Saving Grace

If you want to live in style after hanging up your W-2, local pros say you better start planning early and smart. The same thing goes for packing junior off to college.

They are two very different stages of life—one aiming to build a boundless future, the other seeking to enrich a time frame that’s (regrettably) briefer. College is a springboard to career and financial potential. Retirement is that often nebulous period of life between work and cashing in—in earnest. Each takes a generous supply of vision and planning and … money.

Cash, indeed, is the focus here—having it when you need it. Cash fuels both a comfortable retirement and the quest for a college diploma. To (almost) coin a phrase, cash is good.

To adequately fund college and retirement, however, cash cannot be stowed beneath the floorboards. A simple savings account doesn’t cut it, either. “People don’t realize the amount of money they have to have in retirement,” says Gil Mateer, head of Bryn Mawr Trust’s Retirement Services Group. “Today, you can have a retirement period of, say, 30 years.”

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So cash must be invested. But in what? That’s the rub.

Bolstered by sophisticated new investments and greater public awareness, financial strategies for retirement and college have been multiplying. For future retirees, though, they all point to the same destination—one that finds you solvent and in a position to enjoy a realistic lifestyle.

The new kid on the block is the fixed-indexed (formerly equity-indexed) annuity, a hybrid of its fixed-rate cousin (guaranteed interest rate for a set term) and the variable annuity, whose value fluctuates per that of its underlying mutual fund(s). By tying its value to an index (most commonly the S&P 500), the fixed-indexed annuity holds the promise of growth but differs from the pure variable annuity in guaranteeing at least your principal. The value resets annually on the anniversary date, either at the guaranteed “floor” level or a higher level based on a percentage (say, 60 percent) of the index’s gain for the year. The account-holder, then, participates year by year in the upside, but is insulated against a dip. Over time, the limited growth imposed by the “cap” becomes the cost of purchasing downside protection.

Put $100,000 into a fixed-indexed annuity linked to the S&P 500 and in a year, when the index climbs 12 percent, your account with a 60 percent “participation rate” will reflect a value of $107,200. But if the S&P plummets that year, your account will remain at $100,000, or perhaps climb a bit higher, depending on the contract. That’s guaranteed by whoever writes your contract—typically a large insurance company with international reach and a legally mandated reserve matching every investor dollar. Few things in life are guaranteed, but this one’s a fairly safe bet.

The very prospect of a guarantee has particular resonance in this millennium post-bubble period, for when it comes to getting your money, timing may be everything. When the stock market soared to the stratosphere in the late 1990s, people nearing retirement began making more ambitious plans or accelerating their timetables. After peaking in March 2000, the market nosedived to its trough of October 2002, slashing retirement accounts and leaving many of these folks in a financial lurch. Sure, they’d recover over time. But even though we’re living longer, time can still be short. That’s why this combination of protecting your assets while staying in the growth game is so appealing.

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Other new-generation “variable” annuities offer guaranteed annual percentage increases and are gaining favor as part of a retirement strategy. They place your money in mutual funds you select within a wide range, and guarantee an annual return (5-7 percent currently) regardless of fund performance. If the funds do better than the guaranteed bump, you get the “actual” increase reduced by two to three points—once again, the price of protection (“like paying a premium for car or home insurance,” says one analyst). There are other costs associated with such annuities (and annuities in general), which, of course, an investor should understand upfront.

As with IRA and 401(k) accounts, annuities enable your money to grow on a tax-deferred basis. The older-style annuities—which are still available—can immediately generate a monthly payout for the balance of the individual’s life after he plunks down a lump sum. The newer models similarly provide, if desired, a guaranteed income stream, but only after a minimum period (often 10 years)—so-called “living benefits,” a kind of personal pension that will last as long as you do. The amount of the payout is based on age and account value, but even if you turn into Methuselah, the money keeps coming. With both types of annuities, “the insurance company is still on the hook,” says Christopher Campbell, president of Bryn Mawr Trust’s Brokerage Services Group.

The new version affords the potential for higher growth from equity investments (in this case, mutual funds) yet still locks in annual increases even in down years. Providers are being quite generous as they seek to capitalize on the huge baby-boomer market plowing money into retirement accounts. Incentives include double-digit bonuses for establishing an account. Clearly, they’re betting on decent long-term market returns and the likelihood that most boomers will prove mortal. Look for more account bells and whistles in the future.

“Variable annuities have been given a makeover,” says Stuart Leibowitz, a partner at BIRE Financial Services in Plymouth Meeting. “Every year they come up with new things.”

Change for the better has also been evident in IRAs, which, like annuities, require that you reach the midpoint of your 59th year in order to withdraw money without penalty. Traditional IRAs, which enable you to take a tax deduction on contributions, require that you withdraw a specified minimum at the halfway point of your 70th year—and that money then becomes taxable.

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The newer-model Roth IRA, which has neither tax deduction nor required withdrawals, allows your money to grow tax-free. The maximum annual contribution permitted for traditional accounts has been climbing (for 2007 tax returns, it’s $4,000 if you’re below age 50, $5,000 if you’re not; the figures each increase by $1,000 in 2008). Allowable maximum additions to Roth accounts are keyed to income levels.

Aside from being an excellent way to give at the office, a 401(k) enables you to contribute funds on a pre-tax basis, and it offers the convenience of payroll deductions and the added benefit of an employer match in many cases.

TARDINESS IS the enemy when it comes to stashing gold for one’s golden years. In saving for retirement, most people start too late and then fail to take the proper—or enough—steps to meet eventual financial demands. “Far too many don’t begin to think seriously about their retirement planning until their mid-40s to early 50s,” says Laird Duncan of H&R Block Financial Advisors in Radnor.

Thanks to medical science, checkout time has been extended for most of us. The same provision needs to be made for our money—but that message is slow to sink in. “There’s a resistance to the factual data that we’re living longer,” says Tom Smedile, owner of Swarthmore Financial Advisors Ltd. in Media. “When you push out mortality, you need a [larger] nest egg.”

Stuart Race, of Simon Capital Management in Bala Cynwyd, has an interesting perspective on the need to start early in saving for retirement. You can borrow money to buy a house or a car, or finance a college education, he says, but generally not to underwrite your retirement. “There’s no student-loan servicing center you can call when you turn 65,” he says.

But there are financial vehicles that can deliver your student to the university’s doorstep without resorting to loans or scrambling for other forms of financial aid. With the overall cost of attending most private colleges for four years now well above $100,000, it makes good sense to begin earmarking funds early. How early? How about conception.

As with investments geared for retirement, college savings plans are a mix of old and new. Pre-paid tuition plans convert small investments today into college courses tomorrow—$50, say, may buy you a three-credit course 10 years from now. While many states have closed such programs, Pennsylvania’s is still in effect.

Other oldies include Uniform Gifts to Minors Accounts and Coverdell education savings accounts. For UGMAs, a “custodian” (parent, grandparent) establishes the account and bears the tax responsibility. When the child comes of age, he/she gets the money with no restrictions. Coverdells, dubbed the “Education IRA,” allow contributions of up to $2,000 per year per student and offer tax-free withdrawals when the funds are used to pay for college or elementary/secondary private school. Like UGMAs, Coverdells eventually become the property of the young adult.

The 529 plan, however, remains with the original owner, who controls how much comes out and when. If the designated student spurns college, the beneficiary can be changed (gotcha!) or the funds used for non-educational purposes, though the latter has tax consequences.

Otherwise, yearly contributions within the gift-tax exclusion of $12,000 are not taxed, and withdrawals that pay for a college education are also tax-free. Under current law, contributors may combine five years in one on a onetime basis without tax ramifications ($60,000 per person, $120,000 per couple), a provision that can jump-start savings for college.

Pennsylvania residents may opt for an out-of-state 529 plan, though withdrawals will be subject to state tax (not federal). Despite that, some financial advisors are recommending non-PA plans based on their track records. As with virtually all of the investments discussed here, 529 dollars typically go into mutual funds.

In the end, allocating money for college, retirement and current needs and wants may find perception colliding with reality. “We educate people about risk,” says Race. “If you don’t mind investing in Tunisian cattle futures, I might get you a 20-, 30-percent return.”

If the cattle stop lowing, Race would point out, the investment goes lower.

“People may be torn between living in the grandest of style and being prepared for retirement,” says Bryn Mawr Trust’s Mateer. “If there’s a mismatch [between assets and aspirations], how do we solve it?”

It starts with awareness and early action—so let the word go forth to a new generation of college-bound and retirees. For the latter group, however, a word of caution: Don’t to be too cautious. There’s a flipside to squirreling away everything at the expense of current activity and reward.

“We see conservative people planning their retirement and not enjoying their lives,” says Smedile. “All of our tomorrows are not guaranteed.”


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