Ken Himmler.com

 Whether you inherited a large holding, exercised options to buy your company's stock, sold a private business, hold restricted stock, or have benefitted from repeated stock splits over the years, having a large position in a single stock carries unique challenges. Even if the stock has done well, you may want more diversification, or have new financial goals that require a shift in strategy.

When a single stock dominates your portfolio, however, selling the stock may be complicated by more than just the associated tax consequences. There also may be legal constraints on your ability to sell, contractual obligations such as lock-up agreements, or practical considerations, such as the possibility that a large sale could overwhelm the market for a thinly traded stock. The choices appropriate for you are complex and will depend on your own situation and tax considerations, but here is a brief overview of some of your options.

Sell your shares

Selling obviously frees up funds that can be used to diversify a portfolio. However, if you have a low cost basis, you may be concerned about capital gains taxes. Or you may want to avoid any perception of market manipulation or insider trading. You might consider selling shares over time, which can help you manage the tax bite in any one year, yet allow you to participate in any future growth. However, remember that long-term capital gain tax rates are currently at historically low levels (current rates carry through tax year 2012). If you plan to sell and will face taxes anyway, now might not be the worst time to have to pay them.

If you hold restricted shares, you might set up a 10b5-1 plan, which spells out a predetermined schedule for selling shares over time. Such written plans specify in advance the dates, prices and amounts of each sale, and comply with SEC Rule 144, which governs the sale of restricted stock and was designed to prevent insider trading. A 10b5-1 plan demonstrates that your selling decisions were made prior to your having any insider knowledge that could influence specific transactions. (However, terminating the plan early or selling too much too quickly could raise questions about the plan's legitimacy.)

You might also be able to avoid some of the restrictions on how much and when you can sell by selling shares privately rather than on the public market. However, you would likely have to sell at less than the market value, and would still face capital gains taxes.

Hedge your position

You may want to try to protect yourself in the short term against the risk of a substantial drop in price. There are multiple ways to try to manage that risk by using options, which can be especially useful if you're legally restricted from selling your shares. However, bear in mind that the use of options is not appropriate for all investors.

Buying a protective put essentially puts a floor under the value of your shares by giving you the right to sell your shares at a predetermined price. Buying put options that can be exercised at a price below your stock's current market value can help limit potential losses on the underlying equity while allowing you to continue to participate in any potential appreciation. However, you also would lose money on the option itself if the stock's price remains above the put's strike price.

Selling covered calls with a strike price above the market price can provide additional income from your holdings that could help offset potential losses if the stock's price drops. However, the call limits the extent to which you can benefit from any price appreciation. And if the share price reaches the call's strike price, you would have to be prepared to meet that call.

A collar involves buying not only protective puts but also selling call options whose premiums offset the cost of buying the puts. However, as with a covered call, the upside appreciation for your holding is then limited to the call's strike price. If that price is reached before the collar's expiration date, you would not only lose the premium you paid for the put, but would also face capital gains on any shares you sold.

Monetize the position

If you want immediate liquidity, you might be able to use a prepaid variable forward (PVF) agreement. With a PVF, you contract to sell your shares later at a minimum specified price. You receive most of the payment for those shares–typically 80% to 90% of their value–when the agreement is signed. However, you are not obligated to turn over the shares or pay taxes on the sale until the PVF's maturity date, which might be years in the future. When that date is reached, you must either settle the agreement by making a cash payment, or turn over the appropriate number of shares, which will vary depending on the stock's price at the time of delivery. In the meantime, your stock is held as collateral, and you can use the upfront payment to purchase other securities that can help diversify your portfolio. In addition, a PVF still allows you to benefit to some extent from any price appreciation during that time, though there may be a cap on that amount.

Caution:   PVF agreements are complicated, and the IRS warns that care must be taken when using them. Consult a tax professional before using this strategy.

Borrow to diversify

If you want to keep your stock but need money to build a more diversified portfolio, you could use your stock as collateral to buy other securities on margin. However, trading securities in a margin account involves risks which you should discuss with a financial professional before considering this strategy.

Exchange your shares

Another possibility is to trade some of your stock for shares in an exchange fund (a private placement limited partnership that pools your shares with those contributed by other investors who also may have concentrated stock positions). After a set period, generally seven years, each of the exchange fund's shareholders is entitled to a prorated portion of its portfolio. Taxes are postponed until you sell those shares; you pay taxes on the difference between the value of the stock you contributed and the price received for your exchange fund shares. Though it provides no liquidity, an exchange fund may help minimize taxes while providing greater diversification (though diversification alone does not guarantee a profit or ensure against a loss). Be sure to check on the costs involved with an exchange fund as well as what other securities it holds. At least 20% must be in nonpublicly traded assets or real estate, and the more overlap between your shares and those already in the fund, the less diversification you achieve.

Donate shares to a trust

If you want income rather than growth from your stock, you might transfer shares to some form of trust. If you have highly appreciated stock, consider donating it to a charitable remainder trust (CRT). You receive a tax deduction when you make the contribution. Typically, the trust can sell the stock without paying capital gains taxes, and reinvest the proceeds to provide an income stream for you as the donor. When the trust is terminated, the charity retains the remaining assets. You can set a payout rate that meets both your financial objectives and your philanthropic goals; however, the donation is irrevocable.

Another option is a charitable lead trust (CLT), which in many ways is a mirror image of a CRT. With a typical CLT, the charity receives the income stream for a specified time; the rest goes to your beneficiaries. You receive no tax deduction for transferring assets unless you name yourself the trust's owner, in which case you will pay taxes on the annual income. Other philanthropic options include donating directly to a charity or private foundation and taking a tax deduction.

We all have moments where we daydream about our perfect retirement scenario. Some of us want to spend our golden years traveling the world and see for ourselves the wonders we hear about everyday on the news. Others want to have a nice retirement near the coastal waters and bask in the comforts of the warm, setting sun while enjoying the companionship of loved ones. Whatever your personal dream for the future may be, it is very important to consider the monetary requirements needed to realize your fantasies. It is essential that you develop a retirement plan.

A nonqualified deferred compensation (NQDC) plan is an arrangement between an employer and one or more employees to defer the receipt of currently earned compensation. You might want to establish a NQDC plan to provide your employees with benefits in addition to those provided under your qualified retirement plan, or to provide benefits to particular employees without the expense of a qualified plan.

NQDC plans vs. qualified plans

A qualified plan, such as a profit-sharing plan or a 401(k) plan, can be a valuable employee benefit. A qualified plan provides you with an immediate income tax deduction for the amount of money you contribute to the plan for a particular year. Your employees aren't required to pay income tax on your contributions until those amounts are actually distributed from the plan. However, in order to receive this beneficial tax treatment, a qualified plan must comply with strict and complex ERISA and IRS rules, and the plan must generally cover a large percentage of your employees. In addition, qualified plans are subject to a number of limitations on contributions and benefits. These limitations have a particularly harsh effect on your highly paid executives.

In contrast, NQDC plans can be structured to provide the benefit of tax deferral while avoiding almost all of ERISA's burdensome requirements. There are no dollar limits that apply to NQDC plan benefits (although compensation must generally be reasonable in order to be deductible). And you can provide benefits to your highly compensated employees without having to provide similar benefits to your rank and file employees.

Funded vs. unfunded NQDC plans

NQDC plans fall into two broad categories–funded and unfunded. A NQDC plan is considered funded if you have irrevocably and unconditionally set aside assets with a third party (e.g., in a trust or escrow account) for the payment of NQDC plan benefits, and those assets are beyond the reach of both you and your creditors. In other words, if participants are guaranteed to receive their benefits under the NQDC plan, the plan is considered funded.

You might consider establishing a funded plan if your employees are concerned that their plan benefits might not be paid in the future due to a change in your financial condition, a change in control, or your change of heart. Because the assets in a funded plan are beyond your reach, and the reach of your creditors, these plans provide employees with maximum security that their benefits will eventually be paid. Funded plans are rare, though, because they provide only limited opportunity for tax deferral and may be subject to all of ERISA's requirements.

Unfunded plans are by far more common because they can provide the benefit of tax deferral while avoiding almost all of ERISA's requirements. With an unfunded plan, you don't formally set aside assets to pay plan benefits. Instead, you either pay plan benefits out of current cash flow ("pay-as-you-go") or you earmark property to pay plan benefits ("informal funding"), with the property remaining part of your general assets and subject to the claims of your general creditors. You can set up a trust ("rabbi trust") to hold plan assets, but those assets must remain subject to any claims of your bankruptcy and insolvency creditors. A rabbi trust can protect your employees against your change of heart or change in control, but not against a change in your financial condition leading to bankruptcy.

In order to achieve the dual goals of tax deferral and avoidance of ERISA, your NQDC plan must be both unfunded and maintained solely for a select group of management or highly compensated employees. These unfunded NQDC plans are commonly referred to as "top-hat" plans.

While there is no formal legal definition of a "select group of management or highly compensated employees," it generally means a small percentage of the employee population who are key management employees or who earn a salary substantially higher than that of other employees.

Income tax considerations

Generally you can't take a tax deduction for amounts you contribute to a NQDC plan until your participating employees are taxed on those contributions (which can be years after your contributions have been made to the plan).

Employees generally don't include your contributions to an unfunded NQDC plan, or plan earnings, in income until benefits payments are actually received from the NQDC plan. The taxation of funded NQDC plans is more complex. In general, your employees must include your contributions in taxable income as soon as they become nonforfeitable (i.e., as soon as they vest). The taxation of plan earnings depends on the structure of the plan; in some cases employees must include earnings in taxable income currently, and in some cases they aren't taxed until they're actually paid from the plan.

Who can adopt a NQDC plan?

NQDC plans are suitable only for regular (C) corporations. In S corporations or unincorporated entities (partnerships or proprietorships), business owners generally can't defer taxes on their shares of business income. However, S corporations and unincorporated businesses can adopt NQDC plans for regular employees who have no ownership in the business. NQDC plans are most suitable for employers that are financially sound and have a reasonable expectation of continuing profitable business operations in the future. In addition, since NQDC plans are more affordable to implement than qualified plans, they can be an attractive form of employee compensation for a growing business that has limited cash resources.

Types of plans

Because a NQDC plan is essentially a contract between you and your employee there are almost unlimited variations. Most common are deferral plans and supplemental executive retirement plans (also known as SERPs). In a deferral plan your employee defers the payment of current compensation (e.g., salary or bonus) to a future date. A SERP is typically designed to supplement your employee's qualified plan benefits (for example, by providing additional pension benefits).

How to implement a NQDC plan

An ERISA lawyer can guide you through the maze of legal and tax requirements, and draft the plan document. Often the board of directors or compensation committee must approve the plan. Your accountant or consulting actuary can help you decide how to finance the plan. If you choose an unfunded plan, almost all that ERISA requires is that you send a simple statement to the Department of Labor informing them of the existence of the plan, and the number of participants.

 Before you receive any Social Security benefits, the Social Security Administration (SSA) will need to determine your eligibility. Remember that Social Security is an insurance system designed to pay you benefits during times of economic hardship. Just as a medical insurance plan representative must review your policy coverage before paying your surgical bill, a Social Security administrator must examine your Social Security record to ensure that you are eligible for the type of benefit for which you have applied. Determining your eligibility will mean finding answers to the following questions:

·         Have your earnings been subject to Social Security taxes?

·         What is your insured status?

·         Have you met the eligibility requirements specific to your benefit claim?

·         Have you filed your benefit claim?

Your earnings have probably been subject to Social Security taxes

Most people are covered by Social Security. Since Social Security is compulsory, most company employees, members of the armed forces, and self-employed persons participate and will someday be eligible for benefits. Two groups that are excluded from Social Security coverage are railroad workers whose work is covered by the Railroad Retirement Act and federal employees hired before 1984, who are covered under the Civil Service Retirement System (CSRS). Special coverage terms apply to other groups, including hospital interns, farm workers, members of religious orders, student nurses, newspaper vendors, and domestic workers. If you are covered by Social Security, you will know it when you look at your paycheck. Currently, 6.2 percent of your pay up to an annual limit of $106,800 is deducted each pay period. A 1.45 percent Medicare tax is also withheld from your pay (no annual limit applies). Your employer matches your tax payments. If you are self-employed, you pay a 15.3 percent self-employment tax on your net earnings to finance Social Security.

Your insured status affects your eligibility for benefits

Your insured status is the foundation of any benefit claim. You are considered insured when you have acquired a certain number of Social Security credits. These credits are also known as quarters of coverage. Since 1978, covered workers receive credits based on their annual earnings. Every year, the earnings necessary to earn one credit increase according to how much the national average wage has increased. In 2010, you earn one credit for every $1,120 (up from $1,090 in 2008) in earned income, up to a maximum of four credits per year. Prior to 1978, an employee earned one credit for each calendar quarter (three-month period ending March 31, June 30, September 30, or December 31) in which covered wages paid were $50 or more (hence the term "quarters of coverage"). However, even if the employee received no wages in some of the quarters, he or she could still earn the maximum four credits if his or her total annual wages equaled or exceeded the maximum Social Security earnings base for that year.

Earning Social Security credits (quarters of coverage)
Credits earned are based on your total annual income

The number of credits you earn in a year depends upon how much money you made, not how many months you worked. For instance, if you work for two months in 2010 and make $2,240, you will have earned two credits ($1,120 x 2). If you work six months and make $2,550, you will also have earned two credits. To earn three credits, you would have to earn at least $3,360 ($1,120 x 3). To earn four credits for the year, you would have to make at least $4,480, the income required to earn the maximum number.

Credits are awarded in whole units only

If you earn $2,240 in 2010, you will earn two credits. If you earn $2,800, you will still earn only two credits, not two and one-half credits, since credits are awarded in whole units only.

Credits can be acquired at any age (even after retirement age)

You're never too old to earn credits. Unless you've already reached the maximum credits possible (40 credits), any income you have that is subject to Social Security taxes can earn you more credits, even if you are already old enough to retire.

Credits can't be lost once you've earned them

Once you earn the credits, they're yours to keep, even if you never work again.

Credits don't determine the amount of your Social Security benefit

The size of your benefit check has nothing to do with how many credits you have earned. They only determine what type of benefits for which you might be eligible.

Fully insured status versus currently insured status

Determining your insured status is important because if you have not acquired the credits necessary to receive Social Security benefits, your claim will be denied even if you meet other eligibility requirements. To receive some types of benefits, such as retirement benefits, you must be fully insured. To receive other benefits, such as survivor's benefits, you may only need to be currently insured.

Obtaining fully insured status means that you are entitled to full Social Security benefits. To become fully insured you must:

       Earn 40 credits (10 years in work subject to Social Security taxes) or

       Earn at least one credit for each year elapsing after 1950 (or, if later, after the year in which you reached age 21) and before the year in which you reach age 62, die, or become disabled (whichever comes first), and earn at least six total credits

Example(s): Example A: John died after suffering a head injury. He was 45. He had earned 30 credits during his lifetime. Because he had earned at least one credit for every year that had elapsed between the year he turned 21 and the year he died, he was fully insured, and his survivors were entitled to benefits based on his Social Security earnings record.

Example B: Jill was disabled in a car accident. She was 49. She wants to apply for retirement benefits at age 65. She had earned 40 credits by the time of her accident. Even though she might not work again, she has already earned the maximum credits required to become fully insured.

Obtaining currently insured status means that you (or your eligible survivors) are entitled to partial Social Security benefits based on your earnings record, such as survivor's benefits, disability benefits, and a $255 lump-sum death benefit. You will not be entitled to old-age retirement benefits. To become currently insured you must:

       Earn at least six credits during the 13-quarter period ending with the calendar quarter in which you die, become entitled to retirement insurance benefits, or become entitled to disability benefits

Example(s): Mary died in April of 2009. She was 25. Between January 1, 2007, and the time of her death, she had earned eight credits. She earned three in 2007, four in 2008, and one in 2009. Because she had earned more than six quarters within the 13-quarter period, she was currently insured at the time of her death.

How you can file for benefits

Social Security benefits are not automatic. To receive benefits, you must apply for them by contacting a local Social Security office (check your telephone directory) or by calling the Social Security Administration (see below). You should file promptly in person, by mail, or by phone.

·         For retirement benefits: The Social Security Administration recommends that you contact a Social Security office two or three months before you reach age 62. If you decide not to file an application for benefits at that time, you should contact a Social Security office two or three months before you decide to retire.

·         For survivor's benefits: File for benefits in the month of the insured worker's death. Each entitled person should file.

·         For disability benefits: You can file for benefits before you actually become entitled to benefits. If you file early (for example, before the five-month waiting period has ended), and your claim is approved, your application date is considered to be the first month you have satisfied the eligibility requirements.

·         For the lump-sum death payment: The beneficiary should file within two years of the insured person's death.

If you have any questions about filing a benefit claim, or want information regarding eligibility for benefits, call the Social Security Administration at (800) 772-1213 or visit its website at www.ssa.gov.

Cash value, or permanent, life insurance is life insurance that is designed to be kept until your death–whenever that may be. Part of your premium pays for the "pure" insurance coverage and expenses, and the balance is held by the insurance company in a cash value account. The type of permanent life insurance you buy (e.g., whole, universal, variable) will influence the pace at which the cash value portion of your policy grows. The interest and earnings grow tax deferred until you withdraw the funds, and are part of the income-tax-free death benefit if you die. However, these policies may require a higher cash outlay than term life policies.

Who should consider cash value life insurance?
Cash value life insurance is well suited to cover long-term needs, because coverage continues for the rest of your life. You won't need to renew your policy periodically, nor will you need to provide proof of insurability (e.g., a medical exam) once the policy is in place. Cash value insurance allows you to lock in a premium schedule, so you won't have to worry about rising premiums as you get older or your health deteriorates.

Advantages of cash value life insurance
As with any life insurance policy, the purpose of cash value insurance is to provide adequate financial resources for your surviving loved ones in the event of your premature death. Knowing that this protection is in place may allow you to sleep a little easier at night.  A cash value policy is similar to an annuity in this respect. All of the interest and earnings on the policy's investments are allowed to grow free from income taxes until you surrender the policy or begin to withdraw your funds. Depending on the amount credited to the cash value account, you can accumulate a substantial amount of equity in your cash value policy over a period of years.

Generally, you'll have the right to take a loan from the insurance company, secured by the cash value in your policy. A fixed or variable interest rate will be charged. Keep in mind, however, that if you take a loan against your cash value, the death benefit available to your survivors will be reduced by the amount of the loan. In addition, policy loans may reduce available cash value and can cause your policy to lapse. Finally, you could face tax consequences if you surrender the policy with an outstanding loan against it.
With most cash value life insurance, you can take withdrawals from your cash value account. Policy withdrawals may be tax free up to your basis in the policy (the amount you've paid into the policy in premiums). As with loans, the amount of the withdrawal from your cash value account will reduce the death benefit available to your survivors, as well as the available cash value,n some cases by an amount greater than the withdrawal amount. Different tax rules apply to withdrawals and loans from cash values if the policy is a Modified Endowment Contract. In that case, withdrawals and loans are considered made from earnings first, and would be subject to income tax.

Disadvantages of cash value life insurance
The premiums for cash value insurance usually cost more than for a comparable amount of term insurance in the early years of the policy. The reason is that with a cash value policy, you're initially paying more than is currently needed to pay for the insurance, so that you can build a fund (the cash value account) to help offset the higher insurance costs you'll need to pay when you're older.

If you buy a variable life insurance policy, the underlying investments in the cash value account expose you to the possibility of financial loss as well as financial gain. It all depends on how those investments fare. Any losses will cut directly into your cash value account and may affect the amount of the death benefit, although a minimum death benefit is usually guaranteed. (Guarantees are subject to the claims-paying ability of the insurer.) Now with the invention of the Equity Linked Life Insurance there is now a way to participate with the potential upside of the market without the downside.