Finances for Smarties: Or, the half million dollar vacation

1. Finances for Smarties: Or, the half million dollar vacation Santucci Santucci 2/10

2. How much will I need for retirement? • More than you think • Calculate living to age 100 • Inflation is a killer • Rule of 72 • Divide the inflation rate (3%?) into 72 and that’s the number of years your money will be cut in half • 72/3%= 23 years • So, 23 years after the day you retire you’ll need TWICE as much money to keep from eating ALPO as you needed before • Consumer price index more like 4.4% = 16 years! Santucci 2/10

3. How much will I spend in retirement? • More than you think • The idea is you will be sitting at home knitting and watching the bird feeders-NOT • Likely you will be healthy, active, and EXPENSIVE • Estimate 60-100% of your current income! (meaning the income you will be earning when you are an attending) Santucci 2/10

4. How much will I spend in retirement II? • Keep the inflation thing in mind • Realize that even with decreased expenses (house paid off, kids out of the house) certain expenses will go up and up • Property taxes • Health care costs • How much does your free Medicare cost you? • Try 20% copay and most/all of your drug costs • Gasoline? Heating? AC? Global warming? Oil wars? • Rule of Thumb: 80% of your “current” income • Make $400,000-40% taxes = $240,000/year • $240,000 X .80 = $192,000 • X 35 years = $6.72 million Santucci 2/10

5. But I really want to go on vacation • Consider a $2,000 IRA contribution • $40 a week only • At 30 years compound interest, at “historic stock market returns” you will have $500,000. • At 50 years, you will have $3,000,000 (but it will be worth $750,000 due to inflation by then) • Don’t blow your IRA on vacation Santucci 2/10

6. Simple Rule: Take the easy savings route: Traditional IRA • $5,000 a person TAX FREE • Do not overcontribute: they tax you extra 6% penalty • Traditional IRA goes in tax free but you have to pay taxes on the money later • Anyone can contribute (no salary limit), if you don’t have some other sort of work 401k or OTHER way to save • For now, probably go traditional • ROTH IRA you have to pay taxes now, but accrues tax free • Later, may want to convert to ROTH (your $3 million will come out tax free) • Can take out at 59.5 years of age but MANDATORY distributions begin at 70.5 years • 10% fine if you take out before 59.5 years Santucci 2/10

7. More on Roth • No mandatory distribution age • Can only contribute up to salary of $95,000 ($150,000 filing jointly) • You can take out the principal anytime you want • Every once in a while, like this year and next, you can convert to a ROTH without any income limit Santucci 2/10

8. What is my tax rate • If you make $50,000 a year, its 25% • So your traditional IRA starts off 25% richer Santucci 2/10

9. Ok smart guy WHERE should I put my money • I have no idea • 10 years ago: buy good stock and keep it • Now: buy stock and move it around. 10.5% historic gains • Can buy inexpensive “index” funds that just mindlessly buy certain stock or bond indexes such as the S&P 500 fund • Need age and RISK specific “asset allocation” • Domestic stock • Large/small cap (means “capitalization” and it means big or small companies) • International stock • Bonds • Usually the young keep most in stocks. 120-your age is conservative. I will have 5 market cycles before retirement: I keep most in stocks Santucci 2/10

10. Debt kills • The average American has $8,000 in credit card debt • At 12%, it will cost you bout $10,000 over 9 years ($400 a month)\ • Transfer to a 1 year 0% card will save $1,000 (final cost $9,000) Santucci 2/10

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12. Cost of bad credit I • Home Mortgage Median Sales Price of Existing Single-Family Homes in the Midwest is $142,700 Santucci 2/10

13. Cost of bad credit II Auto Financing Average auto debt per borrower nationally is $12,738. Sources: TransUnion. An average rate for new and used auto loans with good credit is 6.41%. Sources: HSH Associates. Santucci 2/10

14. How is your credit score calculated • 35% - Your Payment History • Number of accounts paid as agreed • Negative public records or collections • Delinquent accounts: • total number of past due items • how long you've been past due • how long it's been since you had a past due payment • 30% - Amounts You Owe • How much you owe on accounts and the types of accounts with balances • How much of your revolving credit lines you've used--looking for indications you are over-extended • Amounts you owe on installment loan accounts vs. their original balances--to make sure you are you paying them down consistently • Number of zero balance accounts Santucci 2/10

15. How is your credit score calculated II • 15% - Length of Your Credit History • Total length of time tracked by your credit report • Length of time since accounts were opened • Time that's passed since the last activity • The longer your (good) history, the better your scores • 10% - Types of Credit Used • Total number of accounts and types of accounts (installment, revolving, mortgage, etc.) • A mixture of account types usually generates better scores than reports with only numerous revolving accounts (credit cards) • 10% - New Credit • Number of accounts you've recently opened and the proportion of new accounts to total accounts • Number of recent credit inquiries • The time that's passed since recent inquiries or newly-opened accounts • If you've re-established a positive credit history after encountering payment problemsIn general, checking to make sure you aren't attempting to open numerous new accounts Santucci 2/10

16. Credit Score • Credit scores (usually) range from 340 to 850. The higher your score, the less risk a lender believes you will be. As your score climbs, the interest rate you are offered will probably decline. • Borrowers with a credit score over 700 are typically offered more financing options and better interest rates, • Credit scores among the US population in 2003: Up to 499: 1%500 - 549: 5%550 - 599: 7%600 - 649: 11%650 - 699: 16%700 - 749: 20%750 - 799: 29%Over 800: 11% Santucci 2/10

17. How to improve your credit score • Improve Your Payment History • Always pay your bills on time. Late payments play a major role in driving down your score. • If you have past-due bills now, get current and stay that way. • Keep Debt to a Minimum: no more than 30% of available credit • Keep your credit card balances low. High debt-to-credit-limit ratios drive your scores down. • Pay off debt, don't move it around. Owing the same amounts, but having fewer open accounts, can lower your score if you max out the accounts involved. • Don't close unused accounts, because zero balance might help your score. • Don't open new accounts that you don't need as a quickie approach to altering your debt-to-credit-limit ratios. That can lower your score. Santucci 2/10

18. How to improve your credit score • Manage New Credit Wisely • Several credit inquiries during a short period means you are attempting to open multiple new accounts, and that lowers your credit scores. • Credit scoring software usually recognizes when you are shopping for a single loan within a short period of time, such as a home loan. If multiple inquiries are necessary, have them pulled as closely together as possible. • Checking your own credit report does not affect your scores. • Do try to open a few new accounts if you've had credit problems in the past. Pay them on time and don't max out your credit limits. Santucci 2/10

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20. How much does college cost? • More than you think • Rises 6% a year Santucci 2/10

21. How much to save for college? • $4551 per year, per child, starting at birth • $379/month Santucci 2/10

22. College savings • Coverdale IRA or “education IRA” • $2,000 per year. Accrues tax free • 529 SAVINGS plan • Accrues tax free • “State run” plans still allow you to go to any college • Each state is different, but Michigan makes $10,000/year free of state taxes (4%) • If you don’t use it for college you a)pay taxes b)suffer 10% penalty • You can switch beneficiary to the other good kid Santucci 2/10

23. College savings II • 529 PREPAID plan • Pay all or part of the costs of in-state public education • Good if you are SURE you are going to Iowa (or whatever) Santucci 2/10

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25. Disability insurance • Pays no more than 60% of your salary • Might get supplemental up to 80% • Seldom/never provides “own occupation” so you may have to assemble boxes if you are disabled to earn money (40% premium cost) • Variable “kick in”, usually 3 months • Stops at age 65 • No good if you hurt yourself or lie on your application • Price highly variable Santucci 2/10

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27. Term life insurance • Cheapest • Look for 20 year fixed cost (costs the same each year) • After 20 years, you’ll have enough savings to bury you, your kids and house MAY be mostly paid for, and your saved but unused retirement may help to pay costs • Different than “whole life” which is good “forever” and requires yearly payments. Builds up a cash value which you don’t lose. 30% pure profit to company. Advanced info: save for later. Santucci 2/10

28. How much life insurance do I need? • Depends • To get $5,000 a month for 20 years is $1,000,000 of insurance Santucci 2/10

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30. What is umbrella insurance • Remember you are a rich doctor • A type of liability insurance policy that covers EXTRA on car accidents, and home accidents • Provides an “umbrella” of often $1 million + against your neighbor slipping on your driveway • Not expensive Santucci 2/10

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32. Emergency Fund • Variable amount • Cash (can put into Certificate of Deposit) • 3-4 months of living expenses • 6 months if you have kids Santucci 2/10

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34. Children as employees • Can gift each kid $11,000 per (you and your spouse can each gift) tax free • If they are believably old enough, you can employ them for as much as you can justify to the IRS ($6,000 a year for teens?) • UGMA (uniform gift to minors act) • They can use this to double-pay into college funds, but at their low 15% tax rate not your high tax rate Santucci 2/10

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36. Random rules to follow • If you can lower your interest rate by 1% with refinance of your home, do it. • Spend no more than 250% of your income on a home. Downpayment 20%. (Max 28% of gross income= housing payment) • DO NOT INFLATE YOUR SPENDING AS YOUR SALARY INFLATES • Maximize your 401k (often matched) when offered • Save at least 10% of salary when starting out, much more later • Buy used cars: new car = 30% loss of value in the first year Santucci 2/10

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38. Stuff you need to know later • Estate taxes • You’ll have to optimize your estate LATER • Up to 46% • Once in a lifetime $1 million dollar exclusion (not totally accurate but will do) Santucci 2/10

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40. Stuff you need now • An insurance agent • A financial planner • If only for your education at this time • They’ll calculate how much insurance you need, how much you need to save for college and retirement Santucci 2/10

41. rules • Eliminate debt • Create an emergency fund • Mind your credit score • Save $5,000 a year in traditional IRA now • Buy enough life insurance to bury yourself, OR keep you family secure “forever” • Buy disability insurance • Consider “umbrella insurance” • Start saving for college • Forget social security • Forget using your home equity as retirement money • Later when you are rich, optimize your estate tax burden • Live below your means Santucci 2/10