If you are at a certain age or stage in life, you might think that the word “fiduciary” sounds as foreign as arrivederci.
And that’s understandable. Many people when they’re starting out don’t think much about their financial futures. They may not have much money, may not make a lot of money—or they’re the opposite: their families have been wealthy, so they assume there’s nothing for them to worry about.
The reality is that no matter what end of the spectrum you’re on—or somewhere in the middle—it’s never too early to start to strategize about your wealth and begin your wealth creation. After all, the number one thing you can do for your future is to save now. But that’s just the start of it.
Young people have lots of questions about what to do, how to spend, how to save, and how to navigate financial conflicts and questions that are specific to their own age group. Here’s a sample of some of the more common scenarios we hear—and how we work through them.
1. What should I do if I receive a large inheritance?
Dear Irvin,
I just received a large inheritance from a relative. I know it sounds like I’m being spoiled because I’m lucky enough to benefit, but it’s not like I want to buy a Bentley or take an around-the-world cruise or something. I’m just overwhelmed by it all. What do I do?
—Jason
First of all, I’m very sorry for your loss, Jason. That makes the situation much harder, but your problem—at least financially—is a good one to have in that your inheritance can give you some security and stability for your future. The reality is that inheritance, especially if you aren’t used to handling a lot of money, can be an intimidating challenge. What should you do? How should you spend it? What gets taxed? How can you protect as much as possible?
We often see clients who inherit a lot of money become fearful when deciding how to best move forward with managing this new-found wealth. A recent client of ours, Emma, came to us after inheriting a few million dollars from the passing of her father and her aunt.
In her inheritance Emma received legacy stocks that had been under-performing the market for years and U.S. savings bonds. The savings bonds were so old that some bonds had been matured for years and stopped accruing interest. When asked why she never cashed the bonds in, her reply was that she was afraid to pay the taxes.
We completed a tax analysis that showed her that by selling the matured or low-interest savings bonds over a period of years, she could smooth out the tax bite from Uncle Sam. In addition we also set a capital gains tax budget to facilitate selling her inherited underperforming equities.
Having a solid plan in place gave her newfound confidence. Now she makes better financial decisions, enjoys more wealth, and lives a happier life.
In another client example, a couple named Bill and Lucy had a large windfall and needed a plan. We immediately took action: we paid down over $160,000 in student debt from their children’s college education. The debt burden was growing and would have turned into well over a $200,000 obligation since their children were still in college.
Then we refinanced the mortgage to a lower rate and reduced the term to 15 years to pay it down faster while mortgage rates were low. We also maximized retirement contributions to increase net worth and reduce taxes. We connected Bill and Lucy with an accountant to assist in making sure they were getting all the deductions they deserved.
Without our help and the windfall, it could have been a disaster. By their own admission, they may have gone bankrupt trying to figure out all the moving pieces.
2. Is it better to rent or buy a house?
Dear Irvin,
I’m newly married and so happy. I’m also fairly new in my career (about five years in), and my spouse and I are talking about starting a family. We’ve rented all our lives, but we’re now debating about the next step. Is it better to rent or buy a house?
—Thomas
This is a question we get from clients of all age demographics. The answer to this one, like most financial planning questions, is “it depends.”
If you’re working in a new city for a short period of time (let’s say 18 months or shorter), it’s probably a good idea to bite the bullet and rent. If you’re planning on working in a new location for longer than three years, it’s probably better to consider buying a home if you have the available liquidity.
But remember, before you buy anywhere, get the lay of the land.
Do you like the people? Is it too hot in the summer? Does Dennis the Menace live next door? You definitely want to answer these questions before committing to a place by buying a house.
3. What’s right for me, a fixed or adjustable mortgage?
Dear Irvin,
Ok, I’ll just say it. I’m confused about mortgages, like are fixed or adjustable mortgages better? I don’t understand the differences.
—Paul
For your first question, my usual answer is it more than likely comes down to time horizon.
If you are only going to be in your home for a few years (10 or fewer years), then it’s usually best to go with an adjustable-rate mortgage (ARM). ARMs are very similar to fixed-rate mortgages in that they are fixed for a period such as 5, 7, or 10 years. Then at the end of the period, the interest rate adjusts to the going market interest rate with caps. These types of mortgages are most attractive because the interest rate is lower during the locked in period than a traditional fixed mortgage.
Fixed rate mortgages do serve a purpose, especially if you think you’ve found your forever home or if you believe interest rates will increase in the future. In those cases, a 15-year or 30-year fixed mortgage might be the right choice for you and your family.
4.How can I start saving for my children’s college costs right now?
Dear Irvin,
I have two toddlers, and I know that finishing high school is a long way away—though everyone tells me it’ll go by really fast! I want to start saving for my children’s college costs early. I know it’s the right thing to do. How do I start?
—Alyssa
A 529 plan is a fantastic option to save for college funds. These plans are state-sponsored education accounts that allow you to start saving for college with tax-free growth. Some states even offer you a tax deduction off your personal income tax return. So long as you use the funds for “qualified education expenses” like tuition, books, room and board, equipment, etc., distributions from 529 plans are tax free.
To start all you need is your child’s social security number to make them the beneficiary. Parents don’t even need to set up these plans. They can be established by grandparents, uncles, aunts, or cousins.
If monies remain in your child’s 529 plan after they’ve graduated, all is not lost. The funds can be transferred to another child or remain in the account to continue to grow for your kid’s children.
When choosing a 529 plan, review state plans that have low-cost investment options. High-expense ratio investment options chip away at long-term returns. If you want to put investing on “autopilot,” consider a glide path option. Glide path investment portfolios start out nearly 100 percent in stocks when your child is young and rebalance every year on your child’s birthday, becoming less aggressive until it’s time to go to college.
Remember, you aren’t wedded to your state’s 529 plan. If it is inferior, you can choose another state! These are important decisions to review with your fiduciary financial advisor ahead of time.
5. Is it good to have a Health Savings Account?
Dear Irvin,
I’ve started a new job, and the benefits seem really strong, though it’s hard for me to know for sure. My health insurance plan offers a Health Savings Account (HSA). That’s good, right?
—Alexander
HSA accounts are what I like to call the fourth bucket in a retirement plan that goes along with pre-tax retirement, Roth accounts, and after-tax individual accounts.
A health savings account is a type of financial account where participants are allowed to contribute dollars that go toward healthcare expenses. To have one of these accounts, you must have a high-deductible health plan. If you don’t have a high-deductible health plan, you are not allowed to contribute.
HSAs offer triple tax benefits:
- You get a tax deduction for employee contributions each year.
- These accounts offer a brokerage account feature. If you invest your contributions in the markets, the growth is tax free over time.
- Distributions for “qualified medical expenses” (e.g., doctor visits, copays, prescriptions, etc.) are tax free. But be careful, because if you take a distribution for non-medical expenses, the IRS makes you pay ordinary income tax on the distribution, and a penalty may apply if you are under the age of 65.
HSAs also have a neat little perk worth mentioning once you get to age 65. You may take distributions from your HSA for non-qualified medical expenses without being subject to a penalty; however, ordinary income tax would still apply. In a sense it’s like having an additional IRA account in retirement.
Young people often struggle with uncertainty about handling their financial circumstances because they don’t have sufficient information nor experience in coping with their changing lives.
This is where a fiduciary financial advisor can be irreplaceable.
A professional fiduciary provides peace of mind and a logical approach in an emotional climate. Bringing decades of experience to your situation, we can hold your hand and give you peace of mind. By being very clear about what we’re doing and why we’re doing it, we give the confidence to make the best decisions with you and your family.