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MARCH 2012 — BALTIMORE BEACON
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Money Law &
REAPING THE DIVIDENDS Look to dividend-paying stocks for return, especially through funds investing in utilities, real estate and healthcare HOW TO SUCCEED IN BUSINESS When starting a new business, get practical advice from retired business owners first. SCORE can help VANGUARD FOUNDER’S ADVICE Most investors should expect to net just 1 or 2 percent a year from stocks, says mutual fund pioneer John C. Bogle
Money missteps many grandparents make By David Pitt It’s so tempting to want to give your grandchildren everything, and to put their wants and needs first. However, one of the common money mistakes grandparents make is to put spending on grandkids ahead of their own retirement security. Here are three money missteps grandparents make and ways to avoid them: 1. Excessively spoiling grandchildren Financial advisers and estate planners have all kinds of stories about retirees who insist on spending significant amounts of their savings on grandchildren. Too often they fail to recognize the severity of the risk it poses for their own retirement security. “You really cannot reason with people not to do it,” said Jean A. Dorrell, an estate planner. “They know they shouldn’t be doing it, but they will continue until they don’t want to do it anymore.” Another temptation is for grandparents to set up Uniform Gifts to Minors Act (UGMA) or Uniform Transfers to Minors Act (UTMA) accounts for children as a way to pay private school expenses or for college costs such as tuition, books, or room and board.
However, many don’t realize that when their grandchild becomes an adult (age 18 or 21 depending on the state where the account was established), the money can be spent on anything the child wants, said Casey Weade, a financial planner. The assets in these accounts are owned by the child. That also means the account can affect the amount of financial aid a college student may be eligible for. Weade said it makes more sense to set up a 529 college-savings plan that offers tax benefits when used for qualified college expenses, including tuition, books and housing. 2. Failing to establish an estate plan Estate planning is essential. The smooth transfer of wealth between generations is an important part of a family’s financial well-being, yet most families don’t have the proper documentation in place. That would include a will, a power of attorney for finances, or a trust. In a 2009 survey of more than 1,000 people 18 and older by Lawyers.com, just 39 percent of respondents reported having a will. Even fewer had a power of attorney and fewer still had set up a trust.
While it may seem daunting to think about all the aspects of estate planning, it’s not impossible to pull together the basics so that last wishes are fulfilled when the time comes. T. Rowe Price offers an estate planning checklist that provides a good start at: http://tinyurl.com/3m2ondx . 3. Leaving retirement funds on autopilot It’s very common to have multiple retirement accounts, said Chuck Cornelio, president of defined contribution for Lincoln Financial Group, which provides retirement and other financial services. It’s not unusual to see workers with as many as six or seven. Frequently workers fail to consolidate accounts in a way that would enable them to manage their money effectively. Consolidating accounts into an IRA, for example, helps ensure the money is adequately diversified across investment options and can help in developing an overall retirement plan. “That’s actually a good idea because then you can get a holistic picture of all your investment opportunities and where you can get your money from in retirement,” Cornelio said.
Workers frequently leave 401(k) money with a previous employer or sometimes roll it over to an IRA and keep it invested in the stock market, said Dorrell. She advises them to evaluate the risk of keeping too much exposed to the volatility of stocks when at or near retirement age. Having both a traditional IRA and a Roth IRA account to pull money from can help a retiree control taxable income. With a Roth IRA, deposits are taxed when made to the account, but money can be pulled out in retirement tax-free. For many it would make sense to consider converting to a Roth. Anyone who expects to be in a higher tax bracket at retirement would benefit by paying the taxes on those savings now. And with tax rates widely expected to rise in the future, many retirees may end up in higher brackets than they are currently. The Vanguard Group provides a good review of Roth conversions at www.vanguard.com/pdf/rpd21.pdf. For further help, check this calculator to help determine whether a Roth conversion makes sense: www3.tiaa-cref.org/iracalcs/conversion—calc.jsp. — AP
It pays to pay attention to stock fund fees By Mark Jewell Price-conscious or not, consumers invariably slip from time to time. What’s the big deal if you buy something you want for $1.50 at a convenience store rather than spend $1 at a discounter? It can seem that way with mutual fund expenses, although investments clearly aren’t impulse buys. Many investors give little thought to the impact of choosing a fund that charges 1.5 percent over another charging a 1 percent expense ratio. Given that the stock market frequently moves a few percentage points in a single day, do those seemingly minor pricing differences really amount to much over the long run? They sure can — to the tune of tens of thousands of dollars, over decades.
How modest fees add up Take for example, the growth of a $10,000 investment in a stock fund over 30
years, if the market gains an average 10 percent a year. (Although that rate may seem unlikely given recent experience, it’s close to the market’s historical average going back several decades.) An investor paying 1.5 percent of assets in annual expenses ends up with nearly $116,000. That doesn’t factor in inflation or the potential drain of commissions known as loads and taxes. The same investment in a fund charging 1 percent grows to nearly $133,000. Those two expense ratios — the ongoing charges that investors pay for operating costs, expressed as a percentage of a fund’s assets — are about average for managed stock mutual funds. Go to the extremes, and expense differences have a far bigger impact. An investor in a pricey fund charging 2.5 percent ends up with less than $88,000. An ultra low cost index fund charging 0.1 percent comes away with almost twice as
much, nearly $170,000. And while there’s no controlling the market’s direction, individuals can control how much they pay to invest. So take charge. “Cost is the driving force in any investment equation — minimize it,” advised John Bogle, founder of the Vanguard Group and index mutual fund pioneer who now runs Vanguard’s Bogle Financial Markets Research Center. There are, of course, many examples of fund managers whose investment-picking skills earn their investors bigger returns than their benchmark indexes. But a wealth of research shows the ranks of such star managers are relatively small. And their record of outperformance is typically fleeting, measured against the decades needed to save for retirement. “It’s clear that over longer stretches, costs are a big, big hurdle,” said Karen Dolan, Morningstar’s director of fund
analysis. From 2005 through March 2010, U.S. stock funds charging the lowest fees posted average annualized returns that were nearly two-thirds higher than funds charging the highest fees, according to Morningstar. More often than not, funds charging above-average fees are leaky faucets. Many investors fail to hear the drip-dripdrip that drains their investment returns, when they could be switching to a lowercost option.
Fees matter more in tough times There are times when differences in fund expenses don’t seem to matter much. Stocks surged in the 1980s and `90s, and fee differences were relatively small stacked up against the big market gains. But the Standard & Poor’s 500 stock See MUTUAL FUND FEES, page 15