Sfg Newsletter October 2006

Synergy Financial Group Your Personal CFO October 2006 Synergy Financial Group

George Van Dyke 401 Washington Ave #703 Towson, MD 21204 410-825-3200 [email protected]

I hope you all are enjoying this fall weather. Please call me if you have any financial or investment concerns as we head into the holidy season.

Plan for Business Ownership Transitions with a Buy-Sell Agreement If you're a co-owner in a business partnership, closely held corporation, LLC, or other joint venture, consider what would happen if you or one of your co-owners suddenly left the business, became disabled, or suffered an untimely death. For example, what would happen if a co-owner died unexpectedly? Would you be forced to work with his or her spouse or other heir? Or, if you died, could your family get a fair price for your interest in the business? Leaving such issues unresolved can result in financial problems and hardship for the co-owners and the business itself. Fortunately, you and your coowners can settle such issues in advance with a document known as a buy-sell agreement. What is a buy-sell agreement?

In this issue: Plan for Business Ownership Transitions with a Buy-Sell Agreement Separately Managed Accounts: Accounts Customized for You Qualified Personal Residence Trust (QPRT) Ask the Experts

Sometimes referred to as a prenuptial or premarital agreement for business owners, a buysell is a legally binding contract that establishes to whom, under what circumstances, and at what price a co-owner can sell his or her business interest. Describes to whom . . . There are different types of buy-sells. Each type describes how an interest can be sold in a slightly different way, depending on the form of the business entity and the co-owners' goals. The common element among the different types of buy-sells is that the co-owners are prevented from selling to outsiders without the consent of the other co-owners. For example, with a buy-sell known as a cross purchase plan, a departing co-owner agrees to sell his or her interest to the remaining individual co-owners. With a stock redemption plan,

used by closely held corporations, a departing co-owner (shareholder) agrees to sell his or her interest to the corporate entity. Of course, funds must be available to buy a departing co-owner's interest. One way this can be accomplished is through the purchase of life and disability insurance policies on each co-owner. . . . under what circumstances . . . Events that trigger a buy-sell typically include the death or disability of a co-owner, but could also include a co-owner's retirement, divorce, receipt of a third-party offer to purchase, or any other circumstances that you anticipate would be disruptive to the business or cause hardship to the co-owners. . . . and at what price a business interest can be sold A buy-sell also spells out how interests will be valued when they are sold. You and your coowners decide in advance how a reasonable price for the business will be calculated. There are different valuation methods from which to choose, including book value, appraised value, and capitalized earnings. Smoothing the way A buy-sell agreement can protect a business and its co-owners against problems that might occur due to a change in ownership. A proper buy-sell will provide for an orderly transition of ownership, prevent unwanted co-owners, establish a fair value for the business, and guarantee buyers for the business interests. The decisions you need to make when creating a buy-sell that works for you are numerous and can be complicated. Your financial professional can help.

Page 2 Separately Managed Accounts: Accounts Customized for You Mutual funds have been, and continue to be, a good solution for many investors seeking professional money management. But when you buy shares of a mutual fund, your assets are pooled with the assets of other fund holders. So even though you gain professional money management, there is no individual portfolio management. For investors seeking a more personal touch, recent advances in technology and changing advisor business models have facilitated the growth of separately managed accounts (SMAs) as an alternative to mutual funds. What is an SMA?

Assets under management in separately managed accounts grew by 17.7 percent in 2005 to $678.1 billion . . . the continued growth puts the industry in line to reach $1.5 trillion by 2011. Money Management Institute Feb 14, 2006

An SMA is a personal investment account that is customized and managed for you by a professional money manager. As a personal account, your assets are not commingled with those of other investors. Historically a tool for institutional investors and high-net-worth individuals, SMAs are now available to a wider group of investors. It was once common for SMA programs to require a minimum of $1 million in investable assets, but today you can find separately managed accounts with minimums as low as $50,000. SMAs' lower minimums, along with a growing appreciation of their unique features, have led to their increasing popularity. How SMAs trump mutual funds on taxes Mutual funds have an inherent lack of tax efficiency. When you buy shares of a mutual fund, you automatically get a share of its embedded tax liabilities. By law, mutual funds are required to pay out realized capital gains to all fund holders, regardless of how long they've held their shares. The lack of tax efficiency can certainly be a greater problem for actively managed, higher turnover mutual funds than it is for indexed mutual funds. So if you buy shares in a mutual fund right before a distribution date, you may receive a distribution and have to pay capital gains taxes even though you may have held the fund for only a short amount of time. And, a fund can have a capital gains distribution even when the fund's net asset value is declining, as the fund may have unrealized capital losses but realized capital gains. By contrast, with SMAs, each security held in the account has an individual cost basis, which allows you to make specific taxmotivated moves. For example, you can

generally request that your manager sell a position with an unrealized loss in order to offset capital gains. Those capital gains may be from trades made for the account, or capital gains on other assets, such as a gain from real estate. How SMAs compare with mutual funds on trading costs and fee structures Unlike traditional brokerage accounts, SMA fee structures are asset-based instead of commission-based. The SMA fee structure typically covers the investment management fee, trading costs, custody, reporting, and financial planning services. One thing to consider when comparing mutual fund expenses against SMA fees is the "invisible" trading costs incurred by mutual funds. Mutual fund expense ratios cover fund management fees, administrative costs, and other operating expenses. However, they don't cover trading costs, which include brokerage commissions. Although these trading costs can vary significantly by mutual fund (depending in large part on their annual turnover rates), estimates of these costs range anywhere from .5% to 1%. To get an "apples to apples" expense comparison between SMAs and mutual funds, you need to determine the total amount of fees, including trading costs, for both investment vehicles. Your financial professional can help you with this. How SMAs can be customized for your specific situation Another important feature of SMAs is their ability to allow you to exclude certain securities, like the stock of the company you work for. You can also set sector guidelines, such as excluding a sector you might disapprove of (e.g., tobacco or casino stocks). This flexibility allows you to better tailor your asset allocation for your own unique circumstances and desires--key considerations for many investors with concentrated stock positions. The bottom line For investors who place a priority on control and tax efficiency, and have the necessary capital, an SMA program may make a lot of sense. Your financial professional can help you crunch the numbers, look at your overall financial picture, and determine if an SMA might be right for you.

Synergy Financial Group

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Qualified Personal Residence Trust (QPRT) If you own a home and expect to have a large taxable estate, you may want to consider this popular estate planning tool that can minimize federal gift tax and eliminate federal estate tax.

years ends, you may do so, but you'll be required to execute a written lease and pay fair market rent to the beneficiaries.

What is a qualified personal residence trust (QPRT)?

If your beneficiaries were to receive the home at your death, they would receive an income tax basis that is "stepped up" to fair market value. With a QPRT, however, because your beneficiaries receive the home at the end of the term of years, they'll receive a carryover basis (i.e., your basis). If the home has appreciated substantially in value, the increased capital gains tax your beneficiaries will owe upon the sale of the home may offset any gift tax savings you will enjoy.

A qualified personal residence trust (QPRT, pronounced "Q-Pert," and sometimes referred to as a grantor retained interest trust, or GRIT) is an irrevocable trust into which you transfer a primary residence or vacation home while retaining the right to live there rent free for a specified number (term) of years. At the end of the term of years, the property passes outright to your children (or whomever you've named as the trust beneficiaries). Tax advantages of a QPRT When you transfer a home into a QPRT, you're considered to have made a taxable gift to the trust beneficiaries. However, the value of the gift isn't the full fair market value of the home, as it would be with an outright transfer. Rather, the gift can be discounted to reflect your retained interest (i.e., your right to live in the home). Note: You can leverage your $1 million lifetime gift tax exemption, to the extent it has not already been used, to offset any gift tax that is due. Another tax benefit of a QPRT is that, as long as you outlive the term of years, the value of the home (plus any appreciation) will avoid estate tax because, when you die, it won't be includable in your gross estate. Finally, you get to keep all the income tax benefits of homeownership during the term of years. Deciding on the term of years One disadvantage of a QPRT is that if you die before the term of years ends, the full fair market value of the home at the time of your death will be includable in your gross estate. So, deciding on the term of years becomes a tradeoff. The longer the term of years, the smaller the gift to the beneficiaries (and the smaller the gift tax), but the greater the likelihood you won't outlive the term, defeating the purpose of the QPRT. One further consideration: If you decide to continue living in the home after the term of

Capital gains tax savings tradeoff

QPRT rules

If you own a home and expect to have a large taxable estate, you may want to consider this popular estate planning tool that can minimize federal gift tax and eliminate federal estate tax.

To qualify for beneficial QPRT tax treatment, the trust must conform to many rules and regulations, including: 1. Can't transfer more than one home to a QPRT You can't transfer more than one home to a single QPRT. However, you're allowed to set up two QPRTs, transferring one home (a primary residence or vacation home) to each trust. 2. Home must be occupied by you, your spouse, or your dependents You, your spouse, or your dependents must occupy the home for the entire term of years. The home must be used as a residence at all times, and generally can't be sold or used for any other purpose. 3. No other property can be held by the QPRT Generally, a QPRT can't hold any property other than the home (and related buildings and land reasonably appropriate for residential use). However, a QPRT can hold cash, subject to certain conditions, for limited purposes, such as the initial purchase of a home, the replacement of an existing home, or the payment of certain related expenses. Plus, asset protection A QPRT can help minimize gift and estate taxes, and because the trust is irrevocable, it can also be used as an asset protection tool, even if taxes are not a concern. If you're interested in learning more about QPRTs, talk to your financial professional.

Because it is irrevocable, a QPRT can also be used as an asset protection tool, even if taxes are not a concern.

Ask the Experts How can I gauge an investment's volatility?

Synergy Financial Group

George Van Dyke 401 Washington Ave #703 Towson, MD 21204 410-825-3200 [email protected]

Linsco/Private Ledger Member NASD/SIPC

Even though two investments or portfolios might produce the same average annual return, one might get there with a lot of ups and downs along the way, while the other might be less volatile from year to year.

The higher an investment's standard deviation, the bumpier the road. A low standard deviation is like driving across desert flats; a high standard deviation is like crossing a mountain range. When you select investments, you want to know which type of trip you might be taking.

Let's say you're interested in a mutual fund that has had an average annual return of 8% over the last 10 years. In evaluating the fund, you should also look at its year-to-year returns. You might see that the annual return during some of those years has been much higher than 8%. In other years, the fund might actually have lost money. (This is a hypothetical example, of course, and actual returns for your fund might be very different.)

Why is understanding standard deviation important? Because if you aren't able to stay invested during down periods--for example, if you're risk-averse, or if you must sell unexpectedly--you're less likely to match an investment's average return figure. The closer you are to using the money you've invested, or the lower your risk tolerance, the more consistent you'll probably want your returns to be.

There's also a statistic that can help you understand how volatile an investment has been over time. "Standard deviation" measures the size of an investment's ups and downs--how much its returns have deviated from time to time from its own average.

Though past performance is no guarantee of future results, standard deviation is one of several statistics that can help you understand the level and type of risk involved in a specific investment. For mutual funds, those figures often are listed under "volatility measurements" or "risk measurements."

I'm retired. How can I minimize fluctuations in my income? Look at your asset allocation. Though it doesn't guarantee a profit or insure against a loss, a diversified portfolio improves your chances of having some investments that perform well when others don't. Maintain a financial cushion. That may help you avoid having to sell income-producing assets unexpectedly, which could reduce your future income.

Copyright 2006 Forefield Inc. All Rights Reserved.

Investigate noncallable bonds. Bonds, especially those with fixed rates that pay interest every six months, have traditionally been an important income provider in a retirement portfolio. However, the higher the interest rate and the longer a bond's maturity, the greater the chance the issuer will call the bond and pay off its debt early, ending that income. You'll have to reinvest your principal elsewhere, possibly at a lower interest rate. With a noncallable bond, that can't happen. Buy bonds with various maturity dates. "Laddering" bonds can help even out your income stream. As each one matures, you can reinvest the principal. "Laddering" can

give your portfolio smoother transitions and greater flexibility, even though interest rates (and thus your income) will still change over time as you reinvest in newer bonds. Another option is a series of zero-coupon bonds with maturity dates that match a set schedule. "Zeros" pay interest only when they mature, but you'll know in advance exactly how much you'll receive from each one and when. If you invest in municipal zeros, you generally won't owe federal taxes on the interest. Set up a baseline income. A fixed annuity can distribute specified payments over a given time period, your lifetime, or the lifetime of both you and your spouse. That could provide a stable foundation that allows you to invest other assets differently. Your financial professional also may suggest a systematic schedule for liquidating assets or taking distributions from an IRA or retirement plan. Study dividend histories. If you invest in stocks, consider companies with a long-term track record of stable or increasing dividends. These are only a few ideas for managing the income roller coaster. Your financial professional has more, and can suggest which ones might make sense for you.