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Time to Reassess Your Portfolio?

Market swings often prompt investors to reassess their port folios. As you evaluate the efficacy of your investments in light of your financial goals, it's important to revisit two key principles—asset allocation and diversification. Any long-term investment plan will most likely have to weather market "ups" and "downs." Softer markets often create opportunities for purchasing shares at lower prices, and through dollar cost averaging, you may be able to average a lower cost per share over time. Maintaining a regular investment program and balancing your portfolio to account for a comfortable risk level are important to the overall success of your financial strategies.

Asset Allocation and Diversification

The main objective of asset allocation is to match the investment characteristics of the various asset categories (equities, bonds, cash, etc.,) to the most important aspects of your personal investment profile—that is, your risk tolerance, your return and liquidity needs, and your time horizon. Asset categories generally react differently to economic fluctuations.

If you have assembled an unplanned investment medley, you may be unaware of the extent to which your investments are (or are not) consistent with your objectives. Since various investment categories have unique characteristics, they rarely rise or fall at the same time. Consequently, combining different asset classes can help reduce risk and improve a portfolio's overall return. While there is no set formula for asset allocation, guidelines can help you accomplish certain goals (for example, the need for growth in order to offset the erosion of purchasing power caused by inflation).

Diversification is an investment strategy used to manage risk for your overall portfolio, using techniques such as mixing your holdings to include a variety of stocks (small-cap, mid-cap, and large-cap), mutual funds, international investments, bonds (short- and long-term), and cash. By varying your investments, diversification attempts to minimize the effects a decline in a single holding may have on your entire portfolio.

Dollar Cost Averaging

To maintain a regular investment program, many investors make dollar cost averaging an integral part of their overall savings plan. Using this systematic investing technique, an investor buys more shares when prices are low, and fewer shares when prices are high. This may result in a lower average cost per share than if you were to purchase a constant number of shares at the same periodic intervals or make a single investment.

Dollar cost averaging cannot guarantee a profit or a lower cost per share, nor can it protect against a loss. However, it is a strategy that reinforces the discipline of regular investing and offers a systematic alternative to "market timing." In order to take full advantage of dollar cost averaging, you need to consider your ability to continue purchases through periods of low price levels.

The chart below demonstrates that by investing $100 a month for one year, you could actually pay less per share than the average market price per share.

Periods of falling prices are a natural part of investing, as are strong market intervals. It is important to regularly review your portfolio to help ensure your investing strategies remain aligned with your financial objectives. $

For many mutual fund shareholders, some confusion exists regarding what exactly constitutes a taxable transaction. This bewilderment can become a headache at tax filing time when some shareholders discover they have unwittingly incurred a tax liability because they misunderstood the tax rules pertaining to mutual funds.

First, a distinction must be made between closed-end and open-end funds. A closed-end fund has a fixed number of shares that are traded on either the New York Stock Exchange (NYSE) or American Stock Exchange (AMEX). An open-end fund continues to issue shares as long as there are investors willing to buy. There is no limit on the number of shares that can be issued.

What Is a Sale?

The rules discussed below apply only to regular investment accounts, not to tax-deferred accounts such as Individual Retirement Accounts (IRAs) and 401(k) plans.

Shares of closed-end funds are bought and sold in the same manner as stock shares. Gain or loss is the difference between adjusted basis (usually cost) and selling price. All of the rules that apply to stock sales also apply to sales of shares of closed-end funds. Sales of closed-end shares are usually straightforward and cause little confusion.

In contrast, sales of open-end shares are a little more complicated, and this is where most of the confusion exists. Although the rules that apply to stock sales also apply to sales of open-end shares, there are a few wrinkles and some special rules that apply only to open-end shares.

A sale of open-end shares is called a redemption, because the shares are sold back to the fund rather than to another party (as would be the case with the sale of stock or closed-end shares). In addition to a normal sale, there are other events that are also redemptions and, consequently, taxable transactions:

• An exchange of shares from one fund into another is treated as a sale and purchase; it is not a tax-free exchange, even when the same company manages the two funds.
  
• Writing a check on a mutual fund account results in a sale. The fund redeems a sufficient number of shares to cover the check.
  
• An automatic withdrawal plan triggers periodic redemptions.
  

These events are all taxable transactions and gain or loss must be reported. Moreover, the sale, exchange, or redemption of shares in a tax-exempt fund results in taxable gain or loss—only the dividends representing interest from such funds is tax exempt. (Some "tax-exempt" funds also make capital gain distributions from sales of securities held in the fund. These distributions, unlike the dividends representing interest, are taxable, even though they originate in a tax-exempt fund.)

Basis of Mutual Fund Shares

Generally, the basis of most mutual fund shares, including shares purchased with reinvested dividends, is their cost. (The basis of shares acquired by gift or inheritance is determined in the same way as other similarly acquired property.)

However, when shares are sold, an individual has several options that affect the amount of gain or loss recognized. First, an individual can identify specific shares by notifying the fund and receiving written confirmation. When shares have been purchased at different prices over a long period of time, this option allows the investor more control of the tax consequences.

Second, if specific shares are not identified, the general rule is that the first shares purchased are the ones sold. Since share prices tend to rise over time, this option usually results in shares with the lowest basis (cost) being sold, producing the largest gain.

Third, if shares were purchased at various times and prices, an individual may elect to use an average basis. The average can be computed using either the single category method (combining all shares in the account into one group), or the double category method (calculating separate averages for shares held short term—less than one year, and long term—held more than one year).

An average basis cannot be used for any other type of security. Once the choice is made to use an average basis, this option must be used for all shares in all accounts with the same investment company. A different method may be used for mutual fund accounts held in a different investment company.

While there are many potential advantages to investing in mutual funds, the tax aspects can be perplexing. A little knowledge of the basic tax rules for mutual fund transactions might be just the right prescription for avoiding headaches when you file your taxes. $

When most people think of life insurance, the first thing that usually comes to mind is, "How much do I need?" but riders offer policyowners added protection in the face of certain events.

The waiver of premium rider protects you if you are disabled and can no longer afford to pay your life insurance premiums. Not only does the insurance company pay your premiums pursuant to the terms of the contract, but if you own a whole life policy, the policy cash values and dividends generally continue to grow. You could access these values through loans or surrenders. (Note that loans and withdrawals may result in adverse tax consequences and may carry interest. Cash values and death benefits may be affected, too.)

Eligibility Requirements

Like an applicant's insurability, the availability of the waiver of premium rider may also be based on certain risk factors, such as general health and past medical history. Once issued, most policies contain important eligibility requirements before the waiver of premium rider will take effect. Policies generally contain a specific waiting period (e.g., six months) before premiums begin to be paid under the rider. Some policies apply waiver of premium coverage differently for a disability occurring prior to age 60, compared to one occurring between the ages of 60 and 65. Under many policies, the waiver of premium provision terminates at age 65. While the waiver of premium rider on term and whole life policies will generally cover the entire premium, the waiver may work a little differently on other types of policies, separating the premium waiver for the cost of insurance from that associated with the cash value or investment fund.

The definition of "disability" in your policy is also crucial, because it determines when your obligation to pay premiums ends. The key is usually whether you are "totally disabled" under your policy's definition. While some policies consider total disablement to be when an illness or injury leaves you unfit for your profession, other policies may contain a clause that states you must be unfit for any type of work.

Policy riders tend to take a "back seat" when planning insurance needs, because so much of the initial focus is on how much coverage is necessary to provide adequate protection. However, part of the process of determining adequate protection should also involve taking advantage of the opportunities to customize your life insurance policy so it fully meets your needs. $

Changes in living situations often call for changes in financial and estate plans. Consider, for instance, how a second marriage could affect your estate plan. This may be especially pertinent if there are children from both marriages.

One important point to consider is that if you intend to leave assets to your children from a prior marriage, you may want to put them in your own name. Otherwise, new assets acquired in joint tenancy with your spouse will automatically be passed on to your surviving spouse, and then possibly to his or her children.

You may also want to consider preparing a pre-nuptial agreement. Although this can be a sensitive subject to broach with your intended, it can be an important document to have if you desire to leave most of your estate to your children from a prior marriage.

As in many financial endeavors, estate planning is not a "do-it-yourself" project. Second marriages, particularly with multiple families involved, may present complexities that could benefit from professional counsel. It is best to work closely with your estate planning team to help ensure that your current estate plan fulfills your objectives and is appropriate for your current life situation. $