Client wants pension planning right before the deadline!

[Bees Knees]

So he comes in today to pick up his return, and mentions he might still want to do a SEP this year (which of course means I have to re-do his return).

That’s like the last day of school just before summer recess, and then the teacher says we have to come back next week to make up our snow days.

Anyway, I sit down with him and his wife and they want my opinion on whether it is a good idea to put as much money into their retirement plans as possible. They are both 60 and plan to retire in a few years. I go through the standard blah blah blah benefits of retirement contributions.

Before they leave I throw out another idea. They paid $24,000 in mortgage interest last year. They earned $7,000 in bank CD interest. Cash in the bank is about 55% of what they owe on their debt, yet income on that money was only about 30% of what their mortgage cost. It cost them more to be in debt than what they earn on their cash. I mention that one rule of thumb is before you retire, you should try to be debt free. Your standard of living costs will be reduced dramatically. The husband brings up the standard financial planning blah blah blah for why you might not want all your cash trapped in your house and how you can earn more investing the money (which they aren’t doing because it is sitting in bank CDs). The wife’s eyes get bigger as she realizes that over $2,400 of her paycheck goes towards the house payment (which she could be spending on something else if they didn’t have that mortgage). He ends the conversation quickly. They are going to think about it.

It may have caused a domestic dispute in the car after they left, but I don’t have to re-do their return for a SEP contribution this year. Don’t ask for my opinion right before the deadline.

[JoshinNC]

I might not agree with your plan

So he comes in today to pick up his return, and mentions he might still want to do a SEP this year (which of course means I have to re-do his return).

That’s like the last day of school just before summer recess, and then the teacher says we have to come back next week to make up our snow days.

Anyway, I sit down with him and his wife and they want my opinion on whether it is a good idea to put as much money into their retirement plans as possible. They are both 60 and plan to retire in a few years. I go through the standard blah blah blah benefits of retirement contributions.

Before they leave I throw out another idea. They paid $24,000 in mortgage interest last year. They earned $7,000 in bank CD interest. Cash in the bank is about 55% of what they owe on their debt, yet income on that money was only about 30% of what their mortgage cost. It cost them more to be in debt than what they earn on their cash. I mention that one rule of thumb is before you retire, you should try to be debt free. Your standard of living costs will be reduced dramatically. The husband brings up the standard financial planning blah blah blah for why you might not want all your cash trapped in your house and how you can earn more investing the money (which they aren’t doing because it is sitting in bank CDs). The wife’s eyes get bigger as she realizes that over $2,400 of her paycheck goes towards the house payment (which she could be spending on something else if they didn’t have that mortgage). He ends the conversation quickly. They are going to think about it.

It may have caused a domestic dispute in the car after they left, but I don’t have to re-do their return for a SEP contribution this year. Don’t ask for my opinion right before the deadline.

Assuming that the mortgage was taken out/refinanced in the last 5 years and they have decent credit, their mortgage interest rate is 6.5% or lower. They could easily earn average annual returns of near 9% in a good, low cost balanced mutual fund or two. They could draw down on the principal to pay the carrying costs of the mortgage, while still earning more than the borrowing costs. That would also free up the $24,000 they are paying toward the mortgage out of their current income to increase retirement contributions, fund lifestyle, etc. I, being a licensed investment representative, would have nipped in the bud immediately (you often only get one chance to do these things, as minds quickly change). Not being a securities salesman you should have told them to run, not walk, to whomever handles your investments (you obviously trust that person). Then you still wouldn't have had to waste your time redoing the return and they would have received better advice.

Just my opinion though.

[JohnH]

Why be in this business if you can't...

If you can't create a little domestic dispute every now & then, why be in this business?

Given the poor planning some people do and the advice they listen to from some "financial planners", you're doing some clients a disservice if you don't shake them up with the truth every now & then.

I like to follow Harry Truman's comment: "I don't give 'em hell, I just tell 'em the truth and they think it's hell".

[BOB W]

$24,000 in annual mortgage interest at 60 years old AND looking to save for retirement???? What a reality shock they will have when they TRY to retire.

Well maybe if they have super pensions between them.?????

Mutual funds, I've been there > No thanks....lost more there than I did in individual stocks.
Brokers, bah humbug> they are only in it for the churning.

Aren't I bad?????

Brad> I upset most of my clients when they ask question they shouldn't ask. Truth is how I do it....

[Bees Knees]

Assuming that the mortgage was taken out/refinanced in the last 5 years and they have decent credit, their mortgage interest rate is 6.5% or lower. They could easily earn average annual returns of near 9% in a good, low cost balanced mutual fund or two. They could draw down on the principal to pay the carrying costs of the mortgage, while still earning more than the borrowing costs.

You will note in my post, they currently have money in CDs that earned $7,000 in interest last year. Those CDs earned less than if they had used the money to pay down their mortgage.

As regards to your "good" low cost balanced mutual fund earning 9%, what is the risk level? What is the guarantee?

I can guarantee a rate of return of 6% (the cost of their mortgage). All you can do is assume 9% will even itself out over a 10 year period. It took over 4 years for the 9/11 tragedy to get everyone back to even. Then a few more years of double digit growth to beat the 6% cost of most mortgages. That assumes the person decided to stay in the market long enough.

And have you seen the number of home foreclosures? How many people losing their homes were sticking money in their 401(k) plans while their adjustable rate mortgages caused them to go bankrupt?

You also can’t guarantee a 9% rate of return to a person close to retirement, who needs the cash right now. A lot of older folks lost out when they were forced to take a loss on their “good quality” mutual funds after 9/11. When you are retired living on your investments, you can’t wait 10 years for the market to recover.

I’m not against mutual funds. I have them myself. I just think its stupid to carry dept when your investments can’t guarantee a better rate of return.

[thomtax]

Financial Advisers

But you fellows miss the main point. Most of the financial planners that I know are more interested in what they will earn than in the security of the people with money to invest.

I'm sure that there are some that do otherwise, I just don't know them.

[Golden Rocket]

Reality Check

Guys just think about the original post on the face of the facts presented.

$24,000 in mortgage interest and they are 60 years old. $7,000 in interest income, not from mutual funds or stocks/bonds, but from money market. For 2006-7, mortgage is at 6% or thereabouts. MM is 4% or thereabouts.

$7,000 is fully taxable. Not at 15% rates, but full up. No qualified dividends, capital gain distributions, nothing but fully taxable interest. $24,000 in deductible interest. If their other itemized deductions are $6,000, then they are receiving the benefits of only $20,000 of the mortgage interest. If the itemized deductions phase out, then even less than that.

Assuming the numbers are roughly accurate, these 60-year-olds owe $400,000 on their house, with $175,000 sitting in the bank. And they're talking about maximizing their SEP? And someone else is talking about salting away SEP money in mutual funds? Deferring 15% capital gain distributions and qualified dividends so they can be taxed at ordinary income rates when they pull it out?

These clients are like some of mine - need to get their head out of the sand.

[JoshinNC]

That's a very broad brush to paint a group with

But you fellows miss the main point. Most of the financial planners that I know are more interested in what they will earn than in the security of the people with money to invest.

I'm sure that there are some that do otherwise, I just don't know them.

I am both an EA and a registered securities representative. I make about 20% of my annual earnings from securities transactions, so I can live without the income. As such, my primary motivation is not to "sell" the latest product, but to help my clients meet their objectives (and most times help to initially identify those objectives).

We had a person come on this board in the past year and state that they wouldn't let an accountant manage thier taxes and books because they were sure that accountants were crooks and would steal their money. However, they continued to come back to the board over and over for advice. FA's are often treated the same way. People will beg for thier advice and then try to handle things themselves.

A recent article compared the investment performance of normal mom and pop investors who did and did not use an FA to manage their money. The one's who used an FA fared much better (many times double or triple) what the one's who did not use an FA did. The main reason being people get emotional about their own money. They want to buy in up markets and sell in down markets. Highly trained, professional FA's understand market cycles and keep their clients invested through the down cycles and understand the value of dollar cost averaging.

Maybe you have worked with some bad advisors before, but please don't paint us all as money hungry, account churning, grandma robbing opportunists.

I agree with Golden, these folks can't see the forest for the trees. But, without good professional money management they won't ever get ther.

[Bees Knees]

I am both an EA and a registered securities representative. I make about 20% of my annual earnings from securities transactions, so I can live without the income. As such, my primary motivation is not to "sell" the latest product, but to help my clients meet their objectives (and most times help to initially identify those objectives).

I probably would do a lot better with my investments going to you for financial advice.

Having said that, my point is: The paying down of debt should, and is, sound financial planning for people looking to retire in a few years. Just as there is a place for government bonds, bank CDs, and other “safe” investments in the mix, the paying down of debt is probably the best investment in the category of “guaranteed” investments. Some people simply do not want their investments in anything other than something that can guarantee principal. Those people who want "safe" investments should be given the option of paying down debt. Do financial planners mention this, as part of the "mix" in their investment portfolio?

What other investment is “guaranteed” to earn 6%, in the case of paying down a mortgage, or 34% in the case of paying down credit card debt?

[Luis Mopeo]

Don't forget the return on investment in the home. Talk about an "easy" rate of return, you're more likely to get a 3% increase in value of you home than a 9% increase in the value of your mutual fund. 6% + 3% = 9%. Bingo. Guaranteed 6%, easy 3% and possibly more, no risk, and you have a roof over your head. That sure seems like a lot more secure investment than getting the same return in a mutual fund.

And what happens if there's a financial catastrophe or judgement? In lots of cases they can take your investments but not your house.

And what happens when you cash out to go live in that retirement community? No tax on your gain for the home up to $250,000 / $500,000.

I'm not a financial planner, but I'd rather have a better rate of return and more security. I'll take the house.

[JoshinNC]

You obviously don't read much Luis

Don't forget the return on investment in the home. Talk about an "easy" rate of return, you're more likely to get a 3% increase in value of you home than a 9% increase in the value of your mutual fund. 6% + 3% = 9%. Bingo. Guaranteed 6%, easy 3% and possibly more, no risk, and you have a roof over your head. That sure seems like a lot more secure investment than getting the same return in a mutual fund.

And what happens if there's a financial catastrophe or judgement? In lots of cases they can take your investments but not your house.

And what happens when you cash out to go live in that retirement community? No tax on your gain for the home up to $250,000 / $500,000.

I'm not a financial planner, but I'd rather have a better rate of return and more security. I'll take the house.

There are very few metro markets that are going to see appreciation of 3% annually in the next 5 years. Most major metro markets are seeing price declines, not increases. The cover story of this week's BusinessWeek magazine chronicles the story of several families who bought during the boom and are now unable to sell just are their ARMs reset.

A common quote in financial planning is that your house is not a tax shelter, it's just a shelter. You can add to that that your house is not an investment, it's a capital asset. Even the government excludes your primary residence from your investable assets when determining total wealth. This is because your house is never supposed to be seen as an investment.

You stated your objectives in your last sentence, "I'd rather have the house and security". You would be considered "risk averse". There are ways to help a risk averse person build an investment portfolio that will provide for historical growth in excess of "safe" investments without taking on undue risk. The problem is, the risk averse are usually so ingrained in their own "investment philosophy" that they aren't willing to take advice from professionals.

Where's Sea Tax and Veritas when I need 'em?

[Luis Mopeo]

There are very few metro markets that are going to see appreciation of 3% annually in the next 5 years. Most major metro markets are seeing price declines, not increases. The cover story of this week's BusinessWeek magazine chronicles the story of several families who bought during the boom and are now unable to sell just are their ARMs reset.

A common quote in financial planning is that your house is not a tax shelter, it's just a shelter. You can add to that that your house is not an investment, it's a capital asset. Even the government excludes your primary residence from your investable assets when determining total wealth. This is because your house is never supposed to be seen as an investment.

You stated your objectives in your last sentence, "I'd rather have the house and security". You would be considered "risk averse". There are ways to help a risk averse person build an investment portfolio that will provide for historical growth in excess of "safe" investments without taking on undue risk. The problem is, the risk averse are usually so ingrained in their own "investment philosophy" that they aren't willing to take advice from professionals.

Where's Sea Tax and Veritas when I need 'em?

A common quote in financial planning is that a home is not a tax shelter and it's not an investment? The fact is that a home is the best and only tax shelter the vast majority of people have. As for a home not being seen as an investment by a homeowner, I can't even give a reasonable comment to that statement.

The people we're talking about don't have a clue what we mean when we say "capital asset."

I thought mutual funds were capital assets.

This discussion is about a 60-year-old couple that is planning for retirement soon. Wouldn't the best thing for them be "safe" investments? Is it really prudent to put them into higher risk investments to take advantage of historical trends?

I must be too ingrained in my own investment philosophy to understand why a riskier investment is more attractive than a much safer investment when the returns will be comparable.

[BOB W]

I happen to think that there is a proper time to invest but only after the bottom has been hit and is in a turn-a-round and upward posistion. Other then that one is playing with fire. Next year, and even in some places this year, is a good time to buy real estate.

Timeing> timeing> timeing is what it is all about. Most investment advisors just place what they or the client want> now.

Now, if an advisor and the astute client work together to formulate a plan in which the client knows all the ramifications of the plan and is still willing to take the risk, good luck. But if most clients are educated to Risk, they will probably settle for CDs or some other "Principle Secure" investment.

Greed will always cause investment problems, even if a modest 9% is projected.

[JoshinNC]

I'll have to agree to disagree with Bob and Luis

A house is not an investment, and that is what got a lot of people in trouble. You don't only buy at bottoms, because bottoms are impossible to predict, no matter how good you are. Today's bottom could be next week's mid point. Dollar cost averaging, or periodic purchasing of similar assets, is the key to attaining long term wealth.

Don't think that I am trying to pick a fight. I just think that some of us may be more risk averse than is necessary, and it may be rubbing off on our clients if we are giving them advice that works for us, but maybe not them.

[BOB W]

I must be too ingrained in my own investment philosophy to understand why a riskier investment is more attractive than a much safer investment when the returns will be comparable.

Desperate people do desperate investing. They are looking for a quick fix for all the years that they did not plan for the future. Being age 60 and not having enough money to pay off their mortgage when they retire is not good planning.

An investment advisor, or should I say financial advisor, should be dealing with 35 yr olds. This is where the most help can be given. The trouble is most 35 year olds don't want to listen. If I were a financial advisor I would run seminars on financial planning. Not where to invest but how to plan for the future. I would explain the many pitfalls in life that interfer with savings and how every choice they make effects their life's goal.