Young Couple Have Time to Fix Mistakes
Jesse and Maria Cruz have fallen prey to smooth-talking salespeople, committed themselves to deals they now regret and paid heavily for not researching the financial fine print.
Rather than dwell on the past, Jesse, 27, and Maria, 29, have decided to take action. After all, none of their all-too common financial missteps has been a disaster, and their combined income of about $60,000 is enough to make up for lost time.
But they also need to remember those lessons. Financial planners say almost everyone will make some kind of inappropriate decision about money--the key is minimize their effects and learn from them:
* While vacationing in Acapulco, Mexico, the Cruzes were lured into buying a time share they later realized they didn’t want.
“We were given a grand tour and thought it would be a good way for us to take vacations,” Jesse said. “But after about a year of making payments, we realized it was a waste of money. We tried to sell it, but ended up just letting it go.”
They lost $2,000, and although creditors didn’t come after them, they risked a bad mark on their credit histories.
* Jesse cashed out a 401(k).
When Jesse left his previous job last year, he failed to roll the $6,200 in his 401(k) into an IRA. He ended up with $4,100 after paying federal and state taxes and penalties. He didn’t know there was a better option.
“No one told me I should put the money in an IRA,” Jesse said. “I just got a statement and saw that a lot of money had been taken out. That’s what triggered me to start gathering information on my own.”
* Maria pays $444 a year for a whole life insurance investment hybrid combined with a mutual fund that has provided her less insurance and less investment growth than if she had bought each separately.
Both Jesse and Maria began a policy in 1994, but Jesse stopped his contributions after about a year. Maria invested $2,220 during the last five years. The cash value of her policy is $1,721, but there is a $500 surrender fee.
* Maria, a Los Angeles County medical case worker, has not contributed to the 457 work retirement plan offered to employees.
Maria remembers when she came to work for the county at age 19 and was overwhelmed by the information on employee benefits.
“I was piled up with papers and didn’t know what to sign up for,” she said. “Personnel just said read it over, but no one stressed the importance of signing up for the 457. I just went with . . . the biggest paychecks.” The 457 plan allows money to be set aside on a tax-deferred basis and is structured in some ways like the 401(k) plans many private employers offer.
Although she is still covered by the county’s pension plan, she has missed out on 10 years of tax-deferred investment growth.
* The couple leased a new Ford Explorer they now don’t need.
Jesse now drives a company car and has little use for his leased 1998 Ford Explorer, on which he pays $353 a month. The lease does not expire until 2002. “I use it once in a while, but I know I’m just throwing my money away hanging onto that car,” Jesse said.
The Cruzes, aware that they haven’t always made the best decisions, sought help so they can save for retirement, build a college fund for their 17-month-old son, Jacob, and buy their first home.
“I wish we would’ve done things differently, but I know you learn by experience,” said Jesse, a sales representative for a candy company.
Nancy Langdon Jones, a fee-only certified financial planner in Upland who reviewed their finances, said the Cruzes should not beat themselves up over those missteps. “What they experienced is a textbook case of what people go through,” she said.
“We all get hooked by salesmen. . . . They’re just fortunate to have had these experiences when they’re young because they have time to start over.”
Jones said the Cruzes have already learned to do more research before they act, but she emphasized that they must review any agreements or new investments carefully.
“For instance, I’m certain that if Jesse and Maria came home and thought about the time share, whether they would really go there and make use of it, they never would have done it,” Jones said.
“The main thing to remember is to always sleep on a deal. Don’t act on anything until you check it out.” It’s not that the decisions they made would be wrong for anyone; the point is that they were the wrong decisions for them.
The Cruzes have saved $10,000 in a money market account, earmarked for emergencies or part of a down payment on a home. The couple also set up a money market account for Jacob, with $4,000 put away for his college education.
Their only debt is Maria’s $13,500 student loan and $900 on a credit card, which the Cruzes said they plan to promptly pay off.
The Elysian Park couple’s top priority is to save for retirement because, so far, they have an empty nest egg.
The first step, Jones said, is for Maria to immediately start contributing to her 457 plan, investing at least 3% of her paycheck, the maximum the county will match dollar for dollar. In looking over the county’s investment choices, she encouraged Maria to put 70% of her money in the plan’s S&P; 500 index fund and 30% in its international fund, BT International Equity.
“The S&P; 500 index fund invests in large, stable companies in the U.S.,” Jones said. “Even if the market goes down, these companies aren’t going to collapse. I’m recommending the international fund because countries don’t do well at the same time. A decade ago, everything was happening in Japan and nothing in the U.S. Now, that’s reversed.” The Cruzes are young enough to wait through any bear markets and thus should have most of their money in equities.
In June, Jesse will be able to start contributing to his new company’s 401(k). Like Maria, he should at least contribute the amount that is matched by the employer.
“Even if it’s just a quarter for every dollar, that’s a free return,” she told him.
The couple should also try to save more than that, either by contributing more than the matched amounts to those employer plans or by saving $2,000 a year in Roth IRAs--as long their income remains low enough to be eligible.
The better option for saving those extra dollars depends on several factors and requires a guess about future tax rates. Money put in Roth IRAs is not deductible from taxable income but, unlike the other retirement savings, the contributions and earnings are not taxed when taken out in retirement. Among the issues to consider with the extra savings is that a 457 cannot be rolled over into an IRA if Maria were to leave her job.
The Cruzes have regularly contributed $200 a month to Jacob’s education account. But from now on, Jones suggested, they should save for their son’s education in their own accounts. That is because they can maintain control of the money, and parents’ assets count less than students’ assets when determining financial aid. Although their tax rate is higher than Jacob’s, that disadvantage is outweighed by the advantages.
One reason to fully fund a Roth IRA is that it could be an indirect way to save for Jacob’s education. The contributions, though not the earnings, can be withdrawn later without penalties.
And instead of keeping the existing college savings in a money market fund, Jones encouraged the Cruzes to purchase shares of the new Diamonds Trust (ticker symbol DIA), a unit investment trust that holds a portfolio of the 30 companies in the Dow Jones industrial average. Unlike mutual funds, Diamonds shares can be purchased or sold during the day like a stock, and investors don’t have to pay capital gains until they’re sold.
“It’s a cheaper way of investing in these companies without having to buy each individual stock,” Jones said. “I believe it’s quite suitable for a nonretirement account.”
The Cruzes, who live in a two-bedroom rented apartment, also hope to buy a home for about $190,000 in Pico Rivera, Downey, Mt. Washington, Buena Park or some other moderately priced area of Los Angeles or Orange County.
They’ve already been prequalified by a mortgage company for a home loan. Although it would require them to purchase mortgage insurance, Jones suggested that the Cruzes make the smallest down payment possible, both to allow for new-home expenses and so they can build an ample emergency fund and continue retirement savings. (She recommends that they keep at least three months’ worth of expenses in such a fund.)
Jones also addressed how the couple should deal with the insurance policy investment, which works something like a variable annuity, and the leased car. Jones encouraged Maria to get out of the insurance policy, even with a $500 surrender fee, because she believes she’s not getting the most from her money.
Also, Jones believes Maria and Jesse each needs $200,000 in life insurance. She found that GE Financial Assurance would offer both Jesse and Maria $200,000 in 20-year term life insurance for a total of $324 a year. They should also research life insurance policies that can be bought through their employers.
“You’re now paying $444 a year for $100,000 in insurance for just one of you,” she said.
Maria said she had worried that her insurance investment wasn’t paying off, but went along with it because it was an easy way to tuck away money. The Cruzes were sold that policy after attending a local trade show and then being called by a broker. The broker-sold policy carried high fees and commissions that have limited the growth of the investment portion.
“Initially, Jesse and I had gotten into it because we wanted to build it up to buy a house,” she said. “It sounded good, but I definitely regret getting into it now.”
The problem with the Ford Explorer was not so easily solved because of inflexibility in the lease. Leases are an easy way to drive a new car, but the real costs--and inflexibility--can be hidden.
Jesse said people have offered to take the car and assume the monthly payments, but they want to keep the lease agreement in his name.
But “that’s asking for trouble,” Jones told the Cruzes, with a risk of serious legal consequences. Jesse needs to carefully review the lease agreement, which does allow him to sell or transfer the lease to someone else. “Why don’t you try putting an ad in the paper, because from what I understand, Ford Explorers are in high demand,” Jones said.
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Diane Seo 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 or to money@latimes.com. You can save a step and print or download the questionnaire at https://www.latimes.com/HOME/BUSINESS/FINPLAN/make-over.htm.
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The Situation
* Problems: Savings for retirement and sons education were misdirected into inappropriate accounts; insufficient insurance.
* Solutions: Get the most bang for their bucks by saving in employer and other tax-deferred plans; increase insurance.
This Week’s Make-Over
Investors: The Cruzes: Maria, 29, medical case worker; and Jesse, 27, sales representative
Combined annual income: About $60,000
Financial goals: Save for retirement, build education fund for son, buy home
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Current Portfolio
Assets: $10,000 in money market fund, $1,700 cash value in insurance policy and $4,000 in son’s money market fund
Debts: $13,500 on Maria’s student loan and $900 on credit cards
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Recommendations:
Prepare wills.
Save for child’s education in parents’ name.
Put down a minimum down payment when buying home.
Cancel current insurance policy, buy term insurance.
Invest at least the matched amount in their employee retirement plans.
*
Recommended mutual fund purchases:
Diamonds Trust (Ticker symbol DIA)
Schwab 1000: (800) 435-4000
Baron Asset: (800) 992-2766
BT Investment International Equity: (800) 730-1313
Meet the Planner
Nancy Langdon Jones is a fee-only certified financial planner in Upland. She writes a monthly column, Planning for Your Retirement, for the publication Debt-Free & Prosperous Living. She also is a host for the Quicken/Excite Business and Investing discussion board.
