts to family or charities, it is wise to put emotions aside and let the figures do the talking. With that in mind, make sure you have a professional help with these decisions. Mistakes can be costly.

Beginning as of January 1st, 2008, a plan participant may now directly rollover from eligible retirement plans (including all qualified plans, 403(b) and 457(b) plans) to a Roth IRA, subject to Roth IRA limitations. The conversions for 2008 are only available to taxpayers with $100,000 or less in adjusted gross income (AGI), as in prior years.

Taxpayers should be aware that the actual conversion process is not tax-free. The taxpayer must include in gross income the taxable portion of the conversion amount; but they are not generally subject to penalties for premature distribution.

Given the difficult market environment during 2008, now may be a particularly attractive time to consider a Roth conversion. Since the Roth conversion is in itself a taxable process, the taxpayer would benefit from converting securities now that may represent a lower valued basis on which the taxes are assessed. If a taxpayer has already made a Roth conversion in 2008, and experienced a loss in portfolio market value, there may be an opportunity to benefit from a Roth IRA Re-characterization.

In a re-characterization, the conversion/contribution is effectively undone; the assets are shifted from the account which received the initial contribution/conversion to the account which will subsequently maintain the assets.

There may be several reasons for a re-characterization, including a failure to meet Roth eligibility requirements (Modified Adjusted Gross Income in excess of $100,000 for example, or an individual who has elected to file Married Filing Separately), conversion of required minimum distribution amounts due on the IRA or a failure to meet the 60-day rollover contributions.

If the conversion took place during a year of significant market declines, a re-characterization back to an IRA and then a subsequent, later conversion may result in less tax. Caution must be exercised in re-characterizing, and then later reconverting, as a failure to follow the time guidelines can create a failed conversion as a Premature Reconversion. The general rules are that a taxpayer must wait until the later of either the beginning of the year following the year in which the conversion occurred or thirty days after the re-characterization is completed. Also, because gains in a re-characterized account may create tax problems in earnings on excess contributions, the taxpayer should consult with their tax advisor to see if re-characterization may be a worthwhile opportunity.

If you are not currently eligible to make a deductible contribution to an IRA or a Roth contribution, now may also be a good time to consider making non-deductible contributions to an IRA in anticipation of converting the proceeds at a future date to a Roth IRA. If you do so, then the only taxable portion of the conversion would be the appreciation of holdings being converted. In 2010, the AGI limitation for Roth conversions will be lifted, making then a good time to consider conversion.

There are some complications if the taxpayer has other traditional IRA accounts, so this primer should only be the first step in your investigation regarding your transactions. Please consult with your tax advisor before considering conversion to a Roth IRA. Mistakes may be costly and irreversible.

In a year in which portfolios have been decimated, it is hard to find a silver lining but controlling capital gains and losses could have significant tax consequences. As the market has declined, many investors have redeemed mutual funds and the funds needed to sell investments to meet those demands. Some of these sales may have included long-term positions in which the mutual fund may have had a significant capital gain. That means, in a year in which your mutual fund may have dropped 50% in value, you may still have significant capital gains exposure.

 For retirees, that is a difficult pill to swallow. Making sure you offset these gains with losses or adjusting portfolios to take advantage of losses this year against future years gains is an important consideration. Here is a primer of what the rules are.
 
Capital Gains and Losses

Assets owned and then sold, or otherwise disposed of, may generate a capital gain or loss. Assets that have been held longer than one year are considered ‘long-term,’ while on assets held for less than a year, the gain is considered short-term. The distinction is an important one.

• The maximum tax rate for long-term capital gains is 15% for both ordinary income tax and for AMT; but long-term capital gains are preference items for calculation of Minimum Tentative Tax. Be aware that, for some investors, specifically those with lower taxable income (in 2008, $32,550 for a single; $65,100 for a married couple; and $43,650 for heads of households), tax rates on capital gains would be 0%, so the harvesting of capital losses would be wasted, since they will not be taxed on their gains anyway.

• Gains and losses on assets owned less than one year are short-term. In calculating the tax on sales of assets, a taxpayer must first net the short-term gains and losses, then net the long-term gains and losses independently. Then the short-term and long-term gains/losses are netted against one another. If a net capital loss is generated, it may be used to offset up to $3,000 of ordinary income and the unused portion (if any) may be carried forward indefinitely (expiring at the death of the taxpayer). Capital losses realized on the sale of securities may also be used to offset capital gains on other classes of assets, such as real estate and vice versa on Schedule D.

• Careful planning to harvest any capital gains or losses from sales of stock or other capital assets can minimize tax on gains and maximize the tax benefit from losses. Normally, a taxpayer should try to avoid having long-term capital losses offset long-term capital gains, since those losses will be more valuable if they are used to offset short-term capital gains or ordinary income. To do this requires making sure that the long-term capital losses are not taken in the same year as the long-term capital gains.

• Planning for the offsetting of gains and losses is not just a tax issue. As is the case with most planning involving capital gains and losses, investment factors need to be considered. The decision to wait to defer a gain until the next year needs to be balanced against the risk to the value of the property, whether its value may decline before it can be sold. Similarly, a taxpayer should not risk increasing the loss on property that he expects will continue to decline in value by deferring the sale of that property until the following year.

• Additionally, a taxpayer is permitted to identify which shares are sold during a given year as part of their transaction. These are called ‘Versus Purchase’ sales and allow taxpayers to identify which shares are sold to best advantage from a capital gains/loss standpoint.

• A taxpayer who owns appreciated mutual funds, which may also be good candidates for sale, may wish to consider selling those funds prior to the December capital gains payment made by fund managers to shareholders. A 15% capital gains rate is much better than having to pay ordinary income tax rates, which could be as high as 35%. There are also other advanced planning techniques which can be used to help defer the payment of capital gains tax. Please consult with your tax advisor to determine which may be best for you.

Make sure you consult your tax advisor before doing anything and consider the consequences of any portfolio adjustments on your asset allocation. In a year in which investors have suffered, you need to take advantage of what you can to improve your position for this and future years.

The percentage of U.S. mortgage holders who were behind in their payments soared to a record 6.99% of loans outstanding in the third quarter, the Mortgage Bankers Association said Friday, and the number of mortgages somewhere in the foreclosure process was also at a new high.

But the number of mortgages on which foreclosure proceedings was started actually fell slightly during the third quarter compared with the second quarter, according to the Mortgage Bankers Association’s quarterly delinquency survey. But that doesn’t necessarily indicate a slowdown in foreclosures, said Jay Brinkmann, MBA’s chief economist.

“An initial look at the number of foreclosure starts would seem to indicate at least a leveling off of foreclosures,” Brinkmann said. “These numbers, however, are being influenced by several factors including various moratoria on foreclosure filings and by mortgage companies holding loans in the 90-plus-day bucket during the modification and workout process.”

“Evidence of this can be seen in the large increase in loans 90 days or more past due but not yet in foreclosure. This rate jumped by 45 basis points, the highest increase in this category ever recorded in the MBA survey and far above the average 4 basis point jump we would expect to see,” he added.

Mortgages entering the foreclosure process fell to 1.07%, from 1.08% in the second quarter but were up from 0.78% a year ago. The delinquency rate for mortgage loans on one- to four-unit properties was 6.99% of all loans outstanding at the end of the third quarter. That’s up from 6.41% at the end of the second quarter and 5.59% a year ago, according to the survey.

“There are some good reasons, in a sense, why that number might go up,” Brinkmann said, during a phone interview. As mortgage lenders and servicers try and work with borrowers, constructing repayment plans and modifying loan terms, those borrowers will remain classified as delinquent until they can show they can make payments on time, he said.

The percentage of loans somewhere in the foreclosure process also rose in the third quarter to 2.97%, up from 2.75% in the second quarter and 1.69% a year ago, and a new record.

But some of the reasons why people are struggling to make their mortgage payments are shifting, Brinkmann said.

In past quarters, California and Florida have had some of the highest foreclosure start numbers, and much of that had to do with a combination of too many houses, speculation and weak underwriting, he said. Now, those states are dealing with job losses.

“Economic fundamentals are now deteriorating in California and Florida. Over the past year, Florida led the nation in job losses at 156,200, with California losing 101,300, as compared with Michigan job losses at 71,200 and Ohio at 17,300,” he said in the release.

Subprime mortgages continued to perform poorly, with more than 19.5% of those loans seriously delinquent in the third quarter, meaning homeowners were more than 30 days past due on payments.

Amy Hoak: Dow Jones News

WASHINGTON — The U.S. recession deepened last month as U.S. companies shed jobs at the fastest rate since the early 1970s, pushing the unemployment rate to its highest level in 15 years.

The figures suggest the year-old recession will approach or even exceed the 1981-1982 downturn in severity and support expectations that Federal Reserve officials will soon lower interest rates to levels not seen in a half century.

Nonfarm payrolls, which are calculated by a survey of establishments, plunged a larger-than-expected 533,000 in November, the U.S. Labor Department said Friday, the 11th-straight decline and largest since December 1974.

The economy has lost more than 1.2 million jobs in the last three months alone following big revisions to September and October that showed even steeper job cuts than first reported.

The pullback is broad-based, including manufacturing, construction and most service industries. Excluding a small rise in government payrolls, private-sector employment plummeted even further last month. Companies including Mattel Inc. (MAT), Circuit City Stores Inc. (CCTYQ), Sun Microsystems Inc. (JAVA) and Citigroup Inc. (C) all announced layoffs last month.

The unemployment rate, which is calculated using a separate survey of households, rose 0.2 percentage point to 6.7%, the highest since October 1993. Economists think the jobless rate, which was just 5% as recently as April, will hit 8% or higher in coming months.

Economists polled by Dow Jones Newswires expected a 350,000 decline in payrolls last month and a 6.8% jobless rate.

By some broader measures, labor-market conditions are even worse. When marginally attached and involuntary part-time workers are included, the rate of unemployed or underemployed workers reached 12.5% last month, up 0.7 percentage point from October.

Average hourly earnings, meanwhile, increased $0.07, or 0.4%, to $18.30. Though a slightly faster gain than expected, that was still up just 3.7% from a year earlier, suggesting the economic downturn is making it harder for workers to demand higher wages, further restraining household spending.

Friday’s report further cements Wall Street expectations that Fed officials will lower their key policy rate at the conclusion of their Dec. 15-16 meeting. The fed funds rate already sits at just 1%, matching its 2003-2004 low, and economists expect at least another 0.5 percentage point reduction on Dec. 16.

In a speech Monday, Fed Chairman Ben Bernanke called further rate reductions “certainly feasible.” He also hinted at even more dramatic steps including direct purchases by the Fed of longer-dated Treasury and agency securities, which would effectively monetize a portion of the U.S. debt. Calls for that type of action, as well as a massive fiscal stimulus package early next year, should gain steam in light of the employment data.

Indeed, Friday’s numbers cap a series of bleak economic reports this week suggesting that after escaping a serious downturn so far, the U.S. faces the type of severe recession that occurred in the early 1980s rather than the relatively mild ones of the early 1990s and 2001. Automakers and retailers reported dismal sales in November despite efforts to lure consumers with discounts, suggesting households are putting off spending as they face an uncertain economic climate.

Many economists expect U.S. gross domestic product will contract 4% at an annual rate or even more this quarter after falling 0.5% in the third quarter.

According to Friday’s report, hiring last month in goods-producing industries fell 163,000. Within this group, manufacturing firms cut 85,000 jobs, with automobile and auto parts makers accounting for 13,000 job losses. Manufacturing losses would have been even larger if not for the return of 27,000 striking aerospace workers last month, the Labor Department said.

Construction employment was down by 82,000.

In a particularly worrying sign, service-sector employment plunged 370,000. Labor-intensive services make up the vast majority of employment and usually cushion downturns. Yet business and professional services companies shed 136,000 jobs — the 10th drop in 11 months — and financial-sector payrolls were down 32,000.

Retail trade cut over 91,000 jobs, reflecting the pullback in consumer spending. Leisure and hospitality businesses, meanwhile, shed 76,000 jobs.

Temporary employment, which economists consider a bellwether for future job prospects, fell more than 78,000.

Continuing a recent trend, the main bright spots were in health care and education, which tend to be more labor intensive and less productive than manufacturing and other services. Employment in those sectors rose 52,000.

The government added 7,000 jobs.

The average workweek fell 0.1 hour to 33.5 hours. A separate index of aggregate weekly hours fell one point to 104.7.

By Brian Blackstone
Of DOW JONES NEWSWIRES

NEW YORK — Taking care with a 401(k) plan after being laid off by your employer may prevent easy-to-make mistakes that can cut sharply into life savings.

Many people run up big, unnecessary tax bills on 401(k) money after job losses; others forfeit thousands of dollars in potential investment returns. Widespread job cuts now under way make this a likely time for missteps.

Consider the financial strength of the 401(k) sponsor in this harsh economy before deciding what to do with the plan. Other things to look at are the quality of the plan, and whether it holds company stock.

Even financial advisors are not immune to 401(k) errors; a surprising number lose money for clients by mishandling their plans after a job change.

“Some of the biggest mistakes I see are made right under the nose of advisors and with their consent,” said Ed Slott, an IRA expert whose latest book is “Your Complete Retirement Planning Road Map.”

Four routes are open for the 401(k) participant after a layoff: leaving the money where it is, cashing it out, or rolling it over into an individual retirement account or a new employer’s plan.

In Bad Economy, Consider Employer’s Health

Hard times create potential drawbacks to sticking with the old 401(k). Many companies are struggling, making it harder to know whether complications could arise.

Holly Isdale, managing director at Barclays Wealth, a unit of Barclays PLC (BCS), says it can be difficult to deal with a 401(k) plan if the old employer is purchased by another company. Just figuring out whom to call for help may confuse some people.

“Even the most solid-looking companies may turn out to be on the brink of disaster,” said Slott, who advises recently terminated employees not to trust their 401(k)s to the former employer.

Leaving money in the plan after losing your job can lead to an untended account balance reviewed only when statements are sent. That scenario is potentially disastrous right now. John Nersesian, managing director of wealth management at Nuveen Investments, says the practice of “’set it and forget it” will not work in this environment.”

Money in a 401(k) plan is protected under the Employee Retirement Income Security Act of 1974, or ERISA, and former employees will get their retirement money even if the company goes bankrupt (unless all the money is in company stock that becomes worthless, as was the case with Enron Corp).

Nonetheless, corporate changes can cause trouble for a period of time.

“When a company begins to get into problems, if you have money in the stock of the company, you could lose the ability to sell those shares for a while,” said Dallas Salisbury, president and CEO of the Employee Benefit Research Institute, a nonprofit employee benefits research organization in Washington.

Still, it can make sense to leave the 401(k) money with the old company if the plan has good investment options and competitive fees. If it offers helpful information through a Web site and advisors who give independent advice, so much the better.

Tax Error To Cash Out

As for cashing out a 401(k) plan, the option may be tempting, especially if one is unemployed and cash-hungry. The move is a tax disaster, however, and goes against one of the main purposes of having a 401(k).

Taking money out before age 59 1/2 (age 55 if separated from service at that age or older) triggers federal income tax at ordinary income rates, a 10% federal penalty, and state penalties in some cases. State and local income tax may also apply, depending on where you live.

The Schwab Center for Financial Research uses the example of a hypothetical 401(k) worth $56,000 to show the perils of early withdrawal. A federal penalty of $5,600 plus, say, 28% in federal income tax are triggered by taking out the money early. The $56,000 shrinks to $34,720, not including state and local taxes the person may owe.

The cost of lost investment opportunity could be huge, Schwab notes. The $56,000 left to grow at a hypothetical 8% annual rate of return would amount to roughly $563,000 some 30 years from now.

Withdrawing even a portion of the money, say $5,000, is also a bad idea. The participant pays a $500 penalty plus $1,400 in federal tax (assuming a 28% bracket), leaving just $3,100, and with state and local taxes possibly still left to pay. That $5,000, growing tax-deferred at the hypothetical 8% for 30 years, could become $50,300 in retirement money, Schwab notes.

Benefits of Rolling Over

Rolling over a 401(k) into an IRA is one way to keep money growing tax-deferred while you remain flexible and in control. IRAs allow one to invest in a range of products, including mutual funds, stocks and bonds.

Rollovers also help reduce the clutter that can result after a few job changes leave one with several 401(k) plans.

A big hitch for those rolling over into an IRA, though, is the 60-day window that begins when the distribution from the 401(k) is made. Missing the deadline triggers ordinary income tax on the full amount of the distribution.

Though it may seem like a no-brainer to get money out of the plan and into an IRA within 60 days, the deadline poses a problem for many people.

“This is the biggest challenge in rollovers,” said Salisbury. “Historically, people take out the amount and forget to roll it over; they then get a 1099 [form] at the end of the year from former employer saying, “You now have to pay taxes.’”

A direct rollover, also known as a trustee-to-trustee transfer, is a good way to avoid missing the deadline, according to Kaye Thomas, who publishes the tax advice Web site www.fairmark.com.

A special tax break makes it imperative that you review company stock in your plan. Tax rules known as net unrealized appreciation, or NUA, give favorable treatment to some appreciated company stock. To qualify, the taxpayer must have left the company, reached age 59 1/2, died or become disabled.

Then, he must take all of the funds out of the 401(k) plan within one calendar year and put the company stock into a taxable account. Ordinary income tax is due on the cost basis of the company stock (the amount paid for it). Ordinary income tax is also due on the rest of the 401(k) plan funds (the non-company stock), unless they are rolled over to an IRA within 60 days of the distribution.

When the stock is eventually sold, the untaxed gain (the NUA) is taxed at long-term capital gains rates. Any further appreciation is taxed as short-term capital gain unless the stock has been held outside the plan for more than a year, when it is taxed as long-term gain.

By Arden Dale
A DOW JONES NEWSWIRES COLUMN

Many investors are on automatic pilot when it comes to contributing to their 401(k) plans. So as they approach retirement, some are confronting a choice they hadn’t given much thought to before: Should they leave their nest egg where it is or roll it over into an Individual Retirement Account?

While there are benefits and drawbacks to both options — an IRA may offer more investment flexibility, for example, while a 401(k) can be easier to tap in an emergency — a wrong decision can be costly, further eroding savings that already have taken a beating in the bear market. Cerulli Associates, a financial-services research firm in Boston, expects 401(k) plans overall to decline 16% this year, and IRAs to drop 12%.

With that in mind, advisers urge investors to do their homework before making a rollover decision: Analyze the range of offerings in your 401(k) plan, envision when and for what reason you might tap your retirement savings and examine the tax consequences of both options, paying special attention to what happens if funds are rolled over incorrectly. For some retirement savers, it may be the first time they have given any significant thought to these kinds of issues.

“It’s like asking people why they don’t exercise — it’s just easier not to,” says James Shagawat, a wealth-management principal with Baron Financial Group in Fair Lawn, N.J., who says many of his clients begin the retirement-planning process with multiple 401(k) accounts that they have accrued through various employers — and then ignored. Inaction is common, he says.

For those contemplating the benefits and potential consequences of rolling over some or all of their 401(k) savings into an IRA, here are some things to consider:

Stock and Taxes

If you have a significant amount of employer stock in your 401(k) plan, think carefully before pursuing an IRA rollover. The IRS offers tax savings to certain 401(k) account holders who take lump-sum distributions of employer stock, says Natalie Choate, a Boston-based attorney specializing in estate-planning and retirement benefits. A rollover to an an IRA would permanently extinguish that opportunity, she says.

Here’s how it works: You’ll need to empty your entire 401(k) account to take advantage of the deal. Generally, such a lump-sum distribution is taxable as ordinary income — currently a 35% maximum. If you withdraw $1 million, you could owe as much as $350,000 in income tax. But an employee who takes a lump-sum distribution of employer stock pays ordinary income tax only on the amount the plan paid for the stock — known as the plan’s cost basis.

So say you take a $1 million lump-sum distribution from your 401(k), $500,000 of which is employer stock. If the plan’s cost basis of the stock was $100,000, you would pay income tax at ordinary rates only on the $100,000, and the additional $500,000 of other assets in your plan. The IRS considers the remaining $400,000 of employer stock “net unrealized appreciation” of employer securities. You would pay tax on that when you sell the employer stock — but at long-term capital-gains rates, which max out at 15%.

Don’t let the current market declines fool you into overlooking the possibility. “You may have significant appreciation that you’re not thinking of — especially if you’re with a company a long time,” says Ed Slott, an IRA consultant in Rockville Centre, N.Y.

Helping Heirs

Wanting to give heirs the opportunity to accumulate tax-deferred wealth is a substantial reason to consider an IRA rollover, says Mr. Slott.

Under a strategy known as “the stretch,” the designated beneficiary of an IRA can take small, taxable distributions over the course of his or her life expectancy, while allowing the remaining funds to accrue on a tax-deferred basis. Tax laws allow many 401(k) plans to offer the stretch option, but most plans don’t, says Ms. Choate.

Mr. Shagawat, the New Jersey-based financial planner, says he is working with a 14-year-old beneficiary of an $80,500 IRA, whose father died in his 50s. The client can take an annual $1,200 distribution from the IRA based on his estimated life expectancy of 68.9 years. The remaining funds will continue growing tax-deferred, to as much as $3 million, according to Mr. Shagawat’s estimates.

The inherited IRA must be properly titled, says Mr. Slott, to include the name of the deceased, date of death and beneficiary’s name. Tax benefits are lost if the beneficiary deposits the IRA funds into a personal IRA.

Choices, Transparency

The range of investment choices available through a 401(k) plan is an important factor to consider when contemplating an IRA rollover. Pran Tiku, a financial adviser in Waltham, Mass., says that even when the investment choices offered through an employer plan are good, “they’re never unlimited or customized to what a person may need at the time.”

Say an investor approaching retirement age needs to invest in more fixed-income securities, but his 401(k) plan offers only a money-market fund and a bond fund. Foreign bond funds, accessible through an IRA, could offer that investor a higher yield, he says.

Leo Bellefleur, a 62-year-old retired sales executive from Princeton Junction, N.J., says he participated in eight 401(k) plans during his employment and eventually rolled over each one to an IRA. “I totally felt that I had more choices,” he says.

In some cases, 401(k) participants who are still working can roll over funds into an IRA. Mr. Shagawat says the strategy can increase investment choices and benefit older investors who are still employed. But not all plan administrators allow the option, and many who do require the participant to be at least 59 1/2.

Potentially high 401(k) fees, which can eat into retirement savings — particularly when stock-market returns are down — also may be a concern. Last year, 58% of plans forced participants to pay administrative costs, up from 33% in 2001, while 46% charged participants for investment-advisory services, up from 22% in 2001, according to Hewitt Associates in Lincolnshire, Ill.

While fees for IRAs are clearly outlined, they often are difficult to assess in 401(k) plans because they generally are factored into the overall return, says Tricia Welsh, a Boston-based financial planner. Fees tend to be higher if an insurance company, rather than a mutual-fund company, is administering the 401(k), she says.

Transparency may change, however. Lawmakers have introduced bills calling for better 401(k) fee disclosure, while the Department of Labor has proposed new regulations to beef up fee disclosure to employers as well as participants.

Cash Crunch

The nation’s economic crisis has left many prospective retirees short of cash. Financial strife can be a reason to keep your money in your 401(k) plan. You can borrow from the account without penalties if you are still working. “But it’s a noose,” says Mr. Tiku. “Sometimes it seems like an easy solution, but people can end up owing,” he says. If you leave your job or are laid off before age 55 and can’t repay the loan, the IRS treats it as an early withdrawal, subject to income tax and a 10% penalty.

But investors can take early distributions from their 401(k) accounts and avoid the 10% penalty if they are laid off or otherwise stop working during the year they turn 55, says Helen Modly, a financial planner in Middleburg, Va. “If you’re laid off in that age group, the best thing is to leave your money in a 401(k),” she says. Early withdrawals from either type of account, however, are subject to income tax (except in the case of a Roth IRA, which requires after-tax contributions), which could put a dent in retirement savings, she says.

IRA account holders can tap funds before retirement without penalties by setting up a series of equal withdrawals over time, known as a 72(t) program or SEPP, which stands for Series of Equal Period Payments, says Ms. Modly. You can also withdraw from a traditional IRA without penalties once a year provided you repay the funds within 60 days. Mr. Tiku says some investors rely on the option to access cash during an emergency. But funds that aren’t repaid within 60 days are subject to a 10% early-withdrawal penalty, in addition to ordinary income tax if the account holder is younger than 59 1/2. Contributions withdrawn from a Roth IRA are not subject to income tax, penalties or the 60-day restriction.

Insulating retirement funds from creditors may be something to consider, particularly if you are a small-business owner, says Ms. Choate. Federal law protects 401(k) accounts from lawsuits, she says. IRAs are protected from creditors in bankruptcy proceedings, but the assets of account holders with financial troubles who don’t qualify for bankruptcy protection remain exposed, she says.

Family Matters

Second marriages and marital problems may be among the reasons to consider an IRA rollover. Federal law says surviving spouses automatically are entitled to 401(k) funds if the account holder dies. That could be a problem if you have children from a prior marriage and want them to share in your retirement savings, or are thinking about a divorce. Sure, you can change the 401(k) beneficiary designation while you’re alive — but only if your spouse consents in writing before a notary.

“IRAs provide a huge range of flexibility in terms of beneficiary designations — you can have as many as you want,” says Michael Deutsch, chief operating officer at Sovereign Wealth Management in Memphis, Tenn.

If you decide that an IRA is a better option for your retirement savings than a 401(k) plan, be sure to transfer the funds correctly, says Ms. Choate.

Set up the IRA first and then transfer the funds directly to that account through your plan administrator. Don’t transfer funds to a personal checking account. The IRS grants 60 days to roll the funds back into an IRA in the event of an erroneous deposit to the wrong account, but sometimes investors let things slip through the cracks. “People would save themselves a lot of grief if they get on top of the paperwork,” she says.

The rules regarding 401(k) plans and IRA rollovers are subject to change, particularly with a new presidential administration taking office in January. So far, however, no significant new changes or proposals have emerged, says Rick Meigs, president of 401khelpcenter.com, a Portland, Ore.-based 401(k) information service.

By Suzanne Barlyn
Of DOW JONES NEWSWIRES

WASHINGTON — U.S. Federal Reserve Chairman Ben Bernanke on Monday signaled that officials will hold nothing back in their support of financial markets and the economy, calling further interest rate cuts from already low levels “certainly feasible.”

In prepared remarks to an economic conference in Texas, Bernanke also said the Fed’s powers don’t end with the federal funds rate, and its ability to inject liquidity into markets through its balance sheet “remains effective.”

While officials will at some point need to bring short-term interest rates and liquidity back to more sustainable levels, “that is an issue for the future,” Bernanke said in the text of his remarks to the conference in Austin, Texas.

“For now, the goal of policy must be to support financial markets and the economy,” Bernanke said.

Among the Fed’s options, Bernanke said, are direct purchases of Treasurys and securities issued by government-sponsored enterprises “in substantial quantities” to affect yields, “thus helping to spur aggregate demand.”

He cited the Fed’s announcement last week that it will buy up to $600 billion in GSE debt and GSE-backed mortgage securities and called it “encouraging” that the announcement of that measure has brought mortgage rates down.

The Fed can also channel liquidity to certain segments of the financial markets, Bernanke said, citing the Fed’s recent measures to support the commercial paper market.

Bernanke said the U.S. economy “remains under considerable stress” and that after contracting 0.5% at an annual rate in the third quarter, “economic activity appears to have downshifted” after September.

Reflecting that assessment, the Institute for Supply Management’s November manufacturing index, released Monday, fell to its lowest level since 1982. Meanwhile, construction spending posted a steeper-than-expected drop in October, according to government figures. The November employment report, due for release Friday, is expected to show a plunge in nonfarm payrolls in excess of 300,000 with a further increase in the unemployment rate.

Indeed, Bernanke said weekly jobless claims figures “suggest that labor market conditions worsened further in November.” And with labor and credit conditions worsening, consumer spending is “on a pace to post another sharp decline in the fourth quarter,” he said.

The National Bureau of Economic Research, an academic group that determines when recessions occur based on a series of indicators, on Monday officially declared that the U.S. is in fact in a recession that began last December.

To prevent a deeper and prolonged recession, Fed officials are expected to lower interest rates at their Dec. 15-16 policy meeting, a view supported by Bernanke’s remarks Monday.

The target federal funds rate already sits at just 1%, matching lows last seen in 2003 and 2004. Further cuts would put the funds rate at levels not seen in a half-century.

Yet, even if the fed funds rate approaches zero — as a growing chorus of Wall Street economists expect — the Fed still has considerable sway over markets and the economy through its balance sheet.

“Although conventional interest rate policy is constrained by the fact that nominal interest rates cannot fall below zero, the second arrow in the Federal Reserve’s quiver — the provision of liquidity — remains effective,” Bernanke said.

That firepower was evidenced last week by the Fed’s decision to provide a loan backstop for the government’s bailout of Citigroup Inc. (C) and purchase GSE and GSE-backed mortgage securities.

Bernanke pledged that the Fed and other financial market regulators “will carefully monitor the conditions of all key financial institutions and stand ready to act as needed to preserve their viability in this difficult financial environment.”

However, he cautioned that government officials will have to at some point make dealing with the too-big-to-fail issue “a top priority.”

Bernanke was upbeat on the outlook for inflation, saying that with commodity prices down “dramatically,” inflation “appears set to decline significantly over the next year toward levels consistent with price stability.”

By Brian Blackstone
Of DOW JONES NEWSWIRES