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A Word from Robin
December 2002

Is Your Pension Safe?

While the instances of large pension failures are few, it is important to understand how your pension may be protected. When we talk about pensions, we are speaking of a qualified, monthly payment you receive post-retirement. The PBGC (Pension Benefit Guaranty Corp) is a federal government agency that insures and protects private, defined benefit pension plans which promise to pay a specified monthly benefit at retirement. If a pension plan ends without sufficient money to pay all benefits, PBGC's insurance program will pay a benefit. Their financing comes from premiums paid by companies whose plans are covered, like the FDIC program for bank savings.

Why are the plans under-funded?
The pension funding rules allow contributions over a long period of time. Even if all required funding contributions were made, they might not prevent serious under-funding. Since the late 1980s, laws governing pension plans have been strengthened and funding has improved.

What benefits does PBGC guarantee?
The PBGC guarantees monthly pension benefits beginning at normal retirement age, certain early retirement benefits, and spousal benefits under joint and survivor coverage. Federal pension law limits the type and amount of benefits that PBGC guarantees. For plans terminating in 2002, PBGC guarantees a maximum monthly amount of $3,579 per month or $42,950 per year for a person age 65 with no survivor benefits. The amounts are adjusted for retirees at other ages or those who elect survivor benefits.

Recent examples of terminated plans include TWA (2001), Polaroid (2002), Bradlees (2001) and LTV Steel (2001). All are companies with serious, long-term financial problems. The PBGC has stepped in to guarantee, up to the limits mentioned above, the pension benefits of employees and former employees. Enron's pensioners who are receiving a qualified monthly payment, are continuing to receive it, despite the bankruptcy proceedings. Non Qualified, excess pension payments have been stopped, and these payments are part of the bankruptcy settlement.

529 Plans for College

Remember what it cost for you to go to college or to send your kids to college? Despite recent low inflation, tuition costs are rising at 5% to 7% a year, making paying for college challenging for all but the most wealthy. Saving for college has gone from a nice idea to a necessity. Not surprisingly, politicians want to help.

The Economic Growth and Tax Relief Reconciliation Act of 2001 (Act 529) created a resource for families trying to save for education, named the 529 Plan. This plan allows investors the ability to put away after-tax dollars that then grow tax deferred, coming out tax-free if used for educational expenses. It has been compared to a Roth IRA without the limits.

There are several benefits to the 529 Plan in addition to the tax-free advantages and high contribution limit. These plans offer the investor control, flexibility and estate-planning benefits. A parent or grandparent can open the account in his name and maintain control of that account, regardless of the age of the beneficiary. That means an immature teenager can't decide to buy a car with the money upon reaching the age of majority. Additionally, the account owner can change the beneficiary at any time, so that in the case of a child who decides not to pursue higher education, the money can be redirected to a sibling or relative. In fact, the owner of the plan can even take the fund back (for a modest penalty). Many states also offer other advantages such as a state income-tax deduction for contributions and state income tax exemption for qualified withdrawals.

Does a 529 Plan sound too good to be true? There are some issues to consider. First, investment options are limited and changes in fund allocations are only allowed once per calendar year or with a qualified change in beneficiary. Also, for a family who is concerned about financial aid, any funds contributed could count against the student when applying for financial aid. Finally, the countless number of plans now available leaves one's mind spinning. One rule of thumb is to choose a plan in your home state. Two popular and well-established plans to look into include TIAA-CREF and Fidelity.

One interesting way to end the year would be to open 529 plans for the grandchildren or contribute to a plan already established. Visit for more info.

Home Equity Lines of Credit

I have been advising clients for several years to obtain a home equity line of credit as an easy way to borrow against your home for a variety of needs. What is it? A home equity line of credit is a form of revolving credit in which your home or property serves as collateral. It allows you to draw from the account at your convenience and is a smart solution when you're not sure how much money you will need in the future. Rates on these loans are at all-time lows, though they are variable, and will rise if interest rates go up. They are suitable for short-term borrowing needs, since the interest is tax deductible up to certain limits (check to be sure you are under the IRS limits).

Rates vary each month, but today most Home Equity lines are linked to the Prime Rate (4.75%) and will vary with changes in this rate. Most banks offer home equity lines of credit, and the rate is expressed as Prime + a percent.

If you have equity in your home and are not sure you need one now, I recommend setting one up, nevertheless. The costs for setting it up are low and no interest is due until the line is accessed.

What are the risks? The main risk is that the cost or interest rate will rise and that you'll eat into the equity in your home that you may need in the future. I'd only use this form of borrowing for short-term needs. Longer- term borrowing should be done through a conventional 15 or 30-year mortgage.

Taxes and your IRA

In 2002, with relatively little fanfare, the IRS has made giant steps forward in simplifying IRA distribution rules for those over 70 1/2. All the cumbersome life expectancy calculations are gone, now everyone gets to use a uniform table. The required distribution is calculated by taking your IRA balance at 12/31 and dividing by a factor taken from the uniform table based on your life expectancy. For example, a 75 year old with a $200,000 IRA must withdraw $8,733 ($200,000/22.9 factor).

Throw out your old life expectancy tables because the IRS has updated these as well. The new tables project we are all going to live longer, therefore, you are required to take out less now. Remember, the required distribution is a MINIMUM: you can always take out more. When you turn 70 1/2, the distribution will start at 3.6% of your IRA balance, and the percentage will rise gradually each year.

The best news is for your heirs. They can now inherit IRAs and not be forced to withdraw them rapidly. Instead, heirs can withdraw most IRAs over their life expectancies, which for a 50 year old is 34 years.

Real Estate in your IRA

While many IRA owners are unhappy watching their IRA values plummet, looking to real estate for your IRA is fraught with problems.

First, there's the problem that you cannot borrow against an IRA, so any real estate in an IRA must be debt-free.

Second, there is the problem of valuing the property. IRAs must be valued annually, especially on 12/31 if you are over 70 1/2 and taking minimum distributions.

Third, if you need a distribution (over 70 1/2 or otherwise) how do you sell 1/20th of a building?

Fourth, if you or your family use the real estate, that's a no-no too, since it violates the self-dealing prohibition.

The best way to use real estate is through REITs (Real Estate Investment Trusts) which are publicly traded trusts that own real estate.

Robin Ann Sherwood is a fee-only Certified Financial Planner with an MBA from the Wharton School at the University of Pennsylvania, following a degree in East Asian Studies at Colby College. She specializes in retirement and investment planning. Her firm is Westbrook Financial Advisers, Inc which is based in Ridgewood, New Jersey. Robin's own base for advising is in New Canaan, Connecticut. Robin may be reached at


©2002 Robin Sherwood
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