Ask Liz Weston

Get smart with your money

q&a

Q&A: Co-signing a loan may affect credit score

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Dear Liz: Despite having high credit card debt (about $35,000), which I am working hard to pay off, my FICO score is consistently over 765 and I have never been denied credit — until now. I was recently denied for a card because of “high debt to earnings” (I earn about $85,000 annually.) Could that be because I recently co-signed for a $15,000 education loan for my grandson? I trust him completely to pay off the loan, but is it now showing on my credit history as money owed even though it is not payable until after he graduates?

Answer: You’d need to check your credit reports to be sure, but it’s entirely possible the new loan is already showing up and affecting your scores. Your debt-to-income ratio was high even before adding this loan, though, so it’s not surprising that the credit card company balked.

It’s unfortunate that you weren’t clear about this when you co-signed, but you’re on the hook for that student loan every bit as much as your grandson is. If he misses a single payment, you could see your credit scores lose 100 points or more overnight.

If you want to protect your credit scores and have the opportunity to get good credit card deals in the future, continue to pay down your debt. Also, consider making the payments on the education loan yourself and having your grandson reimburse you. That’s really the only way to make sure a missed payment won’t torpedo your scores.

Q&A: Capital gains tax on home sale profit

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Dear Liz: I recently sold a home and am trying to escape the dreaded capital gains tax. I’ve done everything I can to reduce my overall tax bill, including maxing out my retirement contributions. I don’t want to buy a more expensive home to escape the gains tax. Any thoughts?

Answer: Buying a more expensive home wouldn’t change what you owe on your previous home. The days when you could roll gains from one home purchase into another are long gone.

These days you’re allowed to exclude up to $250,000 in home sale profit from your income (the limit is per person, so a couple can shelter $500,000). In other words, that amount is tax free, as long as you lived in the home for at least two of the previous five years. Beyond that your profit is subject to capital gains taxes. The top federal capital gains rate is 20%, plus a 3.8% investment surtax if your income is more than $200,000 for singles or $250,000 for married couples.

Here’s where good record-keeping may help. While generally you’re not allowed to deduct repair and maintenance costs from that profit, you can use home improvement expenditures to reduce the tax you owe. Home improvements are added to your cost basis — essentially what you paid for the property, including settlement fees and closing costs, and that’s what is deducted from your net sales price to determine your profit.

You’ll need receipts plus credit card or bank statements to prove what you paid. Improvements must “add to the value of your home, prolong its useful life, or adapt it to new uses,” according to IRS Publication 523, Selling Your Home. Examples of improvements include additions, remodels, landscaping and new systems, such as new heating or air conditioning systems. You can include repairs that are part of a larger remodeling job, but you can’t include improvements you later take out (such as the cost of a first kitchen remodel after you do a second one).

Q&A: What to do about heavy credit card debt

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Dear Liz: I have a lot of credit card debt and am just able to make minimum payments. I feel like after doing this for four years now that I am not getting ahead. I will be 61 this summer and don’t have much saved for retirement. My rent keeps going up along with other expenses. I have an 11-year-old car that is in need of maintenance but don’t have the funds to do it. My question is, what would happen if I walk away from the credit card debt? Will I be facing garnishment?

Answer: Yes, you could be sued and face wage garnishment if you simply stopped paying your debts.

You could consider a debt management plan offered through a credit counselor, which could lower the interest rates you pay. You can get referrals from the National Foundation for Credit Counseling at www.nfcc.org. But you’d be making payments for the next five years or so, when you could be putting that cash toward your retirement.

A Chapter 7 bankruptcy, by contrast, would take a few months and legally erase your credit card debt to give you a fresh start. Bankruptcy is often the best of bad options when you can’t make progress on your debts. Consider meeting with both a credit counselor and a bankruptcy attorney so you understand all your options.

Q&A: Parking money for a short term

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Dear Liz: We will soon be selling our home and moving into an apartment until we purchase a new home. Our proceeds from the sale will be over $600,000. It seems that there is no place to safely put the funds and get some meaningful interest to boot. Savings accounts and money markets pay very little interest, and certificates of deposit have a fixed time. We may need to withdraw the money in as few as 30 days, but it may be six months or longer. Any suggestions where to park our money?

Answer: Some online banks currently offer interest rates around 1% for savings accounts. It’s not much, but it’s better than the 0.06% rate that’s currently the national average, according to the FDIC’s April 3 report. An Internet search for “best savings rates” should turn up competitive offers.

A rate of 1% isn’t much and means that you’ll lose a little ground to inflation, which is currently more than 2%. But it’s more important that your money be safe and liquid, ready when you need it, than for you to try to squeeze a high return from it.

Q&A: Professional investment management fees

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Dear Liz: I have an IRA with over $100,000 at a discount brokerage. I had it in a target date fund. Due to market downturns, I got nervous and was convinced to put my investment into the brokerage’s portfolio advisory services with additional fees coming to $1,600 per year. In general, is it wise to change investments to these more professional services?

Answer: If professional management keeps you from bailing out of your investments when markets decline, then paying a higher fee may be justified. But the higher the fees you pay, the less money you can accumulate. For example, your IRA could grow to more than $600,000 over 30 years if you net a 6% return. If your fees are one percentage point higher, and you net just 5%, you’d end up with less than $450,000.

Some discount brokers, including Schwab, Fidelity and Vanguard, now offer a low-cost “robo” option that invests your money using computer algorithms. These robo options don’t offer the highly customized investment portfolios that some other services provide, but they come at a much lower cost — typically 0.3% to 0.4%. A few, including Vanguard and Betterment, offer access to financial advisors.

Q&A: Annuities have indirect costs

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Dear Liz: Thank for your right-on reply to the reader who claimed that fixed and indexed annuities were available at no cost to investors. I am so tired of hearing from agents and investors that their annuity is great and does not have fees!

Answer: Insurance companies aren’t charities providing investments at no cost. They’re businesses that have to keep the lights on and pay the people who sell their products. With fixed and indexed annuities, the cost is built into the interest rate spread, which is the difference between what the insurer earns on your money and what it pays into your account. The investor pays an indirect cost, rather than a direct cost that’s explicitly disclosed.