Parents Give It the Old College Try for the Kids

Juan Hernandez had to leave school in the fifth grade to go to work. But he’s never given up on his belief in education.

After he moved to the U.S. from his native Mexico in 1980, Juan returned to school, and during several years of night study, earned the equivalent of a high school diploma. He’s also taken trade-school and other training, as well as other courses on subjects that aren’t career-related but pique his always-curious mind.

Today, Juan, 36, an assistant supervisor in the tool-and-die department of a furniture manufacturer, and his wife, Ester, 39, a homemaker, want to see their four children get college degrees.

“My son wants to go to college and be a doctor,” Juan said about Javier, 13. The eighth-grader is a straight-A student in the gifted program at Burke Middle School in Pico Rivera, where the family lives.

“I see the difference in the people in this country when they have an education,” Juan said.

In fact, Juan and Ester, who has a community college degree, have opened a college savings account for each child. For every dollar in chore money Julia, 11; Ana Carolina, 8; Inez, 6; and Javier save, their parents contribute a dollar.

The Hernandezes have other long-term wishes as well--retirement and a new home--and they wanted to get a professional’s advice on strategies.

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As with most families, there is a need to set financial priorities--to decide which goals will take precedence and which will be secondary, which desires will have to be foregone and what kind of effort will be required to achieve the things that are most important.

In the Hernandezes’ case, education is the chief goal, but security is of prime importance. And some considerations will depend at least in part on whether Ester, who is looking for a part-time job, returns to the work force either part time or full time--a matter that has yet to be decided.

“We have some money put aside,” Juan said, “but I don’t know where is the best place to put it.”

The couple have roughly $15,000 equity in their Pico Rivera home, bought in 1990, about $20,000 in cash savings and an equal amount in Juan’s 401(k) retirement plan.

Their goals are important, but the first thing for the couple to consider, said fee-only financial planner Ed O’Hara of Silver Spring, Md., is how well the family could weather a financial catastrophe.

The couple’s current emergency provisions include $5,000 in a money market account, the roughly $5,000 they keep in a checking account and $10,000 in a certificate of deposit. They have term life insurance of $25,000 for each. That much ready cash and insurance are sufficient for a short-term emergency, O’Hara said, but if Juan’s income should be lost for a long period, the family would be in danger of financial collapse. “We need enough money to provide for the family and the kids until they reach age 18 or are through college,” O’Hara told the couple.

He calculated the couple’s needs assuming that Ester would go back to work full time and earn at least $20,000 a year. On that basis, the family would need about $200,000 in life-insurance coverage on Juan to pay the bills and help get the children through college in the event of Juan’s death. O’Hara recommended a 15-year level-premium term life policy, pointing out that the level-premium aspect means they needn’t worry about the policy’s cost rising later.

As the three were discussing insurance, Juan mentioned that some people recently came to his house trying to sell him life insurance. They said they were representatives of an insurance company and tried to persuade him to not only buy a life-insurance policy for himself, but to sell the same plan to other members of the Latino community. The implication was that when he did, the representatives would get a cut. It all sounded fishy to Juan and to O’Hara, who said it seemed like a pyramid scheme.

O’Hara suggested that the Hernandezes, as well as anyone else seeking information about low-cost life insurance, call quotation services such as Quotesmith, (800) 431-1147 and Directquote, (800) 845-3853. These services contract with insurance companies to provide over-the-phone quotes for low-cost life-insurance policies with no obligation for callers to buy.

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Disability coverage is equally important for the Hernandezes. As it happens, Juan’s employer, Maxwell Products of Cerritos, is considering offering disability insurance to employees. The policy would cost Juan about $11 per week and would, should he become disabled, provide the family with 66% of his income through age 65.

“That is fairly cheap,” O’Hara said of the premiums for the proposed plan.

However, O’Hara has a word of caution for anyone considering disability coverage: Check to see how the policy defines “disabled.” What’s known as “own-occupation” coverage will pay should you no longer be able to work in your current occupation. Naturally, however, this type of coverage is more expensive, because the chances of a claim are greater. Some policies will use other language--words that, for the insured, could mean you won’t get benefits if you can perform a job for which you will be paid much less. The latter coverage will cost less, however.

Another cost factor is the waiting period--that is, the amount of time you’ll be living on your own resources before the disability policy’s benefits kick in. The longer you’ll be able to go, the lower your premiums will be.

If Juan’s company offers the second type of policy, O’Hara said, Juan should consider shopping around for own-occupation coverage he’d buy for himself. It’s worth mentioning that a policy not connected with his employer would have the advantage of covering Juan no matter where he works.

Actually, the Hernandezes have some idea what it’s like to live without a safety net. Five years ago, Juan tried to launch a spare-time venture that eventually failed. By the time he gave up on it, the couple had drained all their savings, run up about $6,000 in credit card debt and were struggling to pay their bills.

“I made a lot of mistakes,” Juan said of his ill-prepared foray into entrepreneurship.

But over the next few years, he and Ester put the family’s finances back on track, keeping a vigilant eye on every dollar, right down to the church offerings on Sunday. Anything left over went to pay down their debt. Once that was done, they kept to a strict budget to build up their savings.

They’ve been fortunate too in that Juan’s annual base salary of $49,400 is usually supplemented by several thousand dollars in overtime. The couple’s biggest obligations include a $1,144 monthly mortgage payment and a $464 monthly payment on their 1998 GMC Safari minivan.

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Juan sets aside 6% of pretax pay, about $3,500 a year, for his company’s 401(k) retirement plan, and the couple usually have $300 to $400 left over each month to put into their other savings.

In considering the couple’s long-term goals, O’Hara turned first to the college savings. Juan and Ester know they won’t be able to pay the entire cost of their children’s college, but they want to make as much headway in that direction as they can. Ester has been seeking part-time work as a teacher’s aide, with the idea that most of her earnings would be earmarked for that purpose.

One tax-saving step the couple can take is to open an education IRA for each child. O’Hara suggested that the couple could use the new $400-per-child tax credit to fund the accounts. The money would compound untaxed and, as long as it’s used to pay for education, can be withdrawn tax-free.

In addition, the money remains available for the child until he or she turns 30 (a plus for the family in light of Javier’s medical-school ambitions). If the child does not use it by that age, it may be transferred for another child’s educational use.

One thing to know about these accounts, though, is that the money is placed in the child’s name. That’s relevant because college aid eligibility formulas are figured on the basis of a student’s assets as well as the parents’ income and assets. Not only that, it also matters how the parents’ assets are invested.

Pat Wilhoit, associate director of financial aid at UC Irvine, said that for most people, the key to affording college is careful consideration of earnings, savings, loans, scholarships and financial aid. She applauded the Hernandezes for starting to investigate the process early, adding, “They are going to be pretty informed consumers” by the time Javier is 18.

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Another thing: Don’t let the idea that private school is pricey stop you from considering it. Experts point out that many times these schools offer substantial financial-aid packages--to the extent that it can cost a family or student no more for a private education than a public one.

And there is the matter of scholarships. Dan Cassidy of the National Scholarship Research Service in Santa Rosa, Calif., and author of “The Scholarship Book” (Prentice Hall), advises students to write to schools they are interested in to ask for their catalogs, which will list the school’s endowment scholarships.

Students should also look to local service organizations, churches and clubs for scholarship money.

“Almost 90% of the financial-aid programs that private-sector organizations offer do not consider high grades necessary,” Cassidy said. “Everything from your personal background, educational interests and occupational goals can lead to an award.”

The couple’s next priority: retirement savings. O’Hara’s suggestions were aimed at saving on taxes and increasing the couple’s chances of high returns over the long run.

Juan’s 401(k) is invested in nine mutual funds spread among stock, bond, international and money market categories.

O’Hara examined Juan’s choices and each fund’s three-year annualized return figure, then suggested dropping the three lowest-risk, lowest-performing funds as well as two international funds and a small-stock fund. “At Juan’s age and with the need for as much retirement income as possible in the future, Juan can afford to be more aggressive in his accumulation period” and thus can have a high proportion of his retirement savings in growth-stock funds, O’Hara said.

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Specifically, the planner recommended that the account be divided this way among the three funds Juan would keep: 40% in T. Rowe Price Growth & Income (three-year average annual return: 24%); 40% in Fidelity Advisor Growth Opportunity Fund (three-year average annual return: 24%); and 20% in Manulife Growth Plus Stock Fund (three-year average annual return: 23.2%). The latter is a large- and mid-cap U.S. stock fund not available to the general public.

As for dropping the international funds, O’Hara expressed a view that has gained currency among financial planners in recent years: “A lot of people think you have to have international in your portfolio, but it hasn’t paid off since the mid-’80s.”

If and when Ester returns to work full time, the couple can increase what they’re setting aside each month for retirement and put that money into U.S. stock mutual funds too. He suggested they might want to start with T. Rowe Price Equity Income (three-year average annual return: 27.2%), Vanguard Growth & Income Portfolio (three-year average annual return: 33%) and Vanguard Windsor II (three-year average annual return: 32.9%).

“These are a few growth-and-income funds that are lower on the risk scale, but high performers,” O’Hara said.

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To reduce their tax bite, he recommended that they open a Roth IRA, explaining that investments in this new instrument will not only grow untaxed, but that distributions taken at retirement will not be taxed either.

As the discussion with the planner unfolded, it became clear to the couple that their hope of buying a new home in a few years will have to be deferred for quite some time.

“Helping the kids get through college--that is our main goal,” Juan said. “I would like to get the disability insurance, look into the education IRA and also the term life insurance. Those are the three things I would like to take action on immediately.”

Lynda Natali is a regular contributor to The Times. To be considered for a published Money Make-Over, send your name, age, phone number, income, assets and financial goals to Money Make-Over, Business Section, Los Angeles Times, Times Mirror Square, Los Angeles, CA 90053.

(BEGIN TEXT OF INFOBOX / INFOGRAPHIC)

The Situation

* Investors: Juan and Ester Hernandez.

* Gross annual income: More that $49,400, depending on overtime.

* Financial goals: Pay for kids’ college, afford a comfortable retirement and new home.

* The plan: Set priorites among goals and make sure the family is adequately insured.

(BEGIN TEXT OF INFOBOX / INFOGRAPHIC)

This Week’s Make-Over

* Investors: The Hernandezes, Juan, 36, and Ester, 39

* Occupations: Juan is a tool-and-die assistant supervisor; Ester is a homemaker.

* Gross annual income: Juan’s base salary is $49,400, but he usually earns several thousand dollars a year in overtime.

* Financial goals: Save for college for four children, now ages 6 through 13; for retirement; and for a new home.

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Current Portfolio

* Real estate: Roughly $15,000 equity in Pico Rivera home

* Retirement accounts: About $20,000 in Juan’s 401(k) plan, invested in nine mutual funds spread among stock, bond, international and money market categories

* Cash: $10,000 in a certificate of deposit, $5,000 in a money market account, $5,000 in a checking account

* Debt: $20,600 on minivan

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Recommendations

* Be sure family is adequately insured. Financial planner Ed O’Hara recommends a $200,000, 15-year level-premium life insurance policy on Juan and disability insurance that will cover Juan if he is unable to work in his current occupation.

* Open an education IRA for each child. Investigate financial aid, scholarships and other sources of college funds.

* Realign 401(k) investments to take a more aggressive stance, with all money going into U.S. growth stock and U.S. stock-and-income funds.

* If and when Ester goes back to work full time, step up rate of retirement savings and start investing in U.S. stock mutual funds such as the following. When feasible, open a Roth IRA.

T. Rowe Price Equity Income(800) 638-5660

Vanguard Growth & Income Portfolio(800) 662-7447

Vanguard Windsor II(800) 662-7447

Meet the Planner

Ed O’Hara is a certified financial planner and principal owner of Capital Asset Management Services, a fee-only investment management, tax and financial advisory firm based in Silver Spring, Md. He is chairman of the financial planning training program and an adjunct professor at Florida Institute of Technology’s Virginia-based graduate center. He serves as chairman of the National Assn. of Personal Financial Advisors, Northeast/Mid-Atlantic region.