Emergencies and emergency funds

Posted on October 31, 2012October 31, 2012 by Danielle

Hurricane (Photo credit: Chalky Lives)

Are you flying without a net? So many of us believe nothing will ever happen to us, that we’re too young, too lucky, or too far in debt already to put a chunk of cash into an “investment” that makes nothing. At least nowadays it’s hard to make any money at all on easy-access money. For most people, it’s a hard job to save three or six months living expenses and make nothing on it. I want you to re-frame that thinking.

The recent events thanks to Hurricane Sandy provide lots of good examples as to why you might need access to cash in a hurry. I know you have your credit cards, but although they are okay for last ditch emergencies, those emergencies are the kinds of things that begin to dig people into a deep ditch that it’s hard to climb out of. Let’s look at some ways this can happen.

The most horrible way, of course, is that a tree falls on you and kills you. Even if you have great life insurance, it’s going to be a while before that pays off. Will your spouse be able to return to work immediately after such a tragic experience? Think your children might need some help coping? It can take some time to sort out the emotions AND the finances, particularly if the loss is completely unexpected. Cash on hand doesn’t solve the problem, but it sure is great to have one less thing to worry about.

What if something happens that doesn’t actually kill you, but leaves you disabled? Great, you’ve got disability insurance for that, right? (At least you do if you listened to me.) But what about the cost of care? The reduced ability of your spouse to work long hours? The loss of your own hard work around the house? The emergency fund can cover it.

Roof blows off or basement floods? Your homeowner’s insurance will cover that. Except for the deductible, that is. And if you’re meeting the deductible on you house, your wrecked car, and your health insurance all at once, well, the emergency fund is there.

If you don’t have it, what happens? All these things go on your credit card (provided you can even find a repairperson that will take credit cards!) How about if your employer folds or is forced to lay off, or just can’t pay for the days closed? You could have a big bill and much less ability to pay, a double whammy that really digs people into debt.

Most of the people I see in financial trouble haven’t wildly spent themselves into debt by staying at the Ritz or driving a Rolls. Rather, they’ve had some unforeseen disaster for which they had no backstop. Don’t go there. Think of your emergency fund as an insurance fund, and the low return as the (fairly cheap) cost of that insurance and you’ll be much more at peace with the low return.

On a college planning note, those of us touring colleges might consider asking about the college’s disaster emergency plan. It’s something you never think about until your freaked-out child calls you from a disaster area. My daughter’s school, Bryn Mawr, did a fantastic job of coping, keeping everyone safe and getting the power back on (thereby avoiding Revolution and preserving the mental health of teenagers who can’t live without wifi,) and getting enough Public Safety officers in the field to personally yell at all the ninnies who kept calling to ask about what was happening (duh). Send your child off to college with a good flashlight and batteries (they never buy them), a blanket thick enough to live in, a small first aid kit, and some cash which is NOT TO BE SPENT except in, well, an emergency. Just like yours.

Middle class tax “relief”

Posted on October 24, 2012October 24, 2012 by Danielle

Mitt tin man (Photo credit: JonMartinTravelPhotography)

I’ve been trying to keep a lid on my personal political views on the off chance that there’s someone in my area who actually likes Mitt but jeez, I’ve just about bitten through my tongue. And I’m only grinding my teeth over the second debate—I got stuck on Mitt announcing with glee that under his tax plan (I guess he has one somewhere) the middle class taxpayer would no longer pay taxes on dividends, capital gains, or savings.

Ugh, these dumb statements are making my box of rocks so heavy that I just have to say something…and Barack, why didn’t you jump on that? You need a fee-only financial planner on your debate team. (If I have one complaint against our President, it’s that he has no instinct to go for the jugular. Actually, maybe that’s not so bad.) Aside from the fact that none of us actually pays taxes on savings, a large share of my clients aren’t exactly living off their currently-taxable dividends or capital gains, either. Whoops, that would be Mitt himself, who might just get out of paying anything at all, much less the pitiful 13% or 14% his accountants couldn’t figure out how to weasel out of.

I’m happy when my clients are maxing out their 401ks or 403bs and maybe managing a Roth or some sort of IRA and a college savings plan. For most people, the bulk of their investments are already sheltered in these accounts, or plunked into their house. People who have significant investments outside of their retirement savings are also less likely to be “middle class” by any usual income tax definition—they’re at least waving at the 1%. BTW, the top 1% is actually those earning over $343K, but since both candidates seem to like a $250K figure, let’s just go with that.

So let’s just say you somehow managed to accumulate or inherit $100,000 in a brokerage account or some mutual funds that are in plain vanilla taxable accounts. Let’s say you plunked that $100K in a Total Stock Market Index fund, which yields about 1.8% right now (I’m not considering capital gains here, just the dividends, because I’m assuming for now that you just hold on to it). So, each year you’re getting $1,800 in dividends and paying $270 in taxes. Gee thanks, Mitt, I’d sure like to give up my home mortgage interest deduction and get back $270 instead. In other words, these ballyhooed savings are pretty insignificant compared to the stuff that might really count—like more secure retirement funding, college cost reduction, etc. I’d be willing to give up that $270 if I didn’t have to cough up $25K/year for college or wring my hands about long-term care insurance or the myriad of other things we Americans are “free” to purchase in the open marketplace, but which every other Western nation provides for their citizens.

How about retired people—maybe that will help them? Let’s ignore the 1/3 of retirees that are living on Social Security alone—after all, Mitt does (ignores them, that is). For most of the people I see who would fall into the “middle class”, the bulk of their income is coming from 401ks, 403bs, etc., and those withdrawals are taxed as ordinary income, anyway. There are very, very few people who could be classified as both “middle class” and who have significant income from capital gains or dividends. There’s another name for people who live on investments that generate significant capital gains, interest, and dividends—they’re called “rich”. Or maybe, friends of Mitt.

And what about the clients that ARE coupon clippers (bonds, not newspapers)? No one yet has come into my office saying that lower taxes would solve all their money problems. Across the board, my clients are worried about retirement, college costs, job security or business viability, and the cost of long term care. On the other hand, I do see plenty of people who feel they’ve been robbed by the financial “services” industry, whatever their income, investment or education level. But I doubt that that’s on Mitt’s radar. After all, those folks are friends of Mitt, too.

Smart savings for education

Posted on October 4, 2012October 4, 2012 by Danielle

Loans (Photo credit: zingbot)

Open any newspaper or visit any financial website and you only need about 10 seconds to find a story about students with massive education debt. Do you wonder how this happens? I think I can answer that, and also offer a smart technique I just learned from a client. First, let’s look at some of the ways you (or your child) can rack up a huge bill, with an eye to AVOIDING these “techniques”.

Choose a dumb major. I’m all for a liberal arts education. I do not think undergraduate work should be trade school. So if you want to major in English, or history, or Near Eastern archaeology, go for it. There are a few things that I would strongly discourage—film studies, speech, hospitality industry—but mainly because these aren’t even recognized by most employers as solid academics. Nothing wrong with a few courses, but pick something that seems to indicate you might actually be able to write and analyze something. The problem with a dumb major is that there’s almost no possibility of getting a job in the field. If you’re going to choose a dumb major (film studies, again), it better be at the absolutely best school in the field, or you have NO HOPE. It’s also not a career plan to be a professional athlete, novelist, or opera star unless you have 1) significant professional recognition in college 2)independent inheritance, indulgent parents, or a wealthy and willing spouse, 3)a way to make a living while you’re trying. Music majors especially can cost a fortune in coaching, instruments, and all the little extras.
Change majors several times and spend more than four years in school. This is a good way to add another $40-50K to your bill. If you don’t know what you want to major in, maybe you need to take a year or two off and WORK until you figure it out. Unfortunately you will then need to begin repaying any loans you’ve taken out. Best to buckle down and finish something. In college and in life, sometimes things aren’t perfect but you still need to stick with them.
Borrow everything. I wish someone would tell me how they tote up $160,000 in loans for undergraduate work. If you really had no money and filled out the aid forms, you should have had some portion in grant money. If you were determined but not sought after (i.e. nobody offered you money but you went anyway) you need to keep your eye on the finances. If you’re also borrowing all your living expenses, you need a JOB. Really.
You borrowed money without ever considering what you might earn. Don’t borrow more than your potential profession earns the first year. Major in English and figure out what a teacher, editor, meeting planner, etc. makes the first year out—and know what jobs people from your school got with that major. Talk to your professors—they’ll be stunned that anyone showed up for office hours. Get know to the careers office—you’re paying for that service whether you use it or not.
You paid the full freight for graduate school. This is where I think people really hit the big time on loans. If you’re getting a grad degree in the liberal arts or humanities, you’d also better be getting significant aid. If you’re not, THEY DON’T WANT YOU and neither will an employer when you get out. To make a living in academia, you need to be shining pretty brightly by graduate school.

It’s a different story for the professional schools: biz, law, medicine, etc. Virtually the only “aid” available is loans. This is because (at one time) anyone who landed a degree walked out with a huge new salary and often (in biz & law) with a signing bonus big enough to take a huge bite out of the debt. No more. And the real poor idiots are ones that drop out before completing the degree—they have nothing BUT the debt.

And now the really smart thing I learned from my client:

Start saving into a Roth as early as you can—yes, this means high school or college if at all possible, but certainly as soon as you graduate from college. Also, put the max into your employer’s retirement plan and get that match. Maybe you’re not going to save it for the next 40 years (although I hope you will). But guess what—under normal circumstances you can take this money out for education. Voila! A very good chunk of change to get your MBA, or social work degree, or whatever. Look at the stats—plenty (most, in MBA programs) of people are in their late twenties or early thirties in professional programs. Maybe it helps to know the landscape of the profession by working in it before you incur two or three years of lost income and $150K in loans. You’ll be far less likely to drop out before finishing, be an unfocused slacker, and you’ll have done your “market research” on whether the degree is worth the cost. With any luck, you’ll have found an employer that will either pay for part of the degree or give you some time off to get it.

As in all other life situations, some savings give you far more options.