Ask Liz Weston

Get smart with your money

Q&A

Q&A: What to do with an old IRA?

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Dear Liz: I left a job several years ago to become a full-time freelancer. I have a SEP IRA and a SIMPLE IRA from that job that have basically just been sitting there. What are my options in moving this money to a better retirement investment?

Answer: SEPs and SIMPLEs are just the tax-advantaged buckets into which you (and your then-employer) put money. It’s the investments you choose within those buckets that determine what kind of returns you’ll get. The financial institution that’s holding these accounts can be a factor as well: If it’s charging a lot of fees, your returns will suffer accordingly.

Your best bet is to make sure the accounts are being held at a low-cost provider and that you have sufficient exposure to stocks to offer growth that will offset inflation over time. Most discount brokerages and mutual fund companies offer target-date maturity funds that give you diversification, professional asset allocation and automatic rebalancing at a low cost.

Q&A: What to do with a big tax refund?

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Dear Liz: I got a big tax refund this year and am trying to figure out what to do with the money. Right now I have school loans with a 4% interest rate that I do not need to make a payment on until 2024 with my current payment plan, but the amount I owe is pretty hefty and I know it’s going to compound more over time. I also have a very low-interest car loan (1.9%) that will be paid off in 31/2 years. I also could put that money in the market in hopes that it will grow. I should add I am 27 years old. Any advice?

Answer: Yes: Please review the terms of your student loans, because it’s likely you’ve misunderstood your obligation.

Federal education loans typically don’t allow you to go 10 years without payment, said financial expert Mark Kantrowitz, publisher of Edvisors Network.

“With federal education loans, the economic hardship deferment has a three-year limit and most forbearances have a three-year limit, with one or two having a five-year limit,” Kantrowitz said.

“One could potentially consolidate the loans after getting a deferment and forbearances to reset the clock and thereby get a new set of deferments and forbearances on a new loan. But most of the forbearances aren’t mandatory, so one can’t count on stacking deferments and forbearances to get a 10-year suspension of the repayment obligation.”

Another possibility is that you’ve signed up for an income-based repayment plan that has reduced your payment to zero, but your eligibility is determined year by year. “2024 is a very specific date, so it seems unlikely that this is [income-based repayment],” Kantrowitz said.

“The most likely scenario is this borrower is misunderstanding the terms of his loan,” Kantrowitz said. “The next most likely scenario is that this borrower is not referring to a qualified education loan, but to a particular personal loan that he was able to obtain that few other borrowers would be able to obtain.”

Whatever the case may be, one of the best uses for a windfall is to boost your retirement savings. Even if you don’t have a workplace plan, you could set up an IRA or a Roth IRA as long as you have earned income.

Once you’re on track for retirement, your next goal would be to build your emergency fund, since you don’t have any high-rate debt. Once those goals are met, you can start paying down lower-rate debt (such as your student loans).

Q&A: Home equity loans, mortgages and retirement

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Dear Liz: I wish to add a little more information for the retired individual who had trouble getting approved for a home equity loan because he had no regular income (although he had plenty of assets). I’d suggest consulting a mortgage broker, not a bank. An independent broker is not captive to one set of policies. My broker suggested that I set up automatic withdrawals from my IRA to show that I had income in addition to Social Security. Once this was done and I met all the other credit requirements, I closed on a refinance in less than 30 days at a very good interest rate. Then, I discontinued my automatic withdrawals and went back to taking my funds as needed. I learned to use a qualified mortgage broker many years ago after a divorce and not having a job. I could not get a mortgage on my own, but my mortgage broker did and at very good terms. Each time I’ve used a broker, the process went smoothly and was stress free.

Answer: Many people don’t realize that lender policies differ quite a bit. In this case, mortgage buyers Fannie Mae and Freddie Mac have clarified that mortgage lenders can calculate a retiree’s income based on his or her assets, but not all lenders are willing to do the extra work these loans require.

People who are W-2 employees with solid income histories and great credit scores probably don’t need help finding a loan, because plenty of lenders will want to compete for their business. When your situation is outside the norm, however, a mortgage broker may be able to track down a lender when others balk. The National Assn. of Mortgage Brokers at http://www.namb.org offers referrals.

Q&A: Helping retired parents refinance

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Dear Liz: I am trying to help my retired parents refinance their home. Currently they are paying over 8% interest. (This loan should be illegal.) The problem is their credit score, which is around 536. They had a tax lien in 2004 (it has been paid off for over four years) and some minor credit card issues. The total card debt is less than $1,000. I see several bad footnotes on these cards. Some of the cards have a balance of less than $100. What is the best and fastest way to help them get the mortgage they deserve?

Answer: Your parents don’t have a single credit score. They each have their own scores. Mortgage lenders typically get FICO scores for each borrower from all three credit bureaus, for a total of six scores. Lenders look at the middle score for each person and typically base rates and terms on the lower of those two middle scores.

If that number is indeed 536, your parents have serious, recent credit problems. You may not think an unpaid credit card is a big deal, but it is to credit scoring formulas, which are designed to help lenders gauge a borrower’s risk of default. People with unpaid bills are far more likely to default on a new loan than people who pay their bills on time, and their respective credit scores reflect that reality. What people “deserve” isn’t a factor. How they handle their credit accounts is.

What you’re calling “bad footnotes” are likely records of late payments and perhaps charge-offs and collections activity. Those typically can’t be erased, but your parents can stop the ongoing damage to their credit by paying their bills on time and paying off any overdue bills to their credit card companies.

If the accounts have been sold to collectors, the process gets trickier. Paying off collections typically won’t help credit scores, but lenders usually want these accounts paid off before they will make a new loan. Your parents can try negotiating to have the collection accounts deleted in return for payment, but they won’t be able to erase the late payments and other negative marks reported by the original creditor.

Once they start handling their credit accounts responsibly, their credit scores will start to improve. The improvements will happen slowly, though, and they may well miss the opportunity to refinance at today’s low levels.

Social security switch

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Dear Liz: When I turned 66, I applied for and then suspended my Social Security benefits so that my husband could take spousal benefits based on my work record. Shortly after he turned 69, he decided to start taking his full benefit from his own work record, so we canceled the spousal benefits.

After he applied to take his full benefit, I applied for spousal benefits from his account. Since I am only 67, the plan was for me to collect spousal benefits until I reached 70 and then collect off my account. Since I am the primary breadwinner, that allows the maximum lifetime funding should something happen to either of us. I sat with an employee at the local Social Security office. Together we processed all the appropriate documentation and she submitted it.

I just received a notice of denial that says, “We cannot approve your request because we received it after the 12-month limit.” I took the letter to the Social Security office for an explanation, and the woman had never heard of the rule it cited. The rule, it turns out, was designed to prevent people from repaying all the benefits they’ve received over the years so that they can restart their benefit at age 70. The rule says that they can pay back only benefits received in the prior 12 months to restart their benefits. But that is not what I did.

Answer: No, it’s not, but what you tried to do still won’t work.

Here’s the simplest way to explain it: There’s only one spousal benefit for each couple. Once you filed for your own benefit, allowing your husband to claim spousal benefits, you aren’t allowed to switch even though you hadn’t started receiving checks yet.

If it’s any consolation, you chose the right spouse to receive spousal benefits, since you’re the higher earner. It would have been best if your husband had waited to switch at age 70, when his benefit reached its maximum, but his checks are still substantially larger than they would have been if he had started earlier.

Another point that should be made because it’s often misunderstood, is that your husband was allowed to switch from spousal benefits to his own benefit because he started Social Security at or after his own full retirement age. If he’d started benefits before his full retirement age, which is currently 66, he would have been stuck with a discounted spousal benefit and couldn’t have switched to his own benefit later.

Beware of loans to family

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Dear Liz: I went with my brother to his credit union to refinance his house and found out his wife has about eight medical bills that went to collections and he owes a phone company more than $2,000. Their debt totals about $6,300. I could lend them the money or they could do a debt consolidation or talk to a credit counselor. What’s your opinion on these options?

Answer: None of these options is likely to work the way you hope.

Your brother should be wary of any “debt consolidation” offers he gets, as many will be scams and others will charge outrageous interest. The collections accounts have trashed the couple’s credit, which means mainstream lenders will probably avoid them until their situation improves.

The debt management plans offered by legitimate credit counseling agencies, meanwhile, are designed to help people pay off credit card bills, not past-due medical or phone bills. A credit counselor may give the couple some helpful budgeting advice to enable them to pay their debts, but it typically wouldn’t arrange payment plans.

Lending your brother the money would enable the couple to pay off the overdue bills. That won’t help their credit scores, however, unless your brother is able to persuade the collectors to remove the accounts from their credit reports. That’s often difficult to do, said debt collection expert Gerri Detweiler of Credit.com.

Your brother could start by asking the medical providers to take back any accounts that have been assigned to collectors and making payment arrangements directly with those providers. Medical collections are often on consignment and can be called back if the provider wishes.

The phone account, by contrast, was probably sold to a collection agency and can’t be reassigned to the original company. Even if your brother can’t get the account deleted from credit reports, he’ll probably need to pay or settle it if he hopes to refinance his mortgage because lenders usually don’t like to see open collection accounts.

Before you lend him the money, you should understand that loans to people with debt problems often don’t get repaid. If you can’t afford to lose this money, don’t lend it.