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Keep funding 529 for daughters?

Question: Greetings Tess and Chris, I love the show. I'm a military officer, but since I graduated from a service academy, I was never eligible for education benefits through the old GI Bill. Apparently, with the new one, I now have benefits and can pass them to my wife or children. We have 2 girls, 6 and 4. We've completed a state sponsored pre-paid college program for the elder, and now we add $100/month to a 529 for her. We have $7500 in a 529 for the younger, and add $250/month to that account. So my question is: Do I now have overlapping benefits that I won't be able to use fully? If so, should I adjust our college savings rates to prevent having more money than we need allocated solely to higher education for our girls? As I tell my wife, if they go to a service academy, they won't need any of it! Micah, Kodiak, AK

Answer: Well, if they do go to a service academy maybe you and your wife can tap the 529 savings plan for your own education! It's great that you've saved for them. The bottom line is that your daughters will have a lot of choice when it comes to college. However, I would probably stop making contributions to the 529 plans for now. (I'd keep saving the money but in your name. It never hurts to add to savings.) The details and rules about transferring education benefits in the new G.I. Bill haven't been finalized. When they are, you'll be able to take a look at what you've saved, the value of the benefits from the military, and then make some adjustments to set it up so there will be few out-of-pocket costs when your daughters do go to college.

One reason why I don't think you've wasted any money is the cost of college. The most recent data has tuition and fees at an in-state public four-year college at $6,585. But the average cost including room and board is $14,333. And that's assuming they go to an in-state public university. The advantage of what you've done, coupled with the military education benefit, is that it will also bring the price of a private college within realistic reach if that's what they and you want a decade from now.

02/19/09 by Chris Farrell

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Tax-free alternative to 401(k)?

Question: Hi Chris, Really enjoy your show. I am a retired military living in Germany. I'm presently approaching 66 years old and am told I must cash in my 401K savings by age 70 1/2, which means they would then become part of my taxable income. Are there any programs out there which would allow me to move my pre-tax 401K savings to some other type of pre-tax savings program? Also, I heard a rumor that there is an initiative to extend the age limit past 70-1/2; have you heard anything to that effect? Leonard, Selzen DE

Answer: Thanks. When I was growing up we lived in Bremerhaven, Germany, for several years, and I went to the elementary school on the base. When I was a merchant seaman after graduating from college my first ship used to dock at Bremerhaven, and I got to revisit our old haunts. Anyway, you don't have to cash in all the savings in your 401(k). You just withdraw the amount you need and pay your ordinary federal income tax rate on the withdrawal. The remaining money continues to compound tax free. And, yes, at age 70-1/2 you are required to start taking your minimum required distribution.

The bottom line is that Uncle Sam is going to get paid. You could make a tax free transfer of the money from the 401(k) plan into a traditional IRA, but the same tax and required minimum distribution rules apply.

Now, there is no required minimum distribution with a Roth-IRA. You could convert the 401(k) into a Roth-IRA. The law has been changed so that you can roll a 401(k) straight into a Roth. But you'll pay taxes on the conversion. Remember, before 2010 you're adjusted gross income has to be below $100,000 to make a conversion. You also can't touch the money for 5 years. My guess is that the numbers won't push you toward the Roth option, though, but you could check it out.

One important thing to note: at the moment there is a one-year moratorium on required withdrawals from retirement savings plans for anyone 70-1/2 or older. It's only for 2009, and then the rule comes back in force in 2010. The idea is to buy some time for those retirees with battered portfolios. Although I think the whole retirement savings system will be looked at closely over the next several years, and that reforms will come, I'm skeptical that there will be any wholesale change in the distribution rules. The federal government will need the tax revenue in light of budget deficits as far as the eye can see.

by Chris Farrell

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Should I stick with mutual funds?

Question: In 2006 I decided that I would move my (significant) individual mutual fund holdings to a managed account with my investment firm (a major mutual fund company). I did this because I have been busy in the military and have not had time to manage my mutuals and keep track of recent goings on. I am young, so they determined I should take risk. I agreed. Now that whole amount is down 35% from when I put it in. I am 38 years old. What should I do? Chris, Ft. Worth (deployed to Baghdad), TX

Answer: It hurts when our savings decline by that much. You do have a lot of company, however. And your portfolio is probably reasonably well diversified with a tilt toward equities (because of your age). The reason I say that is you would be down a lot more without some bonds holding down your paper losses. (Conservative bond mutual funds with a big dose of government securities did well last year.)

Normally, I am a skeptic about managed funds, but in your case it was a smart move considering all the demands on your time in the military. I would ask myself the same question everyone should address during this market meltdown. Is my portfolio too risky for me? Here's a safe forecast: There will be other bear markets -- probably several -- during your lifetime. Are you okay with that? You're still very young, and you have a long time for the money to compound. That argues for leaving it alone. But if you don't like the losses, I would direct the managed account to create a more conservative portfolio over time. There's no rush, but you'll want to reduce your exposure to equities.

02/20/09 by Chris Farrell

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How to reduce student-loan payments?

Question: My husband has significant private student loans, about $100K, through Sallie Mae with above market interest rates. The current monthly charge is more than I can afford. What are my options to reduce the amount owed or the payment amount? I am on partial disability and my husband recently joined the military. Many thanks, Tanisha, Orlando, FL

Answer: The first thing I would do is to take advantage of the free legal assistance you can get at offices located on almost every military base, ship and installation. The military lawyers will have dealt with situations like yours many times over. According to www.military.com (a terrific resource on military benefits), military lawyers can do everything from negotiating with another party to drafting wills to personal finance advice. Unfortunately, there is less financial flexibility with private loans compared to federally-sponsored loans. Still, since your husband is on active duty he may qualify for a 36 month deferment from Sallie Mae. The Servicemembers Civil Relief Act offers active duty personnel debt protections, too. If his military service affects his ability to pay off debts such as credit cards, mortgage and some student loans the rate on the loan can be capped at 6%. The reduction is only for the time of active duty, but any interest above 6% is forgiven. This is for debt taken on before active duty. Again, the military lawyers will be able to walk you through the options available to you.

02/19/09 by Chris Farrell

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Successful strategy with IRA rollover

Question: I'm a Staff Sergeant in the US Army Reserves and spent most of 2008 in Iraq. One obscure maneuver I executed while there was to convert $26,000 from the Rollover IRA to my Roth IRA. Due to the Combat Zone Tax Exclusion (CZTE), my W-2 line 1 from the military will be less than $5000 because time spent in Kuwait, Iraq, etc. is excluded from federal and state taxes (at least, for CA; FICA is still taken out). This resulted in rolling over IRA funds at a lower tax rate than if I had done this during a normal year where my taxable income barely breaks into the six digits. One caveat: Of course, taxes still must be paid on the rollover, and so listeners should estimate what those are and save for that..... and, with the stock market tanking as much as it has, transferring a balance will not incur as much taxes because it's likely that a person's portfolio is much smaller than a year ago. All this compounds the advantages. I was even able to do this while on a base in Kuwait. My Rollover IRA (rolled over from my IBM 401k when I resigned) was with Schwab, which let me open a Roth IRA through the web, and then after a few emails, the transfer was executed. Cheers, Jimmy, San Francisco, CA

Answer: Thanks for sharing your strategy. For most savers, assuming they qualify, taking advantage of the bear market to transform their traditional IRA into a Roth is a savvy move.

by Chris Farrell

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Sell property to invest in stocks?

Question: We are both 44 years old. Single income, Clay is in the military, we will probably be living overseas for another 7 years (until 2016) before starting our next life. We've been thinking about selling properties to free up money to invest in the stock market now that it is low. We own a modest fixer upper in a great location (near Whitman College and downtown) in Walla Walla WA and a piece of land at the Oregon Coast. We have no kids and will continue to work after leaving the military until financially independent. We are not tied to living in Walla Walla, but bought the house with the idea of giving it a try when we return. We have no debts other than the one mortgage, and put 12% of base pay into TSP. If we return to Walla Walla in 6 years, we need a minimum of 50K to update the home. Here's how it breaks down: Walla Walla house: 190K remaining to pay, worth around 240K Mortgage is 30 yr. fixed at 6.5 with total monthly payment of around 1600 Rent income after management fee and costs around 800 per month 2 acres of land at the coast was purchase for 102K in 2006 (cash), it may be worth 150k today. Taxes are 1200/yr. Take home income today is about 50K (not counting housing allowance). Will retire at around 26 years of service. Sell and invest the cash in stocks, (willing to hold long term-15 years)? Or hold onto the house and land? Or some other combination? Clay and Lori, Beijing

Answer: You're in a good financial position. My main reaction is more along the lines of a question or series of questions. First, do you want to have so much of your wealth tied up in real estate far from where you live? What could go wrong, and what is your downside risk? Second, what kind of return do you think you can get from the land if you do hold on to it? The home in Walla Walla is an income producing rental property for now, and you're earning a decent cash flow from it. But the land is probably costing you money every year. That doesn't mean it isn't worth it, but what is a realistic expectation on a rate of return over time.

The reason I wonder about the land is that, like you, I'm intrigued by the stock market and whether it offers a better money making opportunity. These are unnerving times, with talk of a recession replaced by growing fears of a Depression. A first glance at market history during deeply unsettled times isn't pretty-you see numbers like the Dow's 89% plunge from its 1929 high to its 1932 low, followed by its partial recovery and subsequent 52% tumble from 1937 to 1942. But keep looking, though, and you can find lessons more valuable than the fact that the Dow's volatility is nothing new. There is a discernable rhythm over the long history of the markets, and it offers glimmers of hope to harried investors. Specifically, the despair and low prices that mark financial catastrophes set the stage for higher prices and loftier returns later on. "Markets tend to overshoot in both directions," the late financier Leon Levy wrote in his memoir, The Mind of Wall Street. "Just as we saw stock prices rise far above the value of the companies, we are likely to see the reverse. Stocks will then be undervalued, and there will be new opportunities for investors."

Here's the rub: The timing of the recovery is uncertain. Timing aside, stock market data support the notion that it's smart to own riskier assets after a long stretch of poor performance, and the S&P 500 has had an average annual return of 0.9% over the past decade.

So, my main recommendation is to think through the downside, and then take a close look at the land. But no matter what you two are in a good financial situation.

by Chris Farrell

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How to consider military retirement?

Question: I retired from the US Army in 2004 after twenty years of active service with approximately $36,000 per year retirement benefit. The military retirement is adjusted annually with COLA. I started normal and IRA mutual fund accounts in 1985 and continue to make contributions. I continue to work for the Government as an engineer. My question concerns asset allocation. Am I correct in considering my military retirement as an income-producing asset class (bond) and thereby allocating the remainder of my assets in mutual funds consisting of equities? If I divide the $36,000 by an estimated 5% return, that would result in a theoretical principle value of $720,000. After the recent 40% market fall, my portfolio does not approach this value. My current asset allocation is 84% domestic equities, 8% international equities, and 8% cash. Gregory, Pinehurst, NC

Answer: You're right to consider your military pension as the equivalent of a very safe asset, like a government-backed debt security. The same insight holds with your (future) Social Security payments. Theoretically, you can then take more risk with the rest of your portfolio in the hope of earning a higher return over time. But there's no guarantee you will earn that higher return. But that's in theory. You should adjust the risk in the portfolio to reflect your own desires.

by Chris Farrell

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Military benefits and Social Security?

Question: I will be receiving my Navy Reserve retirement pay when I turn age 60. I also paid into the Social Security system the entire time. Will I receive full Social Security benefits when I retire at age 65, or will that amount be reduced by the amount I am receiving from the military retirement? Bob, Lodi, CA

Answer: According to the Social Security Administration, there are 9.4 million military veterans receiving Social Security benefits. That means that almost one out of every four adult Social Security beneficiaries has served in the United States military. Veterans and their families make up almost 40% of the adult Social Security beneficiary population.

Your military pension should not reduce your Social Security payments. "You can get both Social Security benefits and military retirement," says Social Security on its website. "Generally, there is no reduction of Social Security benefits because of your military retirement benefits. You'll get your full Social Security benefit based on your earnings."

by Chris Farrell

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Social Security and military retirement pay

Question: I will be receiving my Navy Reserve retirement pay when I turn age 60. I also paid into the Social Security system the entire time. Will I receive full Social Security benefits when I retire at age 65, or will that amount be reduced by the amount I am receiving from the military retirement? Bob, Lodi, CA

Answer: According to the Social Security Administration, there are 9.4 million military veterans receiving Social Security benefits. That means that almost one out of every four adult Social Security beneficiaries has served in the United States military. Veterans and their families make up almost 40% of the adult Social Security beneficiary population.

Your military pension should not reduce your Social Security payments. "You can get both Social Security benefits and military retirement," says Social Security on its website. "Generally, there is no reduction of Social Security benefits because of your military retirement benefits. You'll get your full Social Security benefit based on your earnings."

by Chris Farrell

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Military thrift plan

Question: Hi, I recently left active duty military service and am trying to decide what to do with my Thrift Savings Plan. I've got about $40k saved in it right now.

When I look at the options for withdrawing, it seems like I'll be paying either 10 or 20 percent penalty fee.

I was thinking about starting a ROTH IRA. Should I take the penalty and roll it over into a ROTH IRA? Or am I better off just letting the money sit in the TSP until I retire? Thanks, Spencer, Humble, TX

Answer: You have a number of good options to think through. And you shouldn't pay a penalty or taxes with them. The one exception on taxes is the Roth option. I'll explain in a moment.

First of all, the Thrift Savings Plan is a really good, low-fee plan. It's hard to beat. You might want to simply leave your retirement savings in the plan.

If you still want to move your savings out of the Thrift Savings Plan you can roll it over into another tax sheltered plan. For instance, if your current employer's savings plan allows it you could transfer the money into your new 401(k). Alternatively, you could roll it over into an IRA. In both cases you don't take the money out. You'll make an institution to institution transfer of the money, preserving its tax-sheltered status. No penalties will be imposed, either.

You could put the money into a Roth-IRA. Since the Thrift Savings Plan was funded with pre-tax dollars and a Roth is funded with after-tax dollars you'll owe taxes on the money your transfer into the Roth. However, when you pull the money out during retirement the gain is free of Uncle Sam's levy. By the way, in most cases it does not make sense to Roth if you have to use your retirement savings money to pay the tax levy. It reduces the amount that can grow, free of tax, in the Roth.

I'm not sure which branch of the military you served in. But the Navy offers a clear brief explanation of your choices.

10/28/09 by Chris Farrell

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