2018 Planning #2: Business Entertainment Deductions, FRM vs ARM

Continuing my theme of financial planning recommendations, this week we’ll examine one of the new tax provisions specific to business entertainment. I will also break down the debate between choosing a fixed-rate mortgage versus an adjustable-rate mortgage.

 

Business Entertainment Deductions- As I have mentioned in the past, the recent tax reform is nothing simple. Most could argue that our tax code is even more complicated than before. Another matter that just got more complicated are the old deduction rules specific to meals and entertainment.

In 2017, you could take a business client or prospect to dinner, followed by a sports event, and then deduct 50% of those expenses. However, what may have been an old habit or justified expense just got more expensive. The 2018 tax reform prohibits the bona-fide deduction that we’ve been accustomed to for years. Golf, sporting events, skiing and elaborate meals-  now everyone is paying for themselves (well maybe not)! Admittedly, there are some varying opinions on the new deduction rules surrounding meals, but most accounting firms agree (based on my research) that entertainment is now a thing of the past. Okay, you’re right; perhaps not a thing of the past, but certainly not as justified as it once may have been. What may have been a meal and a sporting venue, may now only be just a meal! Is this a big deal? Ask any small business owner that relies on entertainment as part of their sales proposition and retention efforts.

Switching gears, and speaking more from my lane, let’s look at the argument of a fixed-rate mortgage versus an adjustable.

Fixed-Rate Mortgage- A fixed-rate mortgage (FRM) is exactly that. During the term of the loan the interest rate (and APR) won’t vary. In the world of credit, this is one of the safest decisions a borrower can exercise. However, because it’s the safest risk, the rate will be higher than that of an adjustable-rate mortgage (ARM). This decision is an old school risk/reward assessment. Based on today’s economic trend, fixed rates are increasing. And when that happens, ARM’s naturally get more attention. Why? Read below.

Adjustable-Rate Mortgage- An adjustable-rate mortgage (ARM) is a riskier credit situation than a FRM. In my opinion, the perceived risk may outweigh the actual risk. What some people don’t realize is that ARM loans provide a fixed-rate period of repayment. In some circumstances, that fixed rate term may be six months or seven years. What are the benefits and why would anyone choose an adjustable rate? ARM’s offer a lower priced interest component during its fixed period. Overall, when interest rates are higher, the popularity of ARM loans increases. Because the introductory fixed-rate portion of the ARM is priced lower than a FRM, it provides more payment flexibility for the borrower. And in some respects, the lower rate option of the ARM loan provides greater affordably and/or borrowing capacity. Let’s look at a couple examples-

Assume you know you’re going to reside in a certain geographical area for a limited time, perhaps you can time the adjustable period of the ARM loan with your anticipated move date. Or, let’s say you have a co-applicant finishing their higher education degree and you’re certain your overall household income will increase upon graduation. In this scenario, many borrowers will organize the fixed rate payment term around the time of schooling, with an eventual refinance or move (new home, larger home, etc.) before the interest rate varies.

Admittedly, there are inherit risks associated with an ARM loan. During the recent recession, we witnessed deteriorating property values, income reductions, and joblessness, all combined with variable rate movement. This perfect storm of events certainly fueled the foreclosure crisis. So, if you’re considering an ARM loan, please consider ALL the risks and make a prudent decision for you and your family.

Consult your tax adviser for tax details and consult your mortgage broker or banker on what lending options may be available to you.

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