Q&A

Love and money

April 7, 2014 By Liz Weston

Dear Liz: I am in a new relationship with a great woman. I’ve talked a little bit about money and retirement with her (she’s 30). I am trying to let her know that it would be wise to contribute at least enough to her company’s retirement program to get the full match. What are some books or articles that would show her the importance of saving for retirement? I like her, but this can be a deal breaker for me. What is the best way to introduce her to personal finances without scaring her?

Answer: You could start by hopping down from that high horse you’re riding.

The fact that she’s not saving for retirement is unfortunate but hardly unusual. Many people her age have trouble understanding the need to start saving young for retirement. Even those who do may have trouble investing their money, thanks to the 2008 market crash and subsequent recession. A recent survey by MFS Investment Management of people with $100,000 or more in investable assets found nearly half of adults under 34 say they would never be comfortable investing in stocks.

Of course, millennials need to get comfortable with the idea of stock market investing, because otherwise they’re unlikely to grow their wealth enough to afford a decent retirement. Some books that can help them understand the principles of investing — and the importance of scooping up those free company matches — include:

•”Generation Earn: The Young Professional’s Guide to Spending, Investing, and Giving Back,” by Kimberly Palmer.

•”Get a Financial Life: Personal Finance in Your Twenties and Thirties,” by Beth Kobliner.

•”On My Own Two Feet: A Modern Girl’s Guide to Personal Finance,” by Manisha Thakor and Sharon Kedar.

As you talk to your girlfriend, remember that few couples are on exactly the same page financially. Everyone has different family cultures and experiences growing up that inform how we deal with money. Asking her to talk about her background with money and taking the time to understand her perspective is a great place to start your conversations about finances. It’s certainly better than issuing ultimatums at this early stage.

Can life insurance be used as an estate planning tool?

March 31, 2014 By Liz Weston

Dear Liz: I am 70 and my wife is 59. My pension covers us for both our lifetimes. We have no debt. My wife and I do not need the required minimum distributions I will soon have to start taking from my 457 deferred compensation plan, which is currently worth $1 million. I planned to invest these distributions in an index fund to leave to our son. My accountant recommends instead that I buy a joint whole life insurance policy for me and my wife because it will be tax free when our son inherits our estate years from now. Does it make sense to buy insurance as an estate planning tool?

Answer: Does your accountant sell insurance on the side, by any chance?

Because a tax pro should know that the money in that index fund would get a so-called step up in tax basis when you die and your son inherits the account. If he promptly sold the investments, he wouldn’t owe any taxes on the growth in the account (the capital gains) that happened while you were alive. Even if he hangs on to the investments for a while, he would owe capital gains tax only on the growth in value since your death. That’s a pretty awesome deal.

If you buy life insurance, by contrast, you’d have to weigh any tax benefit against the not-insubstantial amount you’d pay the insurer for coverage. At your ages, such a policy would be far from cheap.

Any time someone suggests that you buy life insurance when you don’t actually need life insurance, you would be smart to run the proposed policy past a fee-only advisor — one who doesn’t receive commissions or other incentives to sell insurance.

There’s an outside chance that your accountant recommended a permanent life insurance policy for estate tax purposes. These taxes will be an issue only if the combined estate of you and your wife is worth more than $10 million. If that’s the case, you should consult an estate planning attorney about your options.

Does Paying Off Old Debts Help Your Credit Score?

March 31, 2014 By Liz Weston

Dear Liz: How can I get a clear and complete picture of the debts that are hurting my credit score? I have my credit report already. I’m a bit lost and I need to get my credit cleared up to buy a home.

Answer: You actually have three credit reports, one at each of the major credit bureaus: Experian, Equifax and TransUnion. Your mortgage lender is likely to request FICO credit scores from each of the three, so you need to check all three reports.

You get your reports for free at one site: http://www.annualcreditreport.com. There are many sites masquerading as this free, federally mandated site, so make sure that you enter the URL correctly. You may be pitched credit scores or other products by the credit bureaus while you’re on this site, but you won’t be required to give a credit card number to get your free reports. (If the site is demanding that you give your credit card number, you’re at the wrong site.)

You should understand that old, unpaid bills may be depressing your scores, but paying them off may not improve those scores. In other words, the damage has been done. You may be able to reduce the impact if you can persuade the collectors to remove the accounts from your reports in exchange for payment, something known in the collections industry as “pay for delete.” But you probably can’t erase the late payments and charge-offs reported by the original creditor before the accounts were turned over to collections, and those earlier marks against you are even more negative than the collection accounts.

That’s not to say you should despair. Over time, your credit scores will improve as you handle credit responsibly. But you shouldn’t expect overnight miracles.

Investing Made Easy

March 24, 2014 By Liz Weston

Dear Liz: This is going to sound like a stupid question but here goes: I keep hearing different percentages for amounts I should invest for retirement and other goals, such as “put X% in stocks and Y% in bonds.” But which stocks and which bonds? Is it as simple as a purchasing a broad market stock index fund and a broad market bond index fund? There are so many choices for funds, stocks and bonds that I can’t get my head around it all. Also, what should you do with money needed in the near-ish term, say, less than five years?

Answer: Your questions aren’t stupid, and the answers are simple: “Yes,” and “keep it in cash.”

You can make investing complicated if that’s what you want, but a simple, effective solution for most investors is to simply buy inexpensive mutual funds or exchange traded funds (ETFs) that mimic a market index, such as the Wilshire 5000. The investments provide great diversification at low cost, and keeping fees down is essential to getting good long-term returns from your money.

Index funds attempt to match the market’s returns, rather than trying to beat the market with a lot of costly buying and selling. The annual expenses on index funds tend to be a fraction of what you’d pay for an actively managed fund.

Any investment in stocks or bonds requires some patience, however, since short-term fluctuations can cause you to lose money. If you’ll need that money in a few years, you shouldn’t take the risk of losing your principle. An FDIC-insured savings account will keep it safe. Online banks typically offer better yields than their bricks-and-mortar versions.

Triggering the Gift Tax

March 24, 2014 By Liz Weston

Dear Liz: In 2007, my parents signed over their house deed to my name. Does this trigger the gift tax? They never filled out a gift tax form. Is it too late? Dad has passed on but Mom is still with us. She has Alzheimer’s disease, and I have her power of attorney. Are there no taxes due because of the lifetime exclusion?

Answer: Yes, a gift tax return should have been filed, but no, the gift tax itself almost certainly wasn’t triggered. In 2007, each of your parents would have had to give away more than $1 million in their lifetimes before gift tax would be owed. The gift tax exemption limit has since been raised to more than $5 million.

A tax professional can help you file the overdue return. Then you should consult an attorney about what to do next.

If your parents’ intent was to avoid taxes by transferring the home to you, they probably made a mistake. By giving the house to you, they also gave their tax basis. That means that when you sell the house, you would have to pay capital gains taxes on the difference between the sale price and what they paid for it, perhaps many years ago. The capital gains would be decreased by any improvements made in the subsequent years and by selling costs, but you still could face a substantial tax bill.

If you’d inherited the home after their deaths, on the other hand, you would get a new tax basis that essentially makes those gains tax-free.
You could undo the gift by transferring the deed back to your mother and filing another gift tax return. (Again, no tax probably would be owed.) But that’s probably not something you’d want to do if your mother will qualify for Medicaid, the government program that pays nursing home expenses for the poor, said Howard Krooks, an attorney with Elder Law Associates in Boca Raton, Fla., and president of the National Academy of Elder Law Attorneys.

Medicaid looks back at the previous five years to see if the family transferred assets for less than fair-market value and delays eligibility if such transfers are found. Since you’re outside the five-year mark, you may want to leave things the way they are if Medicaid is in your mom’s future, Krooks said.

An elder law attorney can help you sort through the options. You can get referrals from the National Academy of Elder Law Attorneys at http://www.naela.org.