Financial Frontlines®

I’m sitting in a restaurant for lunch and two people at the table next to me start talking about investing and their 401ks. True story.

I’m not good with ages but they were 30ish give or take. Their firm just stopped the company match on their 401ks. Here’s the short version of their discussion:

• Company stopped the matching contributions.
• Their account values are down and they can’t get ahead.
• They are tired of the up and down turns in the markets.
• The economy is in the dumper.
• They would rather put their money somewhere with consistent growth.
• Maybe they should pull their money out of the 401k and use CDs.

As much as I was moved to say something to them, I didn’t. I have no problem minding my own business…really! Besides, to properly address all their issues would have taken the whole lunch time and more.

What eventually struck me was that for their age, they have only known the flat market we’ve been in since March 2000. Check out a stock chart using the DOW Index from Jan 2000 to now. Notice how we have hovered above and below the 11,000 level. No wonder their opinion of investing was sour. The younger investors of today need some perspective.

The flat market over the last dozen years is normal. Flat markets happen; now, 1966-1982, 1946-1950, 1905-1917 and so forth. The flat markets happen after periods of strong growth and they tend to last a while as you see. They provide an opportunity for the economy to cool off, retool and resynchronize as we, the country and world, prepare for the next round of growth. Unfortunately to someone who’s only investment experience is during a flat market, the investment world is flat. Have no fear younger investors, the world is not flat.

Our human brains focus best in today’s world. What’s going on today forms our opinions and how behave with our money. At the end of every day, we are told the DOW is up or down. The evening news talking heads always spin the down days as though we all lost our shirts. On the good days, we’re rich! Then we take action based on information from this very limited perspective–action doomed to fail.

Investors must use a long term strategy. In the short term, the markets are up and down and random. Only speculators try to make money in the volatility of the short term markets. True investors see a bigger picture. The stock market is up 72% of the time over the long haul. Looking at it this way, realize that down markets are temporary and must be exploited before the inevitable climb upward starts again.

Some of you may have decided to use your post 9/11 GI Bill for your children’s education.  Some of you may have also set up a 529 Plan to help pay for their college education.   If you have both in place, you have the possibility to pay for your children’s college at a reduced price and potentially with tax advantaged funds.  BUT…the tax ramifications are not straight forward and you’ll want to think this one through before you “pull the trigger”.

First of all,  Veterans Administration (VA) benefits are always tax-free.  You will not pay taxes on the amount the VA pays for tuition and fees, the monthly Basic Allowance for Housing (BAH) or the book allowance.  Ever.  So that part is pretty straight forward.

But using your 529 Plan assets is a little more complicated.  Distributions from a 529 Plan are tax-free IF they are used for qualified educations expenses.  But, qualified education expenses must first be reduced by any tax-free education assistance received.  So, if you use 529 Fund assets for expenses already covered by the GI Bill you may owe taxes and a potential penalty.  Here are some specific examples:

GI Bill covers full tuition and fees (in state) and student has no other qualified expenses.

In this case, since the GI Bill covers full tuition, any withdrawal from a 529 Plan would be subject to tax and penalty.  The tax would be on the amount of the distribution that is classified as “earnings” and the penalty is an additional 10% tax on the earnings.

GI Bill covers a portion of the tuition and fees (out-of-state or private school) and student has no other qualified expenses

In this case, since there is a difference between the tuition paid and the amount covered by the GI Bill, then an amount equal to that difference can be withdrawn tax-free.  Any amount over the excess would be subject to tax and penalty.

GI Bill covers all or a portion of tuition and fees and student has room and board expenses

This situation is a little less clear.  IRS Pub 570 states that you must reduce the total qualified education expenses by tax-free educational assistance received.  This amount is called the adjusted qualified education expenses.  To calculate it the amount of GI Bill received to pay for tuition and fees will be deducted from tuition and fees paid only.  Also, in this case, since room and board are included as qualified expenses then I believe the BAH received should be used to reduce the qualified education expenses which in this case include room and board.  But…the IRS Pub isn’t clear.  Like in situation one and two above, if the amount withdrawn exceeds the adjusted qualified expenses, the excess is subject to tax and penalty.  This is one where you will want to talk to your personal tax advisor and get a determination based upon your specific situation.

So based on these restrictions what happens when you can’t use all the money in the 529 Plan for qualified education expenses.  There are a couple of “outs”  First, you can roll the funds over to another child, grandchild, spouse and certain other qualified people.  Also, again in my interpretation, since you could not use all the funds due to VA benefits, you can withdraw the funds without penalty.  You’ll still owe taxes on the earnings but you won’t pay the 10% penalty.

So there you have it.  529 Plans and the GI Bill do work together, but the tax consequences are a little complicated.

I’ve written about annuities and posted USAA content about annuities on this site several times. Annuities are confusing financial products because they come in so many varieties and every insurance company puts their own features on their products. In this post, I’m limiting the topic to “income annuities” only.

An “income annuity” is the simplest of all annuities. You make a one-time, lump-sum deposit into the annuity and it provides you income. You can structure the income to meet your needs. A common income option is a monthly lifetime payment for you and your survivor.

There is a very good USAA video on this site that discusses income annuities in general but this post is specifically meant for you military retirees. It’s worth 6 minutes to watch the USAA video just to provide a foundation of knowledge on income annuities.

Income annuities have received a good deal of press lately because of the turbulent stock and bond markets and the lack of guaranteed interest-bearing accounts that pay decent rates of interest. The sales pitch is that an income annuity will guarantee you a stable income for life while your other stock and bond investments are not dependable.

Generally I believe a military retiree has no need for an income annuity. I would have to see a unique situation in a military retiree’s financial situation to recommend an income annuity.

A military retiree already has an income annuity; your military retirement check. In fact, you have two annuities when you add Social Security. Both of these income annuities offer cost-of-living increases to boot.

Why would you consider another source of steady income with an income annuity? Well…

• Maybe you want another source of steady, guaranteed income to help meet your fixed liability needs—bills, debts, mortgage, etc.
• If you didn’t enroll in the Survivor Benefit Program (SBP) to continue your military retirement pay, you may want another plan to compensate for the lack of SBP. You could purchase an income annuity now with a continuing survivor benefit. Or, your survivor could use life insurance proceeds to purchase an income annuity. Or, your survivor could use other investment assets to purchase an income annuity. Point being, survivors often prefer steady, guaranteed income instead of managing investments and dealing with the unknown nature of the economy and the markets.
• If you took Social Security early, you may want to compensate for the decrease in monthly or survivor’s Social Security income.
• You may get a better payout with an income annuity than with interest rates on CDs, bonds and money market accounts.

Shop carefully for an income annuity. The amount of income differs so shop around. Some offer cost of living adjustments or refunds of principal in case of early deaths but your income amount will suffer.

It is easier to avoid a big loss than it is to recover from one, so successful investing is as much about steering clear of bad investments as it is about finding good ones.  Here are some common sense rules to avoid trouble.

 Be skeptical.  Ask yourself, “Why am I being offered such a great opportunity.”  Would a real investment genius advertise on late-night TV or share his money-making secrets with you for the price of a book? 

 Do not be rushed into a commitment.  There is a reason why auto sales events only last for a few days.  Yet they always seem to be followed by another once-in-a-lifetime promotion.  Investment opportunities are like streetcars.  If you miss one another will come by in a few minutes.

 Get a reality check.  Do not take investment opportunities at face value.  Good salesmen only pitch the benefits not the fees or the risks.  When making a significant investment, seek a second opinion from an objective expert.

 Do not invest in anything you don’t understand.  Investing is more common sense than rocket science.  If the representative can’t explain it to your satisfaction then you should pass it up.  Chances are he may not completely understand it either.

 Don’t get greedy or envious.  Schemes with big pay-offs appeal more to our human nature than to our intellect.  The lottery is attractive because it has a huge prize even though the chances of winning are basically the same whether you buy a ticket or not.  And if your neighbor brags about getting rich from some dubious investment strategy, do not get snookered yourself.  That’s exactly how Bernie Madoff lured in so many suckers who should have known better.

 Diversify.  The old adage “don’t put all of your eggs in one basket” is classic advice that requires no further explanation.

Tricare to Offer Credit Monitoring in Wake of Data Theft

While Tricare Management Activity maintains that there is no evidence that sensitive personal patient information stolen in September has been accessed by a third party, the insurer now says it will take “proactive measures” to ensure that patients are protected.

On Sept. 12, an employee of Tricare contactor Science Applications International Corp. reported the theft of computer tapes containing personal health information of 4.9 million Texas patients. While the tapes contain no financial data, they do include patients’ names, Social Security numbers, addresses, phone numbers and personal health data.
TMA, which has insisted that information on the tapes would be difficult to access, has been criticized for not providing free credit monitoring in the wake of the theft.

But on Nov. 4, TMA announced that it has directed SAIC to provide one year of credit monitoring and restoration services to “patients who express concern about their credit.”

“We take this incident very seriously,” said Brig. Gen, W. Bryan Gamble, TMA deputy director. “The risk to our patients is low, but the Department of Defense is taking steps to keep affected patients informed and protected.” Gamble said the measures “exceed the industry standard to protect against the risk of identity theft.”

TMA said concerned individuals can contact the SAIC Incident Response Call Center on weekdays from 9 a.m. to 6 p.m. ET at (855) 366-0140 (toll free) in the United States, and (952) 556-8312 (collect) internationally.