Ask Liz Weston

Get smart with your money

Q&A

Q&A: How to pick a fee-only financial planner when family’s finances suddenly increase?

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Dear Liz: I have had a fairly predictable financial life. I’m a school administrator, and my husband is a nurse.

We now have three properties. Two are income properties, and the third is a home that has sat for eight years in mid-construction. When finished, the home could be rented for $4,500 to $5,000 per month. Altogether the properties could bring in about $200,000 per year.

Additionally, my salary has doubled in the last two years. Bottom line, we will be making about $500,000 a year but are woefully unprepared with low financial IQs. You write about picking a fee-based financial planner, but internet searches leave me still wondering if we would be entering shark-infested waters.

Answer: Plenty of sharks do lurk in the financial advice world. Too many people calling themselves advisors are actually salespeople without the comprehensive financial planning background to give truly good, objective advice. Advisors who call themselves “fee-based” typically charge fees but may also accept commissions, bonuses or other incentives to recommend investments that may profit them more than you.

A true fee-only financial planner accepts compensation only from clients. You’ll want one who has an appropriate credential such as certified financial planner (CFP). The planner should be willing to be a fiduciary and put that in writing. “Fiduciary” means the planner promises to put your best interests first.

In the past, you may have had trouble finding a fee-only financial planner willing to work with you. Although your income is high and you have substantial real estate assets, you may not have a ton of “investable assets,” such as stocks and bonds.

Many of the best fee-only planners used an “assets under management” model, in which they required clients to have a minimum level of investable assets — say, $500,000 or more — and charged them about 1% of those assets in exchange for investment management and advice.

There are still plenty of fee-only planners who use that model, but a growing number now offer different fee structures, including monthly or quarterly retainer fees or hourly fees that aren’t based on investable assets.

For example, the XY Planning Network is a network of CFPs who offer ongoing, flat monthly fees that are typically $100 to $200, with some planners requiring an initial or setup fee of $1,000 to $2,000.

Garrett Planning Network represents planners willing to charge by the hour and who are either CFPs, on track to get the designation or are certified public accountants who have the personal financial specialist credential, which is similar to the CFP. Hourly fees usually range from $150 to $300.

You also can get referrals from the National Assn. of Personal Financial Advisors, the oldest fee-only group of CFPs.

Interview at least three planners before choosing one and make sure to find someone with whom you have a good rapport. If you’re not financially savvy, you’ll want someone willing to take the time to answer your questions clearly and not talk over your head while helping you deal with your increased level of prosperity.

Q&A: Credit alert or phishing scam?

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Dear Liz: I received a notice from one of my credit card companies stating that they had noticed something amiss in my credit, though not related to their card. The notice suggested I check my credit reports, which I did. Nothing showed up on the reports that was of concern. What else should I do to ensure my credit stays secure?

Answer: Vague “alerts” are a hallmark of phishing emails that are trying to get you to reveal personal information.

If you followed a link in an email to view your credit reports or accessed them on any site other than www.annualcreditreport.com, you may well have handed your Social Security number and other vital data to an identity thief.

If that’s the case, you should freeze your credit reports to prevent the thief from opening new accounts in your name. You might want to do that anyway, given the prevalence and severity of recent database breaches.

Q&A: Does a credit freeze hurt your credit scores?

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Dear Liz: I implemented a credit freeze a few months ago. I’m wondering if that could prevent me from having credit scores. I understand that if you don’t use credit, your credit scores can basically go away. I don’t have any loans or a house payment. I do have a few credit cards, used often and paid in full monthly.

Am I at risk of my credit fading away because of neglect with the freeze in place?

Answer: You’ll continue to have credit scores as long as you keep using credit accounts that are reported to the major credit bureaus. The people who are at risk of having their credit die of neglect are the ones who stop using credit.

About 7 million people are considered “credit retired,” which means they no longer actively use credit enough to generate credit scores, according to credit scoring company FICO. Their histories are free from charge-offs and other negative marks that might indicate their lack of credit is involuntary, says Ethan Dornhelm, FICO’s vice president for scores and predictive analytics.

Being credit retired can be costly. People may be shut out of loans they want in the future, or may have to pay higher interest rates. A lack of scores could lead to higher insurance premiums, cellphone costs and utility deposits.

Keeping your credit scores alive is relatively easy — using a single credit card is enough. There’s no need to carry debt or pay interest. Just continue using the card lightly but regularly, and pay it off in full every month.

Your credit freezes will prevent new lenders from seeing your scores and opening new accounts in your name unless you thaw the freezes. Companies where you already have an account, however, will be able to see your reports and scores.

Q&A: Giving stock to your children

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Dear Liz: We plan to give our children some stock that we have had for several years. What is the tax consequence when they sell it? Is it the difference from the value when we gave it to them till they sell it, or the difference from the value when we purchased it?

Answer: If the stock is worth more the day you give it to them than it was worth when you bought it, you’ll be giving them your tax basis too.

Let’s imagine you bought the stock for $10 per share.

Say it’s worth $18 per share when you gift it. If they sell for $25, their capital gain would be $15 ($25 sale price minus your $10 basis). They will qualify for long-term capital gains rates since you’ve held the stock for more than a year.

If on the day you give the stock, it’s worth less than what you paid for it, then different rules apply. Let’s say the stock’s value has fallen to $5 per share when you gift it.

If your children later sell for more than your original basis of $10, then $10 is their basis. So if they sell for $12, their capital gain is $2.

If they sell it for less than $5 (the market value when you gave it), that $5 valuation becomes their basis. If they sell for $4, then, their capital loss would be $1 per share ($4 sale price minus $5 basis). The silver lining: Capital losses can be used to offset income and reduce taxes.

Finally, if they sell for an amount between the value at the date of the gift and your basis — so between $5 and $10 in our example — there will be no gain or loss to report.

If, however, you wait and bequeath the stock to them at your death, the shares would get a new tax basis at that point. If the stock is worth more than what you paid, your kids get that new, higher basis. So if it’s worth $25 on the day you die and they sell for $25, no capital gains taxes are owed. If it’s worth $5 when you die, though, the capital loss essentially evaporates. Your kids can’t use it to offset other income.

Q&A: If your job reimburses you for education costs, can you still get a tax deduction?

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Dear Liz: I established a Coverdell Education Savings Account for my son about 20 years ago. My son has since graduated, and there is still about $12,000 left in that account. He has worked a few years and now is going to graduate school while still being employed. His employer will do education reimbursement.

How should we withdraw the funds to qualify for the education expense deduction come tax time?

Answer: Congress recently eliminated the tuition and fees deduction, but the American Opportunity Tax Credit and the Lifetime Learning Credit remain for 2018. For you to claim an education credit, however, your son would have to be your dependent. If your son is working full time, he’s probably not a dependent. He may be able to take a credit, but only for qualified education expenses that aren’t reimbursed by his employer or paid by a Coverdell distribution. Taxpayers aren’t allowed to double-dip — or potentially, in this case, triple-dip — on education tax benefits.

If your son incurs education expenses in excess of what his employer reimburses, then funds in the Coverdell ESA could be used to pay for those costs or reimburse your son for the additional out-of-pocket education expenses he paid in the same year as the distribution, said Mark Luscombe, principal tax analyst at Wolters Kluwer Tax & Accounting. Once the Coverdell is depleted, your son may be able to take a credit for any remaining qualified education expenses.

Q&A: Selling a home you’ve shared with tenants

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Dear Liz: I am 53 and own a home in which I live and rent out rooms. Every year I pay my taxes on the rental income and get to deduct depreciation.

How does this affect the taxes I will pay on the home when I sell it? Will I be able to claim the $250,000 exemption? I may live in this home until my death and leave it to my children. How would the rental depreciation affect their stepped-up basis and any taxes they might have to pay?

Answer: Renting rooms is similar to taking the home office deduction in the Internal Revenue Service’s eyes. In both cases, you have to recapture any depreciation, but the business use doesn’t affect your ability to take the home sale exclusion.

The home sale exclusion allows you to exempt from capital gains taxes up to $250,000 of home sale profit. (The exclusion is per owner, so a married couple potentially could exempt up to $500,000.) You’re eligible for the exclusion if you have owned and used your home as your primary residence for at least two years out of the five years before the sale. You will have to pay income taxes on the amount of depreciation you deducted over the years. That depreciation amount is added back as income on your tax return.

If the space you rented out had not been within your living area — if it were a separate apartment or retail space — then different rules would apply.

If you decide to bequeath the home at your death rather than selling it, your heirs won’t have to pay the depreciation recapture tax — or capital gains taxes on any appreciation that took place while you owned it. Instead, the home’s tax basis will be “stepped up” to its current market value.

If they sell it soon after inheriting it, they won’t owe much if any tax on the sale. If they hang on to it before selling, they’ll owe taxes only on the appreciation that took place while they owned it. If they move in and make it their primary residence, they too could qualify for the $250,000-per-person home sale exclusion once they have owned the home, and used it as their primary residence, for at least two of the five years before they sell it.