Ask Liz Weston

Get smart with your money

Investing

Q&A: Should extra cash go to retirement or emergency savings?

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Dear Liz: I have an excessive amount of money in my bank checking and savings account (about $20,000 in each) and need to know where to invest it. My financial planner advised putting it in my 401(k), but I can’t transfer a chunk of money, I can only increase the percentage I contribute (which is currently at 10% of my salary). I have IRAs, but I can only deposit a certain amount there as well. Where would be the best place for this extra money to go that will pay interest?

Answer: You may not be able to put the money directly into your 401(k), but you could boost your contribution rate at work and tap the “excess” money in your accounts to make up the difference in your paychecks.

First, though, make sure you have an adequate emergency fund. Most financial planners recommend keeping a reserve equal to three to six months’ worth of expenses. This money should be kept in a safe, liquid account, such as an FDIC-insured bank account. You don’t need to settle for the tiny amount of interest many banks pay, however. Some online high-yield savings accounts are now paying over 4%.

Q&A: Bank failures spotlight brokerages’ SIPC insurance: How it works

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Dear Liz: In light of the recent bank failures, I am wondering about the safety of investments with a brokerage firm. If the brokerage firm that I am using fails, do I stand to lose money even though I am invested in specific stocks or bonds? Does it make a difference if I have money in one of their branded money market funds?

Answer: Your brokerage probably is a member of the nonprofit Securities Investor Protection Corp., which protects against the loss of cash and securities when a covered brokerage fails. Accounts are insured up to $500,000 per customer, including a $250,000 limit for cash.

Covered securities include stocks, bonds, Treasurys, certificates of deposit, mutual funds and money market mutual funds. (Money market accounts and certificates of deposit are considered investments rather than cash under SIPC rules.)

The “per customer” limit is based on how the accounts are owned or titled. If you have a retirement account and a regular brokerage account, for example, separate $500,000 limits would apply to each.

SIPC coverage kicks in if a brokerage fails and securities or cash are missing from your account. You also have protection in case of unauthorized trading or theft from your accounts. SIPC insurance does not protect you against stock market drops or other declines in the value of your investments.

Q&A: What’s the best way to save for education? A 529 plan or I bonds?

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Dear Liz: Please write a comparison of 529 college savings plans versus using I bonds for education. I had given baby gifts of 529 funds to grandkids before they had their first birthdays. But due to market volatility, this year I matched those with I bond funding for the kids. The oldest is now 6, so there is time to get past penalty issues for withdrawals should they use these for education, as I hope they will.

Answer: As mentioned in previous columns, 529 college savings plans are a flexible, tax-advantaged way to save for education costs.

Money can be used tax free for private kindergarten through 12th grade tuition as well as qualifying college expenses. Plus, up to $35,000 of leftover funds can be rolled over into a Roth IRA.

Accounts owned by parents have minimal impact on financial aid, and accounts owned by grandparents aren’t included in federal financial aid calculations at all.

College savings plans typically offer an array of investment options, including age-weighted funds that get more conservative over time. The ability to invest the money means you have a good shot at generating inflation-beating returns over time, but you also have to deal with some ups and downs in the markets.

I bonds — technically, I Series Savings Bonds — have advantages as well.

These are government-issued bonds, so you can’t lose your principal, and they are designed to help investors keep up with inflation. I bonds earn a fixed rate for the 30-year life of the bond, which is currently 0.4%, plus a semiannual variable rate pegged to inflation (currently 3.24%).

The composite rate formula for I bonds issued from November 2022 through April 2023 is 6.89%. In the previous 6 month period, bonds paid 9.62%.

The interest is added every six months to the bond’s value, rather than paid out, so bond owners can defer federal taxes until the bond is cashed in. (I bonds are exempt from state and local taxation.) And the interest can be tax free if the bond proceeds are used to pay for certain higher education costs.

Getting that tax-free treatment is somewhat complicated, however.

First, the bonds would need to be owned by the parents rather than you or the grandkids. Qualifying college expenses must have been incurred by the bond’s owner, the owner’s spouse or a dependent listed on the owner’s federal tax return.

There’s an age restriction too: The bond owner must have been at least 24 before the bonds were issued. The ability to get the exclusion ends if modified adjusted gross income is above certain limits (in 2022, it was $100,800 for singles or $158,650 for married couples filing jointly).

I bonds have other restrictions. No withdrawals are allowed in the first year of ownership. Any withdrawals made within the first five years trigger a loss of three months’ worth of interest income.

People can buy $10,000 of electronic I bonds each year, plus they can use their tax refunds to purchase an additional $5,000 of paper I bonds.

I bonds are certainly a reasonable alternative for college savings, but the various restrictions on their purchase and use may make 529 college savings plans a better option for many families.

Q&A: A gift for the great-grandkids? Consider a 529 college savings plan

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Dear Liz: Recently my granddaughter gave birth to twins. I’d like to put $500 into a trust for each of them to mature when they are 18. I’m hesitant to set up an education fund in case they decide not to go on to college. I would like something that includes growth and safety, the least amount of cost and minimal tax consequences. Is there something you could recommend?

Answer: A trust would be overkill, given the relatively modest amount you have to contribute. Consider instead setting up 529 college savings plans, which provide the benefits you’re seeking, including some flexibility in how the money is spent.

The money you contribute can be invested to grow tax-deferred. Withdrawals are tax-free when used for qualified education expenses, which include costs at vocational and technical schools as well as colleges and universities. In addition, up to $10,000 per year can be used for private school tuition for kindergarten through 12th grade. If a beneficiary doesn’t use the money in their account, the balance can be transferred to another close relative. The account owner (you) also can withdraw the money at any time. You would pay taxes on any earnings plus a relatively modest 10% penalty.

Legislation passed at the end of last year offers another option: Money that’s not needed for education can be transferred to a Roth IRA, starting in 2024. After an account has been open at least 15 years, the beneficiary can start rolling money into a Roth. The amount rolled over can’t exceed the annual contribution limit (which in 2023 is $6,500), and the lifetime limit for rollovers is $35,000.

These plans are offered by the states and operated by various investment companies. You can learn more at the College Savings Plan Network.

Q&A: How to buy U.S. Treasuries

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Dear Liz: Can I purchase a U.S. Treasury bill myself or do I need to go through a bank or a financial advisor?

Answer: You can buy government-issued securities — including Treasury bills, bonds and notes —from TreasuryDirect, which is operated by the U.S. Department of the Treasury. Setting up an account usually takes just a few minutes, but you’ll need a valid Social Security number, a U.S. address and a checking or savings account to complete the process.

You also can buy Treasuries in a brokerage account. You can purchase a Treasury bill on what’s known as the secondary market, where securities are bought and sold, or you can invest in a Treasury money market mutual fund or a Treasury exchange-traded fund.

Q&A: ‘Assets under management’ advisors

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Dear Liz: We’ve been using a fee-only financial advisor for 25 years. We’d discuss what we needed, she would tell us how many hours it would take, then she invoiced us at an hourly fee.

She recently joined a company that charges 1% of investment portfolios to provide financial advice. Is this still considered fee-only financial planning? If so, how do we find a firm that charges an hourly rate? We don’t want to spend thousands of dollars for someone to just tweak the detailed roadmap that’s already been created.

Answer: So-called “assets under management,” or AUM, fees are indeed considered fee-only planning, as long as the advisor only accepts fees paid by the clients and does not receive commissions or other compensation for the investments they recommend. AUM fees are a common compensation method and 1% is a fairly standard fee. If the advisor is doing significant, ongoing planning and investment management for you, the fee may be worthwhile. If not, there are other compensation methods that may be a better fit. Garrett Planning Network represents fee-only advisors willing to charge by the hour, while XY Planning Network and the Alliance of Comprehensive Planners offer fee-only advisors who charge retainer fees.