31/married/1 year old twins / 25K to invest - help?

[Guest SpeechCoach]

Hi Everyone,

I feel like I am wasting time. My wife and I are in are early 30's and do not have any investments besides a checking account. Does the following sound like a logical way to invest my mone?

Begining Balance : $25K

$5,000 - into 2 individual 529's for my 15 month old twins ($2500 each) Is this enough $ to set into motion for college planning? Is the idea, that I am suppose to contribute to this each year? Month? or does the interest itself let it grow enough for college in 18 years.

$5,000 - to open a Roth IRA for my wife and I to retire (or should it be two Roth IRA's?) How can I figure out how much money this will bring us when we retire? Even if not accuate, is it possible to make a guess? Assume worst case? Best Case? Average Case?

$5,000 - into an agressive Mutal fund, because we are in our early 30's and can take the risk. Will this bring me a ton of money in 30 years? Or is it a waste of investment... Also, can I use this money over the years or is it locked?

$15K stay in checking account to keep liquid.

OR

forget all the planning and go buy myself a new car ;-)

Any thoughts or insight are appreciated,

thanks much,

Speech Coach-

[John G]

If you have no investments right now, then I would focus on your Roths and put less weight on the kids college accounts... but you will get a range of opinions on this point and I hope others will post. The time horizon till college and retirement is quite long, making predictions about rules and results more difficult.

Lets discuss the Roth option:

"$5,000 - to open a Roth IRA for my wife and I to retire (or should it be two Roth IRA's?) How can I figure out how much money this will bring us when we retire? Even if not accuate, is it possible to make a guess? Assume worst case? Best Case? Average Case?"

The "I" stands for individual... so you and your wife will each have individual accounts. If you qualify on income for both last tax year and this year, I would highly recommend adding 3K+3K = 6,000 for your initial contribution for each of you. This would take 12k of your total funds. A reasonable rule of thumb is that your assets will double in approximately 7-8 years. So this initial 12k becomes about 384,000 in about 36 years. That is a healthy start for retirement. If you keep adding 3,000 each year to each account, you will eventually pass the million mark (in current year dollars). You need to put the majority of these funds in the stock market in a very broad NO LOAD fund and let time be your friend. In any given year, you can be up or down... but over three decades you should do just fine. The key is to start a plan and stick to it. I will post some more numbers when I find where I put my HP 12c and have some more time.

"$5,000 - into an agressive Mutal fund, because we are in our early 30's and can take the risk." $15K stay in checking account to keep liquid.

Reply: take out the word aggressive, and I have no problem with these numbers. You don't need to be betting on long shorts to accomplish your long term goals. Yes, you certainly need a liquid component, and $15k is probably not enough. However, the mutual fund shares can be sold and are almost as liquid.

Conclusion: I would not worry a lot about your initial $$ divisions but focus on getting started. Personally, I would emphasize the Roths first with 12, then scale the other numbers back keeping cash or similiar core amount as the next largest park, put your toe into mutual funds and make a smaller contribution to the kids account. Then next year, you add to each as you can.

[Guest SpeechCoach]

John,

Thanks, that was such a thoughtful reply, and I appreciate it. This site is a great resource! It's been tough to find this type of insight. It seems that when I go to the bank, I get a standard sales pitch, and I leave with unanswered questions.

As a new Dad, I'm finally getting my head around money and how to plan for the future. So, your thoughts and insights are soooo welcomed. I'm not sure why I can't get those type of answers elsewhere! I'll think about your response. I've given myself until the summer to take action, but that does not mean I have to wait until the summer. I'm anxious to get moving and put some plan into motion. but not until I understand things a bit more, and your post was most helpful in my process!

If you ever need advice on speaking, presenting, or public speaking, powerpoint, make sure to let me know, I'd be glad to return the favor!

Speech Coach

[John G]

Well, it is very late tonight so I won't try to add to my prior answer. But, I need to respond to a new point you raised. If you want to jump start your Roths, you have to April 15 of this year to make a contribution for 2002. If you wait until summer, the maximum you cancontribute will be the 3k (each) for tax year 2003. Act by April 15 and you leave the door open for boosting the funds before year end by catching the second tax year.

Two suggestions for how to take the first steps in learning about investing and personal finance. First, the March issue of Consumer Reports always has a major article or two on retirement planning, IRAs and investing. You will find it a big help, if you don't see it in the local library... try March of 2002. Second, I very heartily recommend that you subscribe to a general purpose "personal finance" type magazine. I think you will find Kiplinger Financial to offer a lot of interesting articles on IRAs, investing, home mortages, credit, college savings, etc.

[E as in ERISA]

I would also recommend buying a calculator.

$25,000 beginning balance

< 5,000> 529

< 5,000> IRAs

< 5,000> mutual funds

$10,000 (NOT $15,000) for checking account

[four01kman]

Just to give you an idea of how money accumulates (I found my HP 12C)

Initial deposit of $5,000, grows at 6% for 30 years equals $28,717.

Growth at 8% equals $50,313

$5,000 annual deposit for 30 years, growing at 6% annually equals $419,008.

Growth at 8% equals $611,729

Roth IRAs for you and your spouse grow retirement funds for you.

529 Education plans accumulate college funds for the twins.

Both accumulate funds on a tax-deferred basis and provided tax-deferred growth, provided the money stays in the plans long enough.

The key for you is to start saving now. There is no way you can make up for the loss of time in accumulating money.

[John G]

I ask the sysop for permission to "revise and extend my remarks".

Ah, some new voices on this topic which is good as there are no precise answers. Who knows what your income will be 10 years from now, what state you will be living in, how many more kids you will be raising and what the Federal tax policy will look like then or 20 years from now.

First the college question. You have 1 year old twins. I have two kids in college right now and just went through the process. My first observation is the ironic point that the less you prepare for your children's education the more support they will receive in the form of scholarships and aide. There are a ton of scholarships in the US for all sorts of students... I know in part because my kids did the search and they qualified for quite a few non-income based. Other options include sports scholarships and the US military academies which are free. Then you have the great values in most state universities of instate tuition. Want something more exotic, try McGill in Montreal at less than 17K per year for the equivalent of our Georgetown, William and Mary or ivy league schools! Courtousy of the 63% Canadian dollar. Kids with good grades, kids with average grades... there is some money in every niche. With two kids going to college in the same year, you will score high on the financial aide calculations. Take a tour of the Princeton web site and use their calculator as an example of the math at a high end school. You will be surprised.

The cost of college is actually exagerated! Yes, true. Here is why. When your twins are 17 you will be paying for food, clothing, gasoline, dental, medical, insurance, and of course the essential "entertainment emergencies". And the following year... you will be paying exactly the same amount but it is often cited as the "cost of college". The real hump to get over is tuition (put a tape recorder in your twins room with Gregorian chants of "in-state tuition). Each year your kids should also be working to build up their college fund. In our household, I have told both kids that they are responsible for 20% of their education. They can choose to meet that by scholarships, summer jobs, campus work, or ek! loans. This sure helped light a fire under them to find jobs and crank out scholarship applications. [i don't think your twins are ready for the percent concept, keep that for later]

Did you also know that some schools and states offer tuition reductions is the student is pursuing a degree in public service, teaching, advocacy law, etc.

It is noble to want to pay the ticker for your kids education, and I very much respect that. However, they will NOT be denied opportunities if you have little money. And, I almost forgot, some schools do not count retirement assets or home equity in their formulas for financial aide! I know someone who is sitting on 400k in home equity and has a bright son getting a free 4 year ride at one of the elite schools.

For these reasons, I would start with your own IRAs and put less emphasis on the kids college accounts.

[John G]

Ok, this is something lots of readers need to understand. When you are talking about long term tax sheltered accounts, you should be thinking in terms of total annual return. George W's dividend proposal is essentially meaningless for IRA accounts. Over the long haul, you should be thinking in terms of capital gains , that is the growth in the asset value because of the improved performance of the company. Bonds are ok, but they are basically IOU and give predictable performance but that predictability comes at a lower return than equities (aka stocks). Over very long periods, stocks typically perform much better than other assets classes like cash, CDs and bonds. Total annual return is the combination of dividends (if any) and capital gains.

Portfolio: the combination of various investments (bonds, CDs, cash, stocks, etc.) that encompass your assets.

Typical portfolio performance? If you looked at just the last three years, you would think it was crazy to invest any money at all. Three years in a row stunk. Most people saw their assets go down 20% 50% and maybe more. {most, but not all... one buddy is up about 35% over the past three years an outstanding performance, folks with large amounts in bonds saw the value of bonds rise substantially} BUT, over the long haul, the stock market is up more often than down and biggest up years generally beat the worse years by a wide margin. Why? The answer is complicated but has something to do with the great incentives in capitalism to build, solve problems, and make efficiency improvements. I advise people to use three long term average annual returns in their planning: 8% 10% and 12%. Eight percent represents a balanced portfolio with perhaps 30% bonds, 30% growth stocks, 30% blue chip and dividend paying stocks, and 10% cash. The 10% represents a portfolio that is 40% growth stocks, 40% blue chip, 20% bonds or cash. The higher 12% would map over to 70% growth stocks, 20% blue chip and 10% bond. Very rough sample portfolios. Your mix would be a function of things like your investment knowledge, risk tolerance, how long you plan to invest and how close you are to retirement.

8-10-12%

Rule of 72 - this is a back of the envelope method for estimating how your assets will grow. Divide 72 by the annual percentage rate to determine how many years before your tax sheltered assets double. This can be applied to any fixed amount and on a restaurant napkin you can estimate the asset growth.

72/10 = 7.2 years to double [8% = 9 years, 12% = 6 years]

Starting now, age 31. Twelve thousand dollars (two IRAs x 3000 x 2 years) invested at 10% grows to 24k at 38, 48k at age 45, 96k at age 52, 192k at age 59 and $384,000 around age 66.

At the lower 8% rate, you grow 12k to $190 at age 66. At the higher annual rate you would have $768,000 all from that initial $12,000 done now. What a country.

Of course, those figures are in the future and will have less purchasing power that todays dollars because of inflation.

Stay tuned!

[John G]

This is the more interesting question. Lets assume that you put the 12k in for 2002 and 2003 right now, then begin to contribute $6,000 (total for two adults) each year until you are age 66.

8% grows to 1.0 million

10% becomes 1.6 M

12% assets swell to 2.6 M

It is probably hard to commit to this plan right now, but it is very worthwhile. A couple of promotions and raises down the road it may get a little easier. Partial contributions are of course better than none.

Yes, those are inflated dollars above, but in a Roth they come out tax free. Think of the Roth IRA as Plan A for becoming a millionaire. You can be a house painter or a cook and still use Plan A to build wealth. Now if you only had started your Roth 7 years ago! Check your bank, broker and mutual fund has the similar examples of IRA math.

I teach IRA math to high school seniors every year as part of Junior Achievement. The most interesting response I ever got was "if this is so good, how come I never heard about it?" Probably a few adults would say the same thing. At least with these students they are learning about investing more than a decade ahead of most folks with college degrees. Most of these kids are just amazed about how a systematic plan of investing builds amazing wealth and they are just 18! No gimics, no MLM, no high risk gambling, nothing illegal and you don't need to win the lotto. Just backing the US economy for the long haul.

Thank you Senator Roth of Delaware. Your own state did not return you to Washington, but you left a great legacy.

I put a two dollar bill on the board and ask this question for my high school students. Mr and Mrs X have committed to consistently putting $6,000 in their Roth IRAs. Their wise accountant, Ms. Q tells them they can retire at age 64 with $3 million dollars by achieving a 10% annual return. At what age will Mr and Mrs X have achieved 25% of their retirement goal?

Just for fun... I will mail a two dollar bill to the first person who answers the question and can explain their logic! Email me using the address in my profile. Let me know if it is OK to post your name and answer.

I try to make learning about investing fun. I will be gone to New Mexico for a bridge tournament for a few days. Fun is important.

[John G]

For 401Kman.... a small correction

"Roth IRAs for you and your spouse grow retirement funds for you. 529 Education plans accumulate college funds for the twins.....Both accumulate funds on a tax-deferred basis and provided tax-deferred growth..."

Roth is more than tax deferred, if the current rules hold and you keep the funds to retirement they are tax free. Transaction withing a Roth are not taxes. Distributions are not taxed if you hold till retirement eligibility. Deferred implies later taxation.

[david rigby]

An earlier related thread:

http://benefitslink.com/boards/index.php?showtopic=17126

[John G]

Thanks Pax, good idea for another link. Credit problems, lack of savings and general money management is very appropriate for 30 somethings.

I try and have a little fun with my replies, I apologise to those who have read them before as I tend to repeat myself. Brevity! I'm working on it.

So far no one has emailed on the question - so the huge prize of a $2 bill is still up for grabs.

[imchipbrown]

Somewhere around age 51 and 52, depending on if the 6,000 is beginning of year or end of year.

Chip Brown

[MGB]

It depends on how you define "reached their goal." Is it when they have 750k (25% of the 3 million) and don't have to worry about attaining the 10% return anymore (in which case Chip Brown's answer is correct); or is it when the stoppage of new contributions will produce 750k in the future at age 64?

In the second case, they attain 25% of their goal after only 3 years of contributions, or about age 27 (I am assuming mr. and mrs. x started at about 24, which you didn't state). 3 years of 6,000 per year will grow to 750k over the following 37 years. (Again, you get slightly different answers depending on if they contribute throughout the year, at the beginning of the year, or end of year.)

(I don't need a $2 bill...I used to teach interest theory to actuaries at the university level.)

[david rigby]

" don't need a $2 bill...I used to teach interest theory to actuaries at the university level."

Hmmm. Does this mean your university compensation was so great that you don't need anymore money?

Or, perhaps those actuaries are so greatful they they send you money all the time?

[John G]

Gregg of Miami was the first to email the correct answer. Using the Rule of 72 at 10%, he subtracted 7 years to get 1/2 of $3 million goal, then another 7 years to get 1/2 of 1/2 (25% of the goal).... or 64-14 = 50

It is a back of the envelope methodology and this answer (which, in the spirit of the question, is close enough) came in early on Jan 22.

Why ask the question? Because middle aged workers often will complain that they are nowhere near prepared for retirement at age 50. If they are at 25% at that point and plan to retire at 64 they are on track. And they probably will be getting the kicker of their mortgage getting paid off during that 14 year period.

The $2 bill is on the way Gregg.

Accountants... the object was to get a reader to email not to blurt out the answer at this message board! Raise your hand next time!