Ask Liz Weston

Get smart with your money

Q&A

Playing it safe could mean losing money

By

Dear Liz: The certificate of deposit I owned in my Roth IRA recently matured. I’ve put the money into a Roth passbook account until I can figure out what to do with it. I’m a public school teacher and have a 457 deferred compensation plan to which I contribute monthly. I am 57 and will need to work until I am at least 65. What should I do with the money in my Roth?

Answer: As a public school teacher, you probably have a defined benefit pension that will give you a guaranteed monthly check for life once you retire. Depending on how long you’ve taught and where, this pension could cover a substantial portion of your living expenses.

The guaranteed nature of this pension means that you may be able to take more risk with your other investments. That would mean your Roth could be invested in stock mutual funds or exchange-traded funds that offer potential for growth. CDs and other “safe” investments can’t offer that — in fact, your money loses purchasing power since you’re not earning enough interest to even offset inflation.

Since you’re so close to retirement, you should invest a few hundred dollars in a session with a fee-only financial planner who can review your situation and offer personalized advice.

Companies make it easy to hack your identity

By

The hackerYou might think breaking into a corporate database would be hard. Not so. A recent report from the Verizon RISK Team found the vast majority of incidents required minimal skills and took place in a few hours. Unfortunately, those breaches often weren’t discovered for months or even years–and it typically wasn’t the company but rather a third party that discovered a breach.

From a Credit.com post on the study:

While one in 10 were so easy the average Internet user could have caused them, another 68 percent were the result of hacking attacks using the most basic methods, requiring relatively few resources to complete. Only one breach suffered in all of 2012 required “advanced skills, significant customizations, and/or extensive resources” to complete.

That is likewise reflected in the amount of time it took to cause most data breaches, the report said. Altogether, 84 percent took hours or even minutes to perpetrate, while these incidents typically took months or even years to discover. Nearly two-thirds of all breaches took at least that long, up from just 56 percent the year before, proving that it’s actually becoming more difficult to spot breaches, as well as contain them. While most were remediated in hours or days, nearly a quarter took months.

The take-away from this is that companies aren’t doing nearly enough to protect the information they collect about you. And the sad truth is that you have little control over what goes into these databases. You can do your best to protect your identity, and still have your information breached.

You should still take steps to reduce your exposure, steps like not giving your Social Security number to companies that don’t need it and refusing to give businesses permission to share your information. You should use tough-to-hack passwords and stop sharing secrets on social media. You also should monitor your credit reports and financial accounts.

Until companies get serious about protecting your data, though, you’re still a target for identity theft.

 

Are you paying too much for advice?

By

Dear Liz: You always mention fee-only financial planners and I’m not sure about the true meaning. My husband and I have a financial planner who charges us $2,200 per year, but we got a summary of transaction fees in the amount of $6,200 for last year. Is this reasonable? We have $625,000 in IRAs and are adding $1,000 a month. In addition we have over $700,000 with current employers, adding the max allowed yearly. The planner gives advice on allocations for these employer funds as well. Are we paying too much for the financial planner? The IRAs seem to be doing well, but the market is doing well (today!).

Answer: It appears you’re paying both fees and commissions, so you’re not dealing with a fee-only planner. Fee-only planners are compensated only by the fees their clients pay, not by commissions or other “transaction fees” for the investments they buy. One big benefit of fee-only planners is that you don’t have to worry that commissions they get are affecting the investment advice they give you.

You’re paying about 1.3% on the portfolio you have invested with this advisor. That’s not shockingly high, but once you add in all the other costs associated with these investments, such as annual expense ratios and any account fees, your relationship with this advisor may be costing you 2% a year or more. That’s getting expensive, unless you’re getting comprehensive financial planning — help with insurance, taxes and estate planning, as well as investment advice — from someone qualified to provide such planning, such as a certified financial planner.

What you pay makes a big difference in what you accumulate. Let’s say your investments return an average of 8% a year over the next 20 years. If your costs average 1% a year, that would leave your IRAs worth about $3 million. If your costs average 2%, you could wind up with $2.5 million, or half a million dollars less.

Keeping your expenses low would mean you stop trying to beat the market with actively traded investments. Instead, you would opt for index funds and exchange-traded funds that seek to match market returns. These funds typically come with low expenses, often a small fraction of 1%. Using a fee-only planner can be another way to reduce what you pay for advice.

At the very least, consider bringing a copy of your portfolio to a fee-only planner for a second opinion. He or she can give you a better idea of whether what you’re paying is worth the results you’re getting.

Inheritance tax may not be worth avoiding

By

Dear Liz: My father-in-law’s spouse recently died. He is 89 and not in very good health. He has assets of about $3 million and lives in a state (Pennsylvania) that has an inheritance tax. What can he do to avoid state taxes and make sure his assets go where he wants them to go? He does not like to talk about these things but I’m trying to help. I have no interest in benefits to myself but I would hate to see his assets go to the state.

Answer: It’s one thing to encourage a parent or in-law to set up estate documents that protect them should they become incapacitated. Everyone should have durable powers of attorney drawn up so that someone else can make healthcare and financial decisions for them if they’re unable to do so.

It’s quite another matter to urge a potential benefactor to make sure the maximum amounts possible land in inheritors’ laps, especially if he or she doesn’t want to discuss the matter. You may need to accept that not everyone is interested in minimizing taxes for his heirs. Your father-in-law’s resistance to talk about these things is a good indicator that you should back off.

It’s not as if the majority of his assets will wind up in state coffers anyway.  Although Pennsylvania is one of the few states that has an inheritance tax, the rate isn’t exorbitant for most inheritors. (Unlike estate taxes, which are based on the size of the estate, inheritance taxes are based on who inherits. Your father-in-law doesn’t have to worry about estate taxes, since the federal exemption limit is now over $5 million and Pennsylvania doesn’t have a state estate tax.) In Pennsylvania, property left to “lineal descendants” — which includes parents, grandparents, children and grandchildren — faces tax rates of 4.5%. The tax rate is 12% for the dead person’s siblings and 15% for all others. Surviving spouses are exempt.

If he were interested in reducing future inheritance taxes, your father-in-law could move to one of the many states that doesn’t have such a tax. He also could give assets away before he dies, either outright or through an irrevocable trust. He may not be interested in or comfortable with any of those solutions. If he is, it’s up to him to take action. If he needs help or encouragement, let your wife or one of her siblings provide it. In estate planning matters, it’s usually best for in-laws to take a back seat.

Is a reverse mortgage a good option for this couple?

By

Dear Liz: I try to watch out for my neighbors, a married couple in their early 90s. Two of their three sons, who are both in their 60s, want them to get a reverse mortgage. The couple’s house is paid off as well as their cars. They pay all their monthly bills with Social Security and his pension. They have a living trust as well. Neither I nor the couple see any reason or upside but the sons are pressuring. Any input?

Answer: A reverse mortgage is typically a last-resort option for elderly people who are strapped for cash and who have few options for generating income other than tapping their home equity. The couple you’re describing does not seem to fit that profile.

The sons, however, may fit the profile of greedy relatives who can’t wait for their inheritances and who are trying to get their mitts on some money early (possibly squeezing out the third brother).

That assessment may be too harsh, but you might encourage the couple to talk to the attorney who drew up their living trust about this. If that attorney isn’t experienced in helping the elderly protect themselves, a field known as elder law, you could help them find someone who is by getting referrals from the National Academy of Elder Law Attorneys, http://www.naela.org. If the two sons have any role in handling their parents’ money should the parents become incapacitated, it might be prudent to replace them or at least name another trusted party to serve with them.

Your neighbors also should consider letting the third son know what his brothers have been trying to do. In some families, the best defense against greed is an ethical relative who can keep his eye on the rest.

401(k) loans can get really expensive

By

Dear Liz: I bought my condo in 2009. I took out a loan on my 401(k) account to use for the down payment. I left my job in early 2012, and at the time didn’t have the money to pay back the loan, so the balance was treated as a distribution. I now owe the IRS $10,000 and don’t have the money to pay them, nor can I afford monthly payments beyond about $50. I can’t borrow any money from a family member or friend. My tax guy suggested (another) 401(k) loan, but I’m really reluctant to go deeper into debt. Any suggestions?

Answer: Thank you for providing a vivid example of why people should think twice before dipping into retirement funds to buy a house. Not only are you facing a steep tax bill, but the money you withdrew can’t be restored to your account, so you’re losing all the tax-deferred gains that cash could have earned over the coming decades. You can figure that every $10,000 withdrawn costs you at least $100,000 in lost future retirement funds, assuming an 8% average annual return on investment over 30 years. If you’re 40 years from retirement, the toll can be twice as large.

So it would be good, if at all possible, to leave your retirement funds alone from now on. That means you need to come up with the cash to pay what you owe, and $50 a month doesn’t cut it. To use an IRS payment plan, you’ll need to come up with about $140 a month to pay your bill off within the required 72 months.

Fortunately, there are plenty of ways to trim your spending so you can free up more money to pay this bill. These ways include, but aren’t limited to: ending your pay TV subscription, preparing meals at home instead of eating out, trading your smartphone for a dumber one or at least switching to a prepaid plan, selling or storing your car and using public transportation, or selling your condo and moving to a cheaper place.

When people have virtually no discretionary income left after paying bills, and they’re employed, the culprits are often their housing or transportation costs, or both. Reducing these can be painful but may be necessary if you want to get on more solid financial footing.