Empty Nest Insurance- Start Your Kids with a Nest Egg


Today the news is full of stories of children returning home to stay after college.  The recession has certainly made it difficult for some to find jobs.  In some cases parents may also be making their homes a little too comfortable. With few rules, no expenses and no responsibility, who wouldn’t want to stay?

By starting children out early learning about saving and investing, and by giving them a little nest egg with which to start, you can dramatically reduce the chances that they will be knocking on your door, duffel bag in hand after college.

Starting an investment fund can be very quick and easy.  It simply takes a couple thousand dollars and some mutual funds.  If you start a fund about the time they are born, and add to it as they get those checks from relatives early on, and then match their contributions once they start to earn their own money, you can build up a substantial fund by the time they leave the house.  This is money they can then use when they have the unexpected expenses that always occur instead of running up credit card debt.
              

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The first step is to find a fund family with a low enough minimum.  I personally like Vanguard because their funds have very low expenses and the minimums for many of them are only a couple of thousand dollars.

You are looking for a fund that invests in a large number of stocks over a broad range of the market.  Good choices would be a largecap fund such as an S&P500 fund or a midcap or smallcap fund.  Selecting specific sector funds or ETFs is probably not a good idea since you want something you can hold for years rather than needing to move in and out of it, incurring capital gains taxes.


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Once you have selected a fund, simply create a custodial account in the child’s name and send in a check.  (Warning:  When your kids go to college, the college may see the custodial account and expect it to be used for tuition before they’ll kick in financial aid.  If you’re worried about this, keep the money in your name and then gift it to your child over a period of a year or two, staying below the gift tax exemption, when they are near graduation.)  As time passes, add extra money to the fund.  You should avoid the temptation to make many if any changes – you want to minimize expenses and taxes.  Just let it grow with the economy.  If you need to do something, wait for dips and buy more shares.

Once the fund has grown large enough, you should consider selling part and using the proceeds to buy another fund in a different sector of the market.  For example, if you’ve amassed $15,000 in a largecap fund, you may want to sell half and buy a smallcap fund.  This diversification will reduce the risk of losses and smooth out the fluctuations that occur.  In general, different sectors of the market do well at different times.


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Note that capital gains and dividends will be tax-free below a threshold amount, but be sure to check with your accountant on what those minimums are in any given year.  They are generally less for investment income than earned income.  You may also need to file tax returns in some years if the income is large enough even when they haven’t made enough to pay taxes.  Payment of quarterly estimates may also be required.  Minimization of trading, and thereby the realization of gains, will delay the time at which you will need to start preparing tax returns for their accounts.

Once the child reaches 18, the money will be theirs (you have no say over this).  You therefore should have been teaching them all along that the money is there to help them in emergencies, such as when the car breaks down, and not just for day-to-day expenses.  You should also be teaching them to leave the principle alone and just spend the interest/dividends.  In that way, even though they may waste some, hopefully there will be enough remaining when they are older and wiser to help secure their financial security.

By giving your children a nest egg with which to start their lives, you can help keep them out of debt, help them have a down payment for a house when they are ready, and be able to stay out on their own between jobs and other issues. You will also give them an extra source of income that they can use throughout their lives.

 

Follow me on Twitter to get news about new articles and find out what I’m investing in.  @SmallIvy_SI

Disclaimer: This blog is not meant to give financial planning or tax advice.  It gives general information on investment strategy, picking stocks, and generally managing money to build wealth. It is not a solicitation to buy or sell stocks or any security. Financial planning advice should be sought from a certified financial planner, which the author is not. Tax advice should be sought from a CPA.  All investments involve risk and the reader as urged to consider risks carefully and seek the advice of experts if needed before investing.

Is It Worth It to Put Money Away for College?


Most of the time it feels good to live a financially stable life, which is where we are after spending the last 20 years doing things like buying used cars, a smaller home than we could get a loan for, and eating in.  It is nice to have money in the checking account to pay for the various $600 emergencies that come up like car repairs.  It is great to be able to pay for unexpected medical bills that come with having kids without worrying about finding the money.  A few months ago, we even bought a few acres of land to use for camping or just hanging out and were able to do so by just selling a few stocks.  Really, the land is almost an investment in that it will keep up with inflation at least.  The only cost is property taxes and a minimal amount of upkeep.

There are sometimes, however, when you wonder about being financially responsible.  The first is when real estate is really doing well and your friends with the 80/20 loans and HELOCs up to their eyeballs are seeing their net worths increase a hundred thousand per year because home prices are climbing quickly.  At times like that you wonder if you really should have accepted the lure of leverage like everyone else and bought a bigger house with a lot less down.  Luckily, times like the 2008 housing bust are there to remind you of why you made that 20% down-payment and then paid off your 15-year loan in twelve years.

  

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The second time where i wonder if saving up is worth it, which is what we’re staring straight in the face, is when you start to look at college tuition and financial aid.  We have a son who is just two short years away from college, which means that we’ll be sending out applications late next year and seeing what offers we get on tuition.  Looking at tuition offers is something I’m not looking forward to.

Our income really isn’t that high.  We’re upper-middle class, but are on one-income and certainly not making the salary of doctors and those high up in the business world.  Based on income alone, I’m sure we’d receive some tuition relief from many colleges.    With our net worth, however, I’m sure we won’t get any offers of financial aid from the government, nor should we.  I am hoping that there are some true scholarships – where they bribe your child to go to their school because of his/her grades and accomplishments – that my son can win since he really deserves them.  He’s had straight A’s since 6th grade and already scored in the 30’s on his ACT during his first try as a Sophomore, sans any prep classes.  Because I’m thinking that our net worth will knock us out of the possibility of any sort of financial aid – I probably wouldn’t even bother filling out the forms, except I’m sure some of the scholarships, such as the state lottery scholarship, will probably require it.

      

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It’s not that I mind just paying for college.  I think everyone who is able should do so.  It is irritating to see Money Magazine  giving out all sorts of advice on how upper-middle class people, who could pay for college if they wanted to and made it a priority, can manipulate their accounts and financial situation to “maximize their student aid.”  What is bothersome, however, is how I perceive college tuitions are set by the colleges.

You see, just as with healthcare, the prices on the books for most colleges are not the real price.  They are like the MSRP sticker on the car window.  It may say that tuition is $40,000 per year, but almost no one actually pays that.  After you get an offer, the college looks at your financial situation and decides how much you really need to pay.  Some people pay nothing.  Some people pay $10,000 per year.  Some people pay $25,000.  And it isn’t like the people paying nothing have any different classes, access to professors, or dorms than those paying full price.

And I’m not taking anything away from someone who came from a home with one parent who worked extra jobs to put food on the table and obviously didn’t have any money to put away for college.  In that case I think the student should get a break because there are great students who come from everywhere and we don’t want just the kids of upper-middle class parents and the wealthy going to colleges.  Plus, making an investment in a child that made good grades and prepared for college without a parent looking over his/her shoulder constantly and driving them also makes great sense as a society.  Such a child has shown that they are self-driven.  These are the kind of people you want to provide with tools to create things and to lead people.

What irks me is seeing people who have the means having no penalty for not putting money away for college, as would be the responsible thing to do.  In fact, there appears to be a penalty for being responsible.  From what I’ve heard, when schools decide how much you need to pay for tuition, they may look for any money in the child’s name, like custodial accounts that were set up when they were minors, and assume that money would be spent on tuition.  They might also look at college savings accounts like 529 Plans and Coverdell Savings Account (educational IRAs) and count that as the family’s expected contribution.


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So let’s say that Sammy Student walks up to the bursar’s office at WhatsamattaU, which has a list price of $25,000 per year, and has $20,000 in mutual funds that he gained by putting away birthday gifts from relatives and summer jobs.  Let’s also say that his family has put away $36,000 in an educational IRA, which has grown to $80,000 with investing.  The family makes $80,000 per year in income.  The school might then decide that Sammy must pay the $80,000 in tuition over the four years since they assume he’ll use all of the money in the educational IRA and the money in his mutual fund account for tuition and some of the $80,000 in room and board over the four years.  They assume the family will kick in another $15,000 per year for room and board from their income, so Sammy and his family end up paying $160,000 of the full $180,000 price.

Next comes Franklin Freshman, whose family also makes $80,000 per year.  Franklin spent all of the money he got from birthday gifts.  His parents just figured that things would work out for college somehow and went on an extra vacation each year instead of putting any money away for Franklin’s college.  When Franklin gets to the bursar’s office, because he and his parents have no money saved, the school decides that his tuition would be $5,000 per year, expecting Franklin’s parents to pitch in $20,000 per year, including $15,000 per year for room and board.  Franklin and his family get the same education, but only pay $80,000 – half of the price Sammy’s parents paid.  Both families have the same income and the same advantages.  One just chose to save for college and the other did not.  Part of the money Sammy is paying therefore goes to cover some of Franklin’s expenses.

So, we’re basically encouraging people to not save for college, because if they do save they’ll pay more than if they don’t.  That makes me wonder, am I being a sucker for saving up?  Should I encourage my kids to spend their birthday money on games, fun, and maybe a car while they’re in high school, rather than saving and investing?  My goal is to have them start an emergency fund to help them get a good start in life, rather than hitting the streets with nothing after college, but maybe the college will just scoop up any savings they have anyway.  I’m a bit late on the college savings accounts, having saved for 16 years already.  Maybe I should have just invested it elsewhere or just bought a new car or two along the way.

Has anyone out there already made it through the college tuition game?  What was your experience?  Is it worth it to save up?  Are there advantages?

Follow me on Twitter to get news about new articles and find out what I’m investing in. @SmallIvy_SI

Disclaimer: This blog is not meant to give financial planning or tax advice.  It gives general information on investment strategy, picking stocks, and generally managing money to build wealth. It is not a solicitation to buy or sell stocks or any security. Financial planning advice should be sought from a certified financial planner, which the author is not. Tax advice should be sought from a CPA.  All investments involve risk and the reader as urged to consider risks carefully and seek the advice of experts if needed before investing.

The Nobility of the Spender in College Financial Aid


We’re told from a young age that to save is good.  We get a piggy bank and are told to put our change into it.  The old piggy banks didn’t even have a hole with a stopper at the bottom, so you needed to “break the bank,” literally, to get your money out.  You didn’t do that unless it was something you really, really wanted.  As we get older perhaps the bank comes by the school and gives away toys to those who open a savings account.  Maybe we get savings bonds for birthday gifts from aunts and uncles, being to told to save for our futures.

And then we get to college and are handed the Free Application for Federal Student Aid, inconveniently called the “FAFSA.”  With the FAFSA, saving is bad.  In fact, those who learned to save are penalized, while those who learned to spend are noble.  Save up a couple of thousand dollars in a savings accounts, having kept all of those gifts from aunts and uncles?  Great, you can pay that towards tuition.  Did your parents create a stock account for you when you were young?  Even better, you can pay that for tuition too.   Did you decide to ride a bike and save all of that money from your summer jobs?  Great, more money towards tuition for the college.  But spend everything from your summer jobs on cell phones, cars , and junk, and you get a grant.  If you parents did the same, you get an even bigger grant.  Spending, good.  Saving, bad.

So what is the cost of college?  It isn’t the $40,000 to $60,000 per year figures you see in US News and World Report for state schools and the $100,000 per year you may see for some private colleges.  Almost no one actually pays those amounts since they get deals and “financial aid” from the schools.  Instead, it is “all that you can pay.”  And if you have money saved up, you first pay all of that, then the school will “help” with whatever is left, the amount of help you get depending on how much your parents make in salary and their life choices.

So here we learn that making “good ” choices is bad.  Saving is good, but having money saved up is bad.  Being responsible when deciding to have children is good, but having only one child instead of eight on a $60,000 per year salary is bad.  Staying in the same job at a low salary for 20 years?  Good.  Advancing up the ladder?  Bad.  (Don’t get me wrong here – I know there are limits to where each person can advance, both from natural capability and choices/situations growing up.  Certainly college shouldn’t be closed for children of good, hard working people who are just not able to move above a certain income level.  These are the people financial aid is really meant to help.  My point is that if you choose to stay in a low wage job, you’ll pay less for your children to go to college than someone else who worked to move up the ladder, so the pricing structure makes it better to stay put than to advance.  Is this a good thing?)

Perhaps the worst thing about college tuition is the lack of connection to the value of the product that the pricing scheme creates.  Someone who only makes $80,000 per year might look at a $100,000 per year tuition and wisely decide that it really isn’t worth the money, just as the same person would probably decide a $100,000 sport car was not worth the money and there were better vehicles to get them to work.  But what if that sports car only cost you $40,000 if your salary was only $80,000, and cost you $100,000 only if you made $300,000 per year.  Suddenly there would be all sorts of people driving around in $100,000 sports cars.  Likewise, there are a lot of people from $80,000 households with Harvard or Yale stickers in their $20,000 cars’ windows because their children attend at greatly reduced tuition rates.

The odd thing is that college financing starts at the end of the process – after all of the bad choices have been made.  Wouldn’t it be a lot less expensive for the people actually paying tuition if financing decisions started earlier?  For example, what if you submitted the FAFSA when you first had children, and it was determined then that you needed to contribute a certain percentage of your salary into an educational savings account?  Or maybe the amount that you would need to pay was determined at that point, and you could then decide how you wanted to pay for it?  Maybe you would make payments over the next 18 years, or even over the next 24 years.

This way, the amount of aid you would receive would be based solely on your ability to pay based on the kind of job you had, instead on both your job and your spending habits.  People would be encouraged to save up for college instead of being encouraged to spend all of their money so that they wouldn’t be charged as much for college.  Think of how much the sticker price could drop if most people were paying the full cost, but just paying it over 20 years instead of four years.  And think of how much less student debt there would be when people came out.

We’d make the saver noble instead of the spender.  That seems like a good thing.

Follow me on Twitter to get news about new articles and find out what I’m investing in. @SmallIvy_SI

Disclaimer: This blog is not meant to give financial planning or tax advice.  It gives general information on investment strategy, picking stocks, and generally managing money to build wealth. It is not a solicitation to buy or sell stocks or any security. Financial planning advice should be sought from a certified financial planner, which the author is not. Tax advice should be sought from a CPA.  All investments involve risk and the reader as urged to consider risks carefully and seek the advice of experts if needed before investing.