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Monday, Aug. 17, 1998
Couple's financial problems can be fixed
With careful saving, daughter's college and a new home are within reach
By JEFFREY TOMICH
Staff WriterChuck and Laura Applegate were married in high school, but didn't concentrate on their finances until they had a child. Now they want to build a home, save money and teach their daughter financial lessons it took them years to learn.
The Applegates (not their real names) recently moved to the Coastal Bend from the Rio Grande Valley with their 7-year-old daughter. Chuck, 40, is a mechanic making $45,700 a year. Laura, 39, is a homemaker.
They used an inheritance from Laura's father to launch a couple of businesses that failed, but they still have some of the money left. Most is in mutual funds, which make up the bulk of their $279,000 in total assets.
The couple's annual expenses are about $36,000, led by credit card payments, auto loans and income taxes. Laura has been tracking their finances over the past year, looking for ways to live more frugally.
The Applegates recently bought some land and plan to build a home. They want to know the best way to finance construction so they don't spend more of their inheritance than necessary.
Their other financial priorities include saving for their daughter's college education and their own retirement. The couple's investments are growing, but they wonder if they could do better. They have already borrowed against their mutual funds and realize it was a mistake.
John A. Seaman, a certified financial planner, chartered financial consultant and chartered life underwriter with Seaman Financial Services, analyzed the case.
He said the Applegates have some problems, but those can be fixed.
Overall, he said, the couple has a good balance sheet: good assets and low liabilities. They have already performed the most valuable lesson anyone can learn, and that is to actually track their expenses.
``Most people are always shocked when they see where they have been spending their money,'' Seaman said. ``The budget is the first place to start when trying to get a handle on your finances.''
The Applegates' $3,800 monthly income and their monthly expenses of $3,000 don't include property taxes. With an $800 difference between income and expenses, Seaman advises the Applegates to keep better budget records to see where that money is going.
``This is the very $800 that you need for home, education and retirement,'' he said.
The Applegates have 11 years until their daughter reaches college and longer to plan for retirement. Therefore, their strategy should be to invest about 80 percent of their savings into their daughter's college fund and 20 percent into retirement savings, Seaman said.
``So if you have $200 per month to invest, then $160 should go to college and $40 to retirement,'' he said. ``Then, the last eight years, plow all of your investable money into retirement.''
The Applegates can afford to spend about $885 to $1,000 per month on a home. They should go to a bank or loan company now to determine exact approval numbers.
Seaman recommends they choose a bank that will allow them to do the interim financing and permanent financing all in one place. ``Make sure to shop around a little for rates and ease of accomplishing both needs,'' he said.
They should stay as close to the $885 figure as possible, which would buy them an $86,000 home, he said.
``This is probably more than you actually want to budget for a home,'' Seaman said. ``Therefore, you should first decide how large a home you want, exactly what features you want, then price that house. If it is too high, cut back. In your situation, I would probably put about half down and finance half.''
He also recommends that the Applegates keep payments low and pay the balance with their mutual funds. Before deciding anything, however, they should know the exact cost basis before they sell their mutual funds and know how much income tax, if any, will be due.
Seaman suggests that the Applegates plan carefully for their daughter's college education and aggressively use college provisions in the new tax law to their advantage.
He says the Applegates should plan to spend $10,000 to $12,000 per year for her undergraduate education and - since she has her sights set on a career that requires further schooling - about $15,000 to $20,000 per year for graduate school.
For all eight years of school, they should plan to spend about $116,000.
Seaman recommends that the Applegates set up an Education IRA allowing them to deposit $500 per year into mutual funds or other investments. The dollars will grow tax-free and, as long as they are used for qualified college expenses, there are no taxes to pay when sold, he said.
Second, they should take advantage of education credits and continue to build up their IRAs and 401(k)s as much as possible.
To meet their goal of $116,000, they should be depositing about $485 a month into mutual funds, which, according to their budget, they should be able to afford. Even if they can't invest that much, the Applegates should contribute something, even if it is only $25 to $50 a month.
The Applegates wondered if they should use the Texas Tomorrow Fund - a college savings vehicle that allows parents to lock in future college costs for their children at today's prices.
In most cases, Seaman said, the Applegates would be better off investing their money because college costs are rising at a rate of 3 to 5 percent, while returns on mutual funds have been averaging about 10 percent. Also, the largest increase in college costs is usually in room and board expenses and the Texas Tomorrow Fund does not lock in that cost, he said.
The Applegates want to know if they have enough insurance. Laura has a $110,000 term life insurance policy and Chuck has a $170,000 term policy with his employer. The couple also has a $5,000 term policy and a $25,000 whole life policy for their daughter.
Seaman said Laura has enough insurance, Chuck has too little and their insurance cost - $1,065 a year - is way too high. He said Chuck's $170,000 term policy should cost only $16.73 a month and Laura's $110,000 term policy should be $10 per month.
The Applegates should look at the cost basis of their mutual funds to see what the tax bill would be if they sold enough of the funds to pay off their margin account, which has a balance of $48,000. ``You should definitely get a couple of opinions and ideas for paying off the margin account as soon as possible,'' he said.
The couple should also look at the possibility of selling enough mutual funds to pay off their $3,800 in credit card debt and get a third-party review of their portfolio mix.
Affording college
The following provisions in the new tax law could help the Applegates afford their daughter's college education:
The HOPE Credit: a direct income tax credit against federal income taxes of up to $1,500 per year for the first two years of college. Eligible expenses include tuition and fees, but not books, room, board or transportation.
The Lifetime Learning Credit: a 20 percent credit against income taxes up to $5,000. After 2002, the credit increases to 20 percent of $10,000.
The Education IRA: a nondeductible $500 that can be invested without taxes on the growth if it is used for qualified higher education expenses such as tuition, fees, books, supplies and certain room and board.
Interest expense for college loans will now be deductible, subject to many rules, amounts and income phase-outs. A certified financial planner can provide these rules.
Withdrawals from IRAs will not have a 10 percent penalty when withdrawn for tuition, fees, books, room and board. They will still be taxable.
The Caller-Times is seeking people to share their financial situation with the newspaper's readers. Your name will not be used in a story and the financial planner's advice is free. Call Caller-Times business writer Jeffrey Tomich at 886-4316, e-mail him at tomichj@scripps.com or write him at P.O. Box 9136, Corpus Christi, Texas 78469.Post your comments about local news eventsFront Page || Main Index || News || Business || Texas || South Texas Outdoors || Birdwatching || Sports || Entertainment || Selena || Education || South Texas Attractions || World Wide Web