Wednesday, May 15, 2013


One of the factors that often makes the difference between success and failure in an enterprise, whether it is in business or personal exploits, is the failure at the beginning of a task to define what the end of the task is.  Many times in the area of business I have seen what should have been a profitable job become an unprofitable job because the job end-point was not well defined.  For example, in building contracting it is extremely important to define in detail what constitutes the end of the job and that anything done after that is extra work for extra pay.  Many a contract has become unprofitable when the customer continues to ask for changes, corrections, and “fixes” that were not part of the original contract.  Sometimes this is because the contract was never put into writing or the written contract was not detailed enough.

This same problem exists in the service industries too where often there is no written contract or where the service sought is ill defined.  Sometimes we may know what the customer wants but don’t know what is going to be needed to reach the goal.  In these cases it is just as important to think ahead and at least try to put some pauses in the work to allow the parties to assess what has been done so far and what may still be needed to reach the goal.  It is much better to risk having the customer stop the project at one of these pauses than to incur more costs and have a dispute later about getting paid.

We all have probably seen this concept when someone giving a speech doesn’t quite know how to end their speech.  It is very embarrassing to both the speaker and the listeners.  You can see the concept plainly if you make the mistake of saying “I’m going to work in the yard today” instead of “I’m going to trim that bush today”.  The first statement has no defined end-point but the second statement does.  So when the football game comes on you will be glad you used the statement with a definite end-point.  So in all our endeavors, both business and personal, define the end before you start.

Loren McCann, CPA, MS (Tax)

Wednesday, May 1, 2013


One of the questions we are often asked when a client receives a lump sum from an inheritance or sale of an asset is, “should I pay down my mortgage or should I invest the funds?”   The three main points I discuss with the client are rate of return, liquidity, and comfort level.

Rate of return is the easiest to deal with, but many are confused by the tax deductibility of the home mortgage interest.  We need to compare the after-tax interest rate on your mortgage with the after-tax earnings rate on your proposed investment and favor the higher one.  First determine what your expected marginal tax rate will be on investment earnings and reduce your expected investment return by this amount.  For example; you expect to be in the 28% tax bracket and would invest in taxable bonds with the funds acquired at an expected return of 4.5 %.  Your net return after taxes would be 3.24% (4.5% X [1.0 - .28]).  Next, apply the same calculation to the interest rate you are paying on your mortgage.  Then compare the two rates.  If the tax-adjusted rate on your investment is higher than the tax-adjusted rate on your mortgage, that would point to investing the funds.  If the tax-adjusted rate on your mortgage is higher, that would point to paying down your mortgage.  Keep in mind that if the same tax rate applies to both the investment income and the mortgage deduction, you do not need to calculate the tax-adjusted rate, just compare the actual mortgage interest rate with the expected rate of return on the investment and go with the higher one.

The next thing to consider is your liquidity.  All this means is, do you have enough cash to meet emergencies and make needed choices?  Let’s say you receive $20,000 as an inheritance.  If you have no savings at all you should probably put some or all of the inheritance in a liquid investment like a CD so that you can weather an emergency like losing your job or your house burning down.  On the other hand, if you have a reasonable savings account, you could be free to make the earnings rate comparison described above and either pay down your mortgage or make a longer term investment with the funds. 

The last thing to consider is your comfort level.  For example, some people have an aversion to debt.  Or maybe they were fine with debt when they were young but now they are older and want to be out of debt.  Those people might be better off paying down their mortgage even though the expected rate of return points to making the investment.  Other people might be uncomfortable with the kind of investment needed to get the rate of return necessary to make the investment better than paying down the mortgage, or maybe they just don’t like the current condition of the investment market.  Some might be enthusiastic about the investment market and not bothered by debt.  For that person, the rate of return calculation and liquidity issues are more important.  However, don’t under estimate the importance of being comfortable with your decision.  I have seen some people make the best “economic” decision and then worry themselves into an early grave.

In the end it is your money and your life.  There is nothing wrong with two different people having the same facts and coming to a different decision about whether to invest verses paying down their mortgage. 

Loren L McCann, CPA, MS (Tax)