529 Plans and College Funding/Saving

529 plans, named after the IRS code section that governs them (oh yeah… you can already tell this is gonna be a riveting one!), are relatively new. So for many of us who are in the stage of life where we are thinking about the best ways to save for our children’s college education, 529 plans weren’t really even around for us. The following is a quick and dirty summary.

529 plans allow you to put after-tax money into an account to be invested. This account grows tax-deferred, meaning it is not subject to capital gains taxes while the funds are in the plan, huge tax advantage. Funds drawn out for qualified higher education expenses, which can include, tuition, room, board, books etc, can be drawn out tax-free. Because of these features, some people compare 529 plans to Roth IRAs. (Like a Roth IRA for college expenses)

Quick Example:

Bill and Tina just had their first child, Sam. They begin putting away $300/mo away into a 529 plan faithfully until wrinkly-newborn-Sam turns into 18-year-old leaving-the-house-for-college Sam.

It seems like just yesterday he was rocking in a cradle instead of rocking my bank accounts.
It seems like just yesterday he was rocking in a cradle instead of rocking my bank accounts.
  • Total $$ deposited into account:  $300/mo x 12mo/yr x 18 yrs = $64,800
  • Moderately aggressive growth rate of 7% per year
  • Total Tax free $$ available for college when Sam hits 18 = $129,216.31 (which sounds like a lot… but won’t be enough if you plan to cover all costs… FYI)
  • Tax free earnings = $64,416!!

If Bill and Tina had used a regular investment account to do their saving, they would have come out with AT LEAST $9,600 less to work with due to capital gains taxes. Of course, as with many financial vehicles, there are pros and cons. Here are just some of them:


  • Tax-free earnings if funds are withdrawn for qualified higher education
  • Parents or account owners retain control of assets – This means that little junior cannot take the money and blow it over spring break. Account owners get to keep investment and distribution discretion throughout the life of the plan.
  • Beneficiaries can be changed – If Sam got a full scholarship and didn’t need the funds, the account could be changed to benefit another child, niece, nephew, or even future grandchild.
  • Anyone can contribute – If grandparents, aunts, uncles, etc would like to make monetary gifts, they can also contribute to the same plan.
  • Some states allow you to deduct your contribution from your state income taxes if you buy your state’s sponsored plan – Click here to see a list of which states currently allow this benefit.
  • Can be prefunded – Using the 5-year election, parents or grandparents can use up to 5 years of their gift exemption to pre-fund a 529 plan to allow for maximum compounding. This is a little more advanced and I can dig in to this later if I get enough interest/inquiries about how this works.
  • Can also be used for graduate school – If Junior decides to become Dr. Junior, and didn’t eat up all the account funds through undergrad, it can be used for graduate school expenses as well.


  • Funds must be used for qualified higher education – So if you happen to raise an artist, or kid that just generally has other plans, you lose your tax benefit
"Mom and Dad, I resent you for asking me to choose a 'practical' major"
“Mom and Dad, I resent you for asking me to choose a more ‘practical’ major”
  • Funds withdrawn for other purposes subject to penalties – Not only will the funds withdrawn for reasons other than qualified higher education expenses lose the tax benefit, they are subject to heavier taxing and penalties.  Earnings would be subject to INCOME taxes (vs. capital gains in a normal investment account) and a 10% penalty on top.  They do this to discourage people from abusing this awesome savings tool.
  • 529 Plan providers tend to be in flux – Each state sponsors a 529 plan and each provider only has a contract with each state for so long.  Now and then, the contract gets rebid. This means that you can start with one provider you like, and automatically get moved to a different provider at the mercy of the state’s renegotiations.
  • Cannot be used for private junior high or high school tuition
  • Trade schools are generally not included
  • Only some community colleges are recognized
  • 529 Plan assets can be counted against your qualifications for financial aid

So the question is, should you be using a 529 plan?  You can make a decision based on the pros and cons above, or stay tuned for another blog entry in the works comparing just a few of the other ways you can save for college, and some of my opinions on them (Hint: the 529 is not my fave!). As always, I welcome your thoughts and questions!

401(k) limits going up in 2015!

Remember how we talked about why saving into 401(k)s is awesome?  It’s going to be $500 more awesome per year starting in 2015.

Starting in January 2015, make sure to adjust your contribution to take full advantage of the new contribution limits to 401(k), 403(b) and 457s:

  • Under age 50 – $18k/year (up from $17,500)
  • Age 50 and up – $18k (up from $17,500) +a $6k “catch-up” contribution allowance (up from $5,500) for a total limit of $24k annually

Other limits are going up as well for SEP and SIMPLE IRAs, for example.  For more details, check out this article.

Leverage Makes the Ride Rockier

Recently, I’ve had more clients and friends ask whether they should be putting down fatter down payments when writing offers for a piece of real estate. With the unprecedented number of all-cash real estate transactions happening in the SF Bay Area, it’s understandable that one would consider shelling out more cash to stay competitive in bidding wars. If you are generally optimistic about the real estate market, here is just one of the reasons a person may prefer NOT to put down more than they need to.

In a normal environment the average buyer is using leverage; they are bringing some of their own money to the table (a down payment), and borrowing the rest (mortgage). Many buyers who can afford to buy in cash choose to still borrow from the bank to complete their purchase. “Why would they want to pay interest on a mortgage when they don’t need the money? Why would they burden themselves with a [higher] monthly payment when they might be able to own their home outright?” The answer? Leverage.

There are a lot of pros and cons that I could go into about having mortgages, but today, I’m just focusing on the leverage aspect.

Leverage amplifies returns, both good and bad.

Let’s look at an over-simplified example of the good first:

Peter and Jill want to buy a $1MM home. They put down the standard 20%, or $200k in this case, and borrow the other $800k from the bank. In 2 years, the value of the home has risen 10%. That means the house is now worth $1.1MM. While the full value of the home has only risen by 10%, Peter and Jill only had to put in $200k of their own money to make a $100k gain, which means they effectively got a 50% return on their investment. Not bad!

Had they bought a $200k home with the cash they had, and the value rose by 10%, they would only have made $20k.

Okay but what if it goes the other way (also simplified)?:

Jack and Sasha buy a $1MM home and put 20%, or $200k, down, borrowing the other $800k. over the next 2 years, the value of the home goes down by 10%. This means that the market value of the home is now $900k. Jack and Sasha still owe the bank nearly $800k, so the $100k loss comes out of their original $200k investment.  This means that they lost 50% or half of their original investment.

A $200k home, purchased with cash, that went down by 10% would only have lost $20k.

This is true with investing in equities as well. You may hear of investors buying on margin. Using a margin account is like borrowing money to invest so you can make a bigger bet. You’re levered so that you can make more, but you can also lose more. In fact, you can lose money that you don’t have.  (Margin investing is most definitely not for beginners.)

Meanwhile, the cash you didn’t put down is also able to be productive in the market or some other investment, so you’re making money in a more diversified way as well.

It’s Basically Like Crowdfunding…

… except very purposefully, and in advance.  I’m talking about insurance, of course. (And in this article, I’m mostly talking about term life insurance as opposed to whole life or universal life insurance)

These days, insurance gets a bad reputation very unfairly. Some people object “But what if I don’t die?  THEN what do I get out of it?” So I’m going to try to explain it in a different way…

To illustrate, lets look at a case. We’ll call them the Carson family. Dan (35) works in accounting and Sandra (37) is an elementary school teacher. They have two young children, Kylie (7) and Cynthia (4). The Carsons organize a canned food drive for the school every year and enjoy nature hikes as a family.

In February, Dan is ill with nausea, vomiting and backaches. After 4 days with no relief, Sandy takes him to see a doctor where they discover through a series of tests that he has pancreatic cancer. It has already metastasized. Three months later, Sandra has become a widow. Dan did not have life insurance.

The community comes together to support this beloved family. They create a funding page to gather/pool donations to help the family get by. Between friends, family, acquaintances and even some big-hearted strangers, a fund of $80k has been collected for the Carsons to help get them through this hardship and unexpected loss.

$80k is a lot of money, especially to just be given out of the kindness and generosity of the community.  But it’s not enough! Let’s say $80k could replace Dan’s take-home salary, at which point the entire gift has been consumed. Then what? Or if we use the 4% rule, to try to make the $80k last and just use it to generate an income, we can expect to take about $3k annually for an indefinite period of time if the money is invested in a moderately aggressive portfolio. That’s not going to cover the cost of preschool for Cynthia, the mortgage that they recently took on to live in a better school district or the ballet lessons Kylie has come to love.

And what if the Carsons were way less likeable people and nobody decided to help them?!

Okay so what if, instead, Dan had gotten together with a big group of people that wanted to make sure their loved ones would be taken care of in case they weren’t around? They want to know ahead of time that there will be a soft landing. All these people decide to contribute $500 per year to a pool of money.

Even less sanitary than the ball pit
Even less sanitary than the ball pit

That pool would pay out say $500,000 to your family upon your premature death. This pact is active for the next 20 years, while your young family is the most vulnerable.

Insurance works a lot like that except you’re making a pact with an insurance company who is assembling a pool of strangers.

Japanese strangers, in this case
Apparently Japanese strangers, in this case


The company will do advanced calculations based on statistics for health, longevity and other risk factors to come up with a fair amount for you to contribute to the pool.  For example, if you have a heart condition and you’re a heavy smoker, you have to put a little bit more into the pool to account for the fact that you are more likely to collect from it (aka die prematurely) than a non-smoker with a healthy heart.

The bottom line is that insurance is like a much more organized and proactive form of crowd funding for things that MAY happen, but we HOPE NOT. You are generally not buying it to try to make money.  After all, do you buy your home insurance and get mad when your house doesn’t burn down and allow you to collect from your policy? You are making the choice to protect against risks that you cannot plan for or bear alone.

Here are 3 cases where I suggest you think about life insurance:

  1. You just bought a home and have obtained a mortgage that neither of you can afford to pay on your own – think about purchasing enough to either pay off the mortgage or a good portion of it.
  2. You have children – think about how much funding college educations or other childcare costs might be.  In the case of a stay at home parent, think about whether a surviving spouse would need to find an alternative for kid care e.g. daycares or nannies etc.
  3. If you don’t have a family your own, are your parents financially set? Or will they be relying on some assistance from you when they are too old to be working any longer? If that’s the case, you may consider purchasing something to benefit them or anyone else who may be depending on you financially.

No, it’s not a fun subject. But I’ve seen too many cases where a family wasn’t prepared for the tragedy that was “never supposed to happen” to them. I hope it never happens to you, but you should still be prepared for it to. Know that it’s taken care of, that you have a plan, and then you never have to think about that scary depressing stuff again.

But they don’t match…

There are a lot of reasons clients give me for why they may not be participating fully in their company’s 401(k) or 403(b) or some other retirement plan. One reason that does not fly is “but my company doesn’t match”.

mismatched socks

Some companies offer to match your retirement plan contribution to some degree. For example, let’s say they match dollar for dollar up to 3%. If you make $80k annual salary, your company will contribute up to $2400 (3% times $80k) per year on your behalf, as long as you contribute at least that much as well.  That’s like getting an automatic 100% return on your first $2400.

For most, it feels like a no-brainer to take advantage of “free money” and contribute enough to maximize your company’s matching option. But what if your company doesn’t offer one? Or if you are already taking advantage of the most you can have matched, why would/should you contribute more?

401(k)s and other employer sponsored retirement plans that allow you to make a tax deferred contribution are a powerful tool all on their own. Even without a match, you can end up with more (maybe MUCH more) money in your pocket.

Let’s say you make $100k and you pay 35% for state and federal taxes all together (I’m ignoring FICA and medicare for the purposes of this illustration). If it costs you $45k after taxes to maintain your lifestyle, then you’ve got $20k left after taxes to invest:

  • $100k salary – $35k taxes = $65k take home
  • $65k take home – $45k lifestyle expenses = $20k to put to work

If instead you made a maximum 401(k) contribution ($17,500 if you’re under 50 in 2014) instead, your numbers would look more like:

  • $17,500 401(k) put to work immediately
  • $100k salary – $17,500 = $82,500 taxable income
  • $82,500 – $28,875 taxes (.35*$82,500) = $53,625 take home
  • $53,625 take home – $45k lifestyle expenses = $8,625 to invest
  • $17,500 in your 401k + $8,625 after taxes = $26,125

That’s over $6k more that is working for you in your investments rather than going to good ol’ Uncle Sam.



And I’m sure in another post, we’ll talk about why (if you don’t already know) it’s better to make money with your money than working for it yourself too, at least tax-wise.

Let’s just take this to the next level for a second. What does $6,125 more per year really do for you?

In a checking account, $6,125/year * 30 yrs = $183,750   (hey not bad! you put away a lot of money!)

That same contribution of $183,750 total invested at an assumed 8% annual rate of return, $6,125/yr for 30 years  = $693,860  (umm…. YES. I’m pretty sure you could think of a few things you could do with that)

Does that mean that everyone should be maximizing their 401(k) all the time?  No, not necessarily.  For example, if you really don’t need current tax deferral, it may make sense to use the Roth 401(k) option, if you have that available to you. This is especially true if you’re still at the beginning of your career and presumably in a lower income tax bracket than you ever plan to be in again.

The point is, there may be situations where a 401(k) is not the first/best priority for your investing. But if your reason for opting out is because your company isn’t matching, sorry to say – your reason is not good enough.

“Bank of Dad”

aka – Teaching your kids about compounding interest

I first started investing my own money when I was in middle school. It was investing with training wheels on, but I was still consciously making the decision to add money into an account to get a return. It was through a program I now affectionately call the “Bank of Dad”.  When parents ask me how they can teach their children about the importance of saving and investing, I can’t help but tell the story of my dad’s ingenious method of teaching me.

A little background – Traditional Chinese families give cash gifts.  It’s not tacky; It’s preferred. It’s practical. Cash means “I’m giving you whatever you want it to be. I’m giving you the option of putting this toward what you would choose for yourself.” As a young kid, we didn’t get the best toys for Christmas or birthdays. (I actually made a Christmas wish list one year and stuck it by the fireplace pretending to believe in Santa so that my parents might get a hint of what I wanted; they didn’t take the bait.) Instead, we get red envelopes filled with cash for all those occasions and for Chinese New Year.  This means that Chinese kids can end up with quite a stash once they’re old enough that mommy and daddy don’t have to “hold it for them”.

Red Envelopes

I’ve always been more of a saver. That’s a principle that was taught just through observation. I was the kid who knew that you could not have your cake and eat it too, and I always preferred to still have it.  Stickers stayed on the backings, art supplies were sparsely used, and my red envelope money went into a drawer. But a kid doesn’t have to be a natural saver for this to work and I’ll tell you why in a sec…

One night, my dad walked by as I was adding up the day’s spoils from a chinese new year get together.  He saw all this cash, and, being a financial advisor, he asked me what I did with all my cash. I then showed him my cash drawer. If you know me (or my dad, or most anyone in finance), you’ll know that I am PAINED when I hear about people keeping too much money in cash right now. Interest rates are currently so dismal that when you factor in inflation, you’re basically getting a negative return at the bank. He had a similar feeling about my cash stash…  so he decided to make me an offer.

The deal was that I could put money on deposit with him. In return, he would give me 10% compounding interest. (Yeah I know… 10% is outrageously good. If only I had kept my account open! But alas, I don’t think he’s taking new customers anymore) So I decided to give it a try with a portion of my money. After a month or so, he printed out a little “statement” he had made using excel to show me how much money I had earned. “Whaaattt?!  My money turned into MORE money and I didn’t even have to DO anything?”



“Okay… I like where this is going…”  I gave him more of my stash.

I then requested statements maybe twice a month (I’m such a high maintenance client!).  He loved that I was excited about it and I loved seeing my balance go up.  I wish I had kept a statement so that I could have framed it for memories.  I used to tape it against the wall by my desk so I knew how much money I had all the time… New money automatically went into the account.

Now this is why I think this can work even for those who aren’t really savers yet. Sometimes, what makes saving hard for people is that they can’t see the benefit.  They understand money as a means to get something they want; it’s purpose is to purchase (And this doesn’t apply only to children!). “I need money to buy toys.” In teaching a child that money saved can actually earn MORE money for you, it gives saving a new purpose. “If I don’t spend this money now, the money can actually work for me and turn into MORE money… and better toys.” Clearly, this is a rudimentary explanation of money and investing… but we’re just talking about kiddos for now. It’s a slightly more advanced perspective on saving than just accumulation, and that COULD make all the difference for some.

It does take some commitment, as a parent.

Here’s the quick How-To:

  1. Decide on a reasonable interest rate to offer at your “bank”. My dad used 10%, but you can use more or less. (I do suggest something rather high to account for the low patience level of most kids. Remember when a week felt like an eternity? It’s more powerful to have a number high enough to illustrate the point without having to wait half a year for something significant.  You can make this call based on how well you know your children.)
  2. Explain the concept that saving is another form of earning to your children and encourage them to try it out with some amount of their piggy bank/savings. You may even offer to help seed the account with something small.
  3. Track how things are going in a spreadsheet or use this one I put together. (More instructions are on the sheet)
  4. Do NOT pressure them to put in more. The decision should be a conscious decision they make on their own. If they put in less than you would want, just print out a statement for them in a month or two, and show them, hypothetically, how much bigger that number would have been had they put in more.
  5. When they request withdrawals, do not hesitate (at least not more than a few days, if you don’t have cash handy). They need to know that their money is theirs and it’s real.
  6. Make sure you are reviewing how their account is growing regularly (every other month is probably a good time period to aim for) to reinforce the concept.

Tell me how it goes, or if you have other great ways you learned or taught about investing!

Budgeting basics

I don’t believe in strict percentages (e.g. spend no more than 25% of your income on housing expenses etc) when it comes to budgeting because everyone has different priorities. One person may be happy to eat ramen in their her mansion, while another doesn’t care at all about where he lives since his ideal is to spend as much time as possible traveling and away from home.

That said, there are a few basic principles that I do think are (mostly) universal:

  1. Spend less than you make – To some this is common sense. To others, maybe not. If you find that you’re behind on bills, REALLY looking forward to pay day, or you’re carrying a credit card balance, you are living beyond your means! Time to list priorities and cut expenses from the bottom up.
  2. You should be saving – If you’re not able save, you’re spending too much. The exception here is if you’re already retired. Otherwise, there should be room in your budget to be saving. Trust me, “future you” will thank “present you” for saving NOW. Adjust your budget to make saving your first priority. Make it systematic so that it gets pulled out of your paycheck or your account before you even have a chance to see it.
  3. Budget for irregular expenses – Some expenses only come up annually, quarterly, or at some other odd interval. For example, Christmas comes at the same time every year, so why do so many people find their wallets recovering from end-of-the-year shock? grinchFor this, I recommend creating a “periodic expenses account” (I’ll probably write a post just about this account some time in the future). In short, take your irregular expenses and average them out to a monthly number.  That is how much you should set aside every month to make sure those expenses will be funded when the time comes. No more stress because you know exactly where that money is going to come from!  Note – this is separate from your emergency fund.
  4. Leave room for error – Discouragement can kill your motivation, so make sure that you’re leaving some room for error. That may either be by padding your expenses, or by creating a “miscellaneous” line item that leaves you some margin every month. Tracking to the penny takes a lot of discipline. If the system you use requires discipline that you haven’t built up yet, you may set yourself up for disappointment. Baby steps are okay!
  5. Leave room for fun – For the sake of your psyche and for your financial success, make sure to budget for things that you enjoy too. Maybe after looking at rules 1-3, you realize you can’t afford your current apartment, or you need to cut back on premium coffee.  Whatever sacrifices you end up making, you’ll feel better about them if you’re staying focused on the REASON you’re making them.  You might even consider creating milestone rewards for yourself. Let the satisfaction of hitting those near term goals (and rewards) keep you on track for your long term ones.

Budgeting doesn’t have to feel like a set of handcuffs and limitations.  In fact, when it’s done right, it can actually be very freeing! feeling freeWhen you know you’re already saving, and that you’re prepared for upcoming big expenses (in other words, you’ve taken care of everything you’re supposed to) anything that’s left in your checking account is TRULY extra, and you don’t have to feel guilty spending it! 😉

shopping girl

Don’t Just Try… Do…

In order to succeed,

your desire for success should be greater

than your fear of failure.

– Bill Cosby

I am the queen of “great ideas”.  I always think of the possibilities. “It would be so great if…  I really want to… We should… It would be so fun to…” But when it comes time to actually execute, something stops me. What if it doesn’t work?  What if it doesn’t live up to my (sometimes ridiculously lofty) vision? What if I embarrass myself?

Thankfully, I married the right guy. He pushes me past those fears. He believes in me more than I believe in myself.

So he told me to start this blog because I’ve been talking about it… and I thought about it… and thought about it… and thought about it some more…  until one day, I came home, and HE started it. (Maybe because he also got a little bit tired of me just talking about it…)

Thanks for the push, honey. Let’s get this thing started.

What about you? What would you do if you stopped being afraid? Why are you waiting?