by Gary Laturno
You have a positive outlook.
You’re outgoing.
You have skinny friends.
You don’t have a housekeeper.
You often walk instead of drive.
You do aerobic activity five hours a week.
You don’t like burgers.
You skip cola, including diet.
You love tea.
You limit calories to 1400 to 2000 a day.
You don’t snore.
You were not overweight as a teen.
You have a flat belly.
I. ANNUITIES
An Immediate Annuity May Make Sense
An annuity is an insurance product. They allow you to avoid two retirement risks: That a stock market crash will decimate your savings.
That you will outlive your money.
For example, a man age 65 with a $200K contribution can get $800 per month for life; a woman age 65 with $200K contribution can get $740 per month for life.
The amount you receive is based on interest rates in effect at the time you buy the annuity. Today’s rates are low; as a result, you may want to wait to consider an annuity until rates go up.
Upon your death, the balance of your initial contribution goes to the insurance company—not your estate.
Commissions on annuities can be high. Find out from your company what the commission is before you buy—shop and compare.
More savers may get access to annuities. New proposed government rules will provide that employers can give an annuity option in 401K retirement plans.
Inflation Adjusted Annuities Are Available
You can buy an inflation-adjusted annuity through Vanguard, the mutual fund company.
For $400,000 a 65-year-old man could receive a monthly initial payment of $1,552 to $1,677, depending on the insurer.
The payment would be adjusted for inflation each year. Payments would stop at death; the insurance company keeps any balance.
How Annuities Are Taxed?
Brad Dewan, San Diego tax attorney, answered this question as follows:
Each annuity payment is split between a “return of principal” and “income.” The concept: the money is invested and earns “returns” over time, and each payment has a component of these “earnings.”
The annuity company projects that the annuity payments over time will be split between “principal” (not taxable) and “earnings” (taxable).
The “return of principal” is split over the remaining life expectancy of the buyer.
Social Security is an Annuity Wait to Buy More Coverage
An annuity pays a guaranteed income for life.
With social security, the longer you wait, the greater your monthly benefits will be when you get payments. If you wait from 62 until 66, payments go up by 33 percent.
If you wait until 70, benefits go up by at least 75 percent.
So, waiting is the easiest way to buy more annuity coverage; few take advantage of this:
Currently, 46 percent begin claiming at 62, the first year eligible.
Less than 5 percent delay past age 66.
Recommended reading: “Bolstering Your Benefits” by Kelly Green, Wall Street Journal, March 15, 2013
J. REVERSE MORTGAGES – The Loan of Last Resort
“Fine print on reverse mortgages snares many”. Kenneth Harney, columnist for the Washington Post Writers Group
You can now apply for a reverse mortgage at the age of 62. Nearly 50 percent now apply under the age of 70. This early age raises the danger that the owners could out-live the money they receive from the reverse mortgage.
Beware of scammer con artist salespeople who take advantage of the elderly. Beware of huge costs associated with reverse mortgages.
If the borrower does not pay property taxes and insurance on the home, s/he may lose the home to foreclosure.
If the signer dies, the non-signing spouses may lose the home to foreclosure. Thus, if a couple decide to obtain a reverse mortgage, both should sign the loan documents.
An alternative to a reverse mortgage might be to downsize, sell the home, take the equity, and buy another home free and clear.
Reverse Mortgage Details
You will find substantial information concerning reverse mortgages on line. An excellent source is AARP.org. We also recommend www.hud.gov.
Reverse mortgages are increasing in popularity with seniors who have equity in their homes and want to supplement their income. The only reverse mortgage insured by the U.S. Federal Government is called a Home Equity Conversion Mortgage or HECM, and is only available through an FHA approved lender. To get answers to frequently asked questions about HUD’s reverse mortgages go to hud. gov.
Recommended reading: “Reverse-Mortgage Redo” by Anne Tergesen in The Wall Street Journal, February 10, 2013; “Reverse Mortgages: Still Worth the Risk”? by Carole Fleck, aarp.org/bulletin, April 2013. Kenneth Harney, quoted above, has written a number of articles on reverse mortgages. All are available on line.
K. VA LOANS
Contributed by Ken Bates, Military Home Loans, San Diego Thanks Ken!
The VA guidelines say the following regarding Debt-To-Income: “A ratio greater than 41 percent requires close scrutiny unless: residual income exceeds the guideline by at least 20%.” Residual income is a budget methodology, subtracting known expenses from income to see what remains for life (the required residual income). While it accounts for region and family size, it applies the same required residual income regardless of the income level of the buyer. In contrast, a Debt-To-Income ratio assumes with a higher income a borrower will need more money for life items. For high income earners, it’s possible to exceed the residual income required by 20% with a DTI that’s in excess of 60%. This loan would meet VA guidelines.
Because of this and to maintain consistency and risk mitigation, most lenders will apply their own maximum Debt-To-Income ratios to VA loans. Many lenders will go up to 50% Debt-To-Income on a “solid” file, and over 50% on a case by case basis when there are compensating factors. But each lender is allowed to make their own determination of where they want to stop as long as they’re consistent with all their borrowers. This is why a buyer can be approved by three different lenders for the exact same VA loan, with the exact same income and debts numbers, and be told three different pre-approval amounts.
Considering nearly 88% of buyers using VA do so with a zero down payment, it would be expected that the default rate would be noticeable higher than FHA where at least 3.5% down payment is needed (both are full documentation loans, back by the government, and use similar underwriting criteria). However, the opposite is true, with VA having a significantly lower default rate, thus defying the notion that more ‘skin in the game’ makes for a lower risk loan. Without any tangible reason for this, the conclusion drawn by most observers is borrowers using VA are more committed to seeing their obligations through to the end. In essence, it’s a character and integrity issue military members live day in and day out; manifesting itself in the lower default rate.
Check out pages 62-66 of this for where my 88% number comes from and other info you might find helpful (especially the 4th link for default rate discussion):
http://www.vba.va.gov/REPORTS/abr/2011_abr.pdf
http://www.va.gov/vetdata/docs/Quickfacts/Stats_at_a_glance_FINAL.pdf
http://www.va.gov/opa/pressrel/pressrelease.cfm?id=2400
http://www.va.gov/opa/pressrel/pressrelease.cfm?id=2255
L. PRICE-TO-RENT RATIOS
Wikipedia.com
Definition of Price-to-Rent Ratio
A mathematical calculation utilized in the Trulia.com rent versus buy index that compares the totals costs of homeownership with the total cost of renting a similar property. The total costs of homeownership considered by the ratio include:
Mortgage principal and interest
Property taxes
Insurance
Closing costs
HOA dues where appropriate
Mortgage insurance where appropriate
Investopedia.com
The price-to-rent ratio provides a comparison between owning and renting properties in certain cities. The ratio uses the average list price with average yearly rent on two-bedroom apartments, condos and townhomes that are listed on www.trulia.com, a real estate search website. The price-to-rent ratio is calculated by dividing the average list price by the average yearly rent price, as follows: Price-to-rent ratio = Average list price / (Average Rent * 12) Trulia.com establishes thresholds for the ratios as follows:
Price-to-rent ratio of 1 to 15 = much better to buy than rent
Price-to-rent ratio of 16 to 20 = typically better to rent than buy
Price-to-rent ratio of 21 or more = much better to rent than buy
See http://www.zillowblog.com/research/2012/11/27/in-most-of-u-sbuying-still-beats-renting-after-only-three-years/
M. INDEX FUNDS: DEFINITION & COMMENTS
Investopdia.com explains index fund
An index fund is a type of mutual fund with a portfolio constructed to match or track the components of a market index, such as the Standard & Poor’s 500 Index (S&P 500). An index mutual fund is said to provide broad market exposure, low operating expenses and low portfolio turnover.
Investopida.com explains indexing
“Indexing” is a passive form of fund management that has been successful in outperforming most actively managed mutual funds. While the most popular index funds track the S&P 500, a number of other indexes, including the Russell 2000 (small companies), the DJ Wilshire 5000 (total stock market), the MSCI EAFE (foreign stocks in Europe, Australasia, Far East) and the Lehman Aggregate Bond Index (total bond market) are widely used for index funds.
Investing in an index fund is a form of passive investing. The primary advantage to such a strategy is the lower management expense ratio on an index fund. Also, a majority of actively managed mutual funds fail to beat broad indexes, such as the S&P 500.
Comments about Index Funds
“The Index Fund Wins Again”, Mark Hulbert, New York Times, February 21, 2013
“THERE’S yet more evidence that it makes sense to invest in simple, plain-vanilla index funds whose low fees often lead to better net returns than hedge funds and actively managed mutual with more impressive performance numbers.
“Basic stock market index funds generally aspire to nothing more than matching the returns of a market benchmark. So in a miserable year for stocks, index funds may not look very appealing. But it turns out that, after fees and taxes, it is the extremely rare actively managed fund or hedge fund that does better than a simple index fund”.
Quoting Mark Kritzman, CEO, Windham Capital Management of Boston: “It is very hard, if not impossible to justify active management for most individual, taxable investors, if their goal is to grow wealth”. Those who still insist on an actively managed fund are almost certainly “deluding themselves”.
N. INDEX FUNDS VS. EXCHANGE TRADED FUNDS (ETFS)
“Given the comparison of costs, the average passive retail investor will decide to go with index funds”. Leonard Kostovetsky, PhD in Economics, Princeton University
Wikipedia.com
An exchange-traded fund (ETF) is an investment fund traded on stock exchanges, much like stocks. An ETF holds assets such as stocks, commodities, or bonds, and trades close to its net asset value over the course of the trading day. Most ETFs track an index, such as a stock index or bond index. ETFs may be attractive as investments because of their low costs, tax efficiency, and stock-like features.
Investopdia.com
Given the increased popularity of exchange-traded funds (ETFs), you would think that index investors have fallen in love with this investment vehicle. Even though ETFs have only been around since 1993 (whereas the first index mutual fund was introduced in 1975), by the end of 2004 their total net assets amounted to almost half those of index funds.
Typically, the choice between ETFs and index funds will come down to the most important issues: management fees, shareholder transaction costs, taxation and other qualitative differences.
According to Leonard Kostovetsky*, a comparison of the costs favors index funds as the choice for most passive retail investors. See “Index Mutual Funds and Exchange Traded Funds”, published in the Journal of Portfolio Management, 2003. *PhD in Economics, Princeton University, Assistant Professor of Economics, Simon Graduate School of Business, University of Rochester
Leonard Kostovetsky: “If you were looking at a holding period of one year, you would be required to hold over $60,000 of an ETF for the management fee and taxation savings to offset the transaction costs. With a longer-term time horizon of 10 years, the break-even point would be lowered to $13,000. However, both these limits are usually out of range for the average retail investor.
“As with many financial decisions, determining which investment vehicle to commit to comes down to “dollars and cents.” Given the comparison of costs, the average passive retail investor will decide to go with index funds. For these investors, keeping it simple can be the best policy. Passive institutional investors and active traders, on the other hand, will likely be swayed by qualitative factors in making their decision. Be sure you know where you stand before you commit”.
O. INDEX FUNDS VS. HEDGE FUNDS
“If history is any guide, you will be better off investing in low-cost index funds”. Mark Hulbert, Wall Street Journal, May 31, 2013
“Hedge Funds - definition: The rich stealing from the rich”. Andrew Hallam, author, “Millionaire Teacher”
“For the most part, hedge funds (unlike mutual funds) are unregulated because they cater to sophisticated investors. In the U.S., laws require that the majority of investors in the fund be accredited. That is, they must earn a minimum amount of money annually and have a net worth of more than $1 million, along with a significant amount of investment knowledge. You can think of hedge funds as mutual funds for the super- rich. They are similar to mutual funds in that investments are pooled and professionally managed, but differ in that the fund has far more flexibility in its investment strategies”. Investopedia.com
Accredited investor: In the U. S., an individual - to be considered an accredited investor - must have a net worth of at least one million dollars - not including the value of the primary residence - or have income of at least $200,000 each year for the last two years and expectations to make the same amount in the current year. Wikipedia.com
Recommended reading: “The Verdict Is In: Hedge Funds aren’t Worth the Money”, Mark Hulbert, Wall Street Journal, May 31, 2013. In the article Hulbert makes a number of points, including: Hedge funds charge high fees – typically 2% of assets and 20% of profits.
Hedge funds supposedly pursue complicated strategies that do well whether markets are going up or down.
The average hedge fund has done no better than the stock market since the October 2007 bull-market high.
According to David Hsieh, Duke University, the proportion of hedge funds making enough to justify their high fees is small; it is nearly impossible to identify in advance the select few hedge fund managers who add value.
The investment lesson that emerges: Invest in index funds. Among the lowest cost ways to invest in the stock and bond markets are the Vanguard Total Stock Market Index Fund, which charges an expense ratio of 0.17% or $17.00 per $10,000 invested, and the Vanguard Total Bond Market Index Fund, which charges 0.2% or $20.00 per $10,000 invested.
ACKNOWLEDGMENTS
While we would like to take credit for the information and ideas in this book, we must acknowledge sources of information and those who came before us. We are in debt to many – parents, family, bar associations, libraries, teachers, universities, professors, advisers, clients, authors, journalists, investors, economists, The Wall Street Journal, and The New York Times, among others. We have attempted to identify individual sources where appropriate and have shared with you our favorite investment books in the Ap
pendices.
Thanks to Jennifer Manganello, Esq., bankruptcy attorney, Dory Lara-more, financial writer, and Andrew Sussman, Esq., tax and estate planning attorney, who took the time to wrote their thoughts about our book. Thanks to Dennis Muckermann, co-founder, Alexander & Muckermann, Inc. See Appendices F, “The Dark Side of Bonds.” Thanks to Ken Bates, Military Home Loan Programs, San Diego. See Appendices K, “VA Mortgage Loan Guidelines.” Thanks to Michael and Andrea who contributed “Case Study: Couple Discuss Financial Planning & Money Management”.
Thanks also to a number of colleagues who allowed us to quote them in the text: Jim Allen, Esq., Roger Brown, PhD, Larry Branton, Esq., Brad Dewan, Esq., Fred Holsman, Guild Mortgage, Dory Laramore, Richard Steiner, Esq., Leonard Baron, CPA and MBA, Thomas D. Rutledge, Esq., and my brother Lyle. Thanks to Robert Plotkin, retired foreign- service officer, U. S. Department of State, Roger Brown, PhD, Larry Branton, Esq., David Amack, former English teacher, and my brother Lyle for taking the time to read a draft and give us suggestions to improve the book. Robert Plotkin, currently President of Celsius Group, San Diego, also contributed to the book’s title. Thanks Bob!
Thanks to the U–T San Diego, the daily newspaper of San Diego, CA. The paper carried public service announcements concerning a number of San Diego County Law Library seminars that I taught, thus allowing me to connect with many homeowners in the greater San Diego area. A special thanks to Lily Leung who covers residential real estate for the U-T. Lilly interviewed and quoted us on a number of occasions. Her many articles on local developments kept us current on the San Diego market.
A special thanks to the many continuing legal education providers who invited me to speak at seminars and forums on the housing crisis. The classes gave me the opportunity to meet and connect with countless attorneys in San Diego, CA, and U. S. Without the many referrals from lawyers and the opportunity to counsel distressed homeowners, this book would not have been written. The organizations and individuals include: