Ask the Readers: How Should We Spend Our Inheritance?
Published on - August 29th, 2008 (by J.D. Roth) Most of the questions I receive are from readers in their twenties and thirties. Many of them are just starting out in life. But money issues nag everyone. Donald wrote the other day with the sort of question most of us have not yet faced. He’s getting near retirement, but doesn’t have much saved. He just inherited a bunch of money, and he wants advice about what he should do with it.
I am 55 and my wife is 57. We have been married 30 years. I make about $55,000 a year. My job is high stress but secure. We are not spendthrifts really, but to date we have not done a good job of saving for retirement.
We recently got an inheritance of $175,000. An earlier inheritance was wisely invested in a down payment when the housing market was very low, and now are in a home worth about $275,000 on which we owe $120,000. We have about $20,000 in credit card debt at a interest rate of about 6%. We also have a car loan that is nearly paid (six months to go) off, but it’s at 0.5%. Lastly, we have the afore-mentioned mortgage and second at a higher rate of about 7.5%.
We have a retirement plan at work, but I have only been there five years and we have only contributed the minimum so at this point, it will not yield much at when we retire. At this point in our lives, what should we do? We want to get on track and do what we can to secure our retirement.
First, I’d like to point out a very real option for Donald to consider, one that cuts through a bunch of complications and makes everything simple. I think it’s perfectly acceptable to take that $175,000 and place it in an investment account specifically designated for retirement. Put all the money there and don’t touch it. Don’t use it for a boat, don’t use it to pay down the mortgage, don’t use it for anything but retirement. Forget the money even exists.
Obviously, that probably won’t yield optimal results, but it might provide Donald with the best compromise between saving for the future and avoiding the temptation to spend.
What is optimal? It’s hard to say, but if I had inherited this money, here’s what I would do:
- Pay off the $20,000 in credit card debt.
- Continue to pay the last six months on the car.
- Consider retiring the second mortgage (depending on the balance).
- Take 1%-2% of the inheritance (about $1,500-$3,000) and use it for a family treat. (I call this the “one-percent windfall rule”.)
- Temporarily put the remaining money into a high-yield savings account. Leave it there untouched for several months. This is probably the most important step to handling any windfall — you want to move slowly and allow the emotions to pass.
- Get professional help. Hire a financial planner or find an accountant.
If I were in this position, I’d also be tempted to just pay off the mortgage and be done with it. (I’m torn over whether it’s best to prepay a mortgage — I think it depends on your goals and your risk tolerance.)
Really, though, I think the most important things for Donald to do are: park the money someplace for several months (or even several years) and obtain professional advice.
What would you do in a situation like this? For older readers, have you been through a similar situation in the past? How did you handle it? For younger readers, have your parents or other family members had to make these sorts of choices? What did they learn from the experience?
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I think your initial ideas are great JD. A little fun money, pay off the credit card (and don’t run it up again – then save the monthly credit card payment in an IRA for Mrs. Donald), and invest the rest with the help of a reputable fee-only certified financial planner.
The one issue I didn’t see addressed is whether Donald and/or his wife have any children who will be going to college soon.
In this case, I’d wait on pre-paying the mortgage. They are close enough to retirement to make saving the priority.
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I agree about your initial ideas. Paying off the mortgage early only works if they’re going to be disciplined enough to then invest the mortgage payment for retirement. Otherwise, it would actually make more sense to put it away for retirement, since they’re effectively forced to make mortgage payments.
From a maths-y point of view, I’d be inclined to say that if the main mortgage is less than 4% it makes more sense to invest for retirement than pay it off early but not necessarily otherwise. 4% is quite a low figure, but they have less than 15 years until retirement so the risk that the stockmarket will make less is greater than if they were younger.
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i wouldn’t worry about any children going to college soon. at their age, it will be better off for the kids in the long run if they can fund their own retirement. kids can get a student loan; it won’t kill them. (still paying mine & hubby’s off; it’s not killing us)
i agree with JD; i would follow his plan. i would try to pay the second mortgage off, if possible, depending on the circumstances. i would put that money in an account and then get *the right kind* of professional advice.
speaking as the adult child of someone who has not saved ONE CENT for retirement and is due to “retire” in about 3 years, if my mom had gotten that kind of windfall i would much rather her save it for retirement/pay off her house than to give it to me for college.
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I agree partially;
I would set aside an emergency fund then eliminate the credit card debt, but also the car and the mortgage. Then its about what to do with their income to prepare for retirement, but at least they’ll always have their home.
Great point about the college piece. If they do have kids who are looking at college, having a large chunk of cash will only hurt them in the financial aid process. If they’re going next year, this money may have to be reported as income and could significantly impact their financial aid package. It would definitely be important to get more info on that.
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I am also in agreement with JD’s plan… I love the 1-2% fun money part of it. I think that is a great idea to keep balance. I also completely agree with the “park it temporarily in a MMKT account”
The only thing I might do different would maybe be a bit more Ramsey-ish and knock out more debt. I just hate having it around, but maybe that’s just me…
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I’d definitely pay off the cc debt. As far as paying any extra on the house – are they sure this is they house they will live in throughout retirement? Are there any potential obstructions in the design for people with reduced mobility? Are hallways wide enough for walkers or wheel chairs? My parents did pay off their house, and they are still looking at having to move in retirement, or do some pretty big construction (the main bathroom is not wide enough for someone with a walker to get into, for example). It’s a two level house, and even the front yard is sloped to such a degree that just installing a ramp doesn’t really help.
If they do plan to stay in the house, I’d probably pay off at least the second mortgage. The other thing I’ve learned from my parents is that reduced debt leads to increased cashflow. My parents own their cars and house, and their monthly bills are only about 1200. They have no retirement accounts, sort of too old to “believe in them,” to hear them tell it. They both collect social security, and my dad has a small pension. Their monthly income is $3600 or so, but with such low expenses, they are feeling more flush than they ever have. They are actually saving money in retirement, and they are able to pay cash when they do have a big expense (replaced water heater recently, got new energy efficient windows).
If their emergency fund is not fully funded, I’d put some aside in that to bring it up to 3-6 months of expenses. I’d fully fund Roth IRAs for both of them if they are eligible. I’d try to avoid keeping the retirement portion of the money in a taxable brokerage account if possible.
ITA with J.D. about not spending more than a very small percentage. And they also need to solidly evaluate the spending habits that got them 20k in cc debt so they don’t run the risk of doing it again. The writer feels they are not spendthrifts, but that is a pretty high debt load, and it’s worth understanding what got them there.
This is probably a great time to get a handle on what their true core expenses are and to estimate what their monthly retirement income from SS and retirement plans will be. Talking to a planner is a great idea. They may be able to swing it in a lower cost of living area, for example, and in that case, tying up this windfall cash in the house might be a bad idea if they plan to move.
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Here’s what me and my husband would do in this situation:
1)Pay off the credit cards: -20K
2)Keep paying on the car.
3)Sell the house and contents and any other vehicles/recreational toys: 275K 25K =300K
subtract two mortgages and any house repairs: 120K approx. 25K 15K = 160K = 140K
4)Rent an apartment or condo
5)Continue working with Slow Motion Retirement in mind
6)Invest the nearly 300K we now have in a 5 year CD@5% – Compounding means two steps forward is two steps forward. Any time you invest in the market it’s two steps forward and one step back, (if you are lucky). We don’t have time for risk at our house as we would like to retire in the next 5 years
Good Luck!
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First and foremost, I fully agree the most important think to do is to park the money somewhere and take it nice and easy.
Second, what are the taxes and fees involved in the inheritance? I would want to look into that, and make sure enough is set aside for it.
I don’t think it’s possible to put that kind of amount into a retirement account within a single year. Most would have to reside in taxable accounts. However, I would make sure the retirement accounts are maxed out each year from here on out.
It would have been great if the author would provide us the details of the second mortgage. That’s either an important omission or a typo.
I’m going to take a flying leap and assume that if someone has a second mortgage and has very little retirement savings, you may be dealing with someone who is– pardon my crudeness– not good with money.
If that is the case, I say don’t pay anything off. Park that money somewhere where you are unlikely to touch it and have it grow towards the retirement. And then just pretend that amount doesn’t exist. Retirement is only 10 years away.
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When my grandma died she left her money to the grandkids for college. My mom put some in more liquid and secure investments and the rest in a mutual fund.
I used some of the money for college and some of it to help out with a down payment on a house, but the money that was in the mutual fund is still sitting in there growing nicely. I am a stay at home mother and plan on using that as my retirement savings. I already have a temptingly nice pile of money in there so I hope that it will be an even nicer pile when it comes time to retire.
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That’s two mortgages for a total of $120,000 of which the second is at 7.5% and the first is at a lower rate? It’s not entirely clear as stated. In any event, I’d kind of want to do something about the 7.5%, either prepaying or refinancing. Pay off the credit card debt and don’t run it up again (is the second mortgage from paying off previous credit card debt?). If he’s got a good 401(k) plan at work, he could make maximum contributions to that while using some of the inheritance money to compensate (put that in a high-interest savings account and make monthly withdrawals). I’d put the bulk of the money in a diversified but not too complicated portfolio of index funds, or perhaps one of those target-date retirement funds to keep things really simple. And think about downsizing the house. That’s a lot of mortgage debt to have at that age on that salary, and the bigger the house, the more stuff you can buy.
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I tend to agree that they need to park it and save it all for retirement, at least for the next year or two. With respect to paying anything off, I’m worried that they don’t have a handle on spending at all. They have a second mortgage (why?), they aren’t really saving anything for retirement (why not?), and they have $20,000 in credit card debt (for what?). Sounds like they’re spending more than they make. They need to get serious about their habits and money handling and get those under control first and foremost. Just paying off the debt won’t help much if they just use the money up and ten years later are 65 and 67 with another $20K in debt and $100K second mortgage.
So now’s a good time for them to really evaluate if they want to still be working in their 70′s.
Others have provided solid recommendations they can follow, but none of it will work if they don’t have a handle on their spending.
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I inherited land from a generous uncle when i was in high school. I sold the land when I was in just about to exit college for a sizeable amount. All of it went untouched in a savings account until I bought a house a few months later, and i used it for my 20% down (on a very cheap house <100k). The rest has gone into mutual fund investing. Also I had no debt when i graduated college. It was a great start to a nest egg, and wasn’t hard at all to not spend it (it’s just numbers on paper/computer screen anyway).
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This would be my plan:
1) Hire a tax/financial adviser. There’s a reason I’m putting this first, instead of last. They will be able to help you minimize the tax impact on your inheritance money. Also, if you go in with a list of “this is what we’re thinking of doing”, they will be able to go through that with you and explain whether they think it’s a good idea and why.
2) Pay off those credit cards. Unless the rates are somehow magically lower than a CD’s, you are simply bleeding money from these.
3a) Pay off the second 7.5% mortgage. At that rate and over such a short amount of time, it’s likely to pay off more than any low-risk investment. Hell, I’m 24 and if I could invest in a guaranteed 7.5% investment, I would take it no questions asked.
3b) If your other mortgage is 5% or more, I would pay that off to, for the same reasons. The key to doing these though, is that you MUST save the money that used to be going to the mortgages.
4) Sock away 6 months of living expenses into an emergency fund.
5) If there’s still money left over at this point, then talk to the financial adviser again for their advice about how to save it.
Leave the car payment alone. .5% rate is much lower than a CD’s rate, meaning it’s not worth paying off. The loan company is basically giving you free income.
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I agree with most of the above advice:
1) Pay off the credit card today.
1a)I would need to know what the amount of the second mortgage is, but I’m pretty tempted to pay that off too.
2) I would probably just pay off the car, depends on how old it is and how fast it is deprciating.
3) Call an investment house (I am a customer of Legg Mason/Smith Barney/Citi and have been very pleased with their products and services) Talk to an advisor.
4) Educate yourself
5) Stop spending money you don’t have.
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What I would do is quit my job, sell the house, pay off the car and credit card, and move to a cheaper part of the country. Woo hoo! Instant retirement! But then I don’t like stress and never would have gotten in their position to begin with!
I have two concerns regarding what these guys should do. “We are not spendthrifts really, but to date we have not done a good job of saving for retirement.” To me that implies that if they suddenly found themselves with more disposable income each month (as a result of paying off various debts), they might feel richer and start spending more.
Second, they may not have been investing long, and so may not feel comfortable dealing with large amounts of money.
If those things were true, I would recommend putting most of the money in “safe” high-interest accounts at two different banks (so they don’t exceed the $100,000 FDIC-insured limit). Maybe a money market account and laddered CDs or maybe an online savings account and treasury bonds, something like that.
But first take out enough money to fully fund an IRA for each of them. Then calculate how much he would have needed to be contributing from each paycheck to max his 401K and change his withdrawal rate to that. Then calculate how much that will lead to by the end of the year and contribute the rest now so that it will be maxed by the end of the year.
This will result in lower paychecks–they can withdraw the extra money they’re used to getting from their new savings, thus basically paying for their contributions from their inheritance.
I recommend this plan for two reasons. First, the skills and satisfaction they are getting from paying off their own debts with their own earnings will help keep them from being tempted to run up more debts. Second, they will be investing in their retirement gradually, becoming able to learn from any mistakes with relatively small amounts of money at first and also taking advantage of dollar-cost-averaging.
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P.S. A better recommendation is for them to resolve that “Hey! We can control our spending! We’ll show them!”
And then do what Justin says.
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There are so many questions to ask. I could guess what we would do with that money, but we’re about 10 years younger and in a different financial position than Donald and his wife.
I agree with the advice to park the money for a few months and think hard before making decisions. We’ve had mixed results with professional financial planners, so I lump them in with educating oneself about possible options.
In any case, Donald and his wife need to step back and look at where they are and where they want to be in 10-15 years. They need to put their “I-wannas” on hold until they work out the big picture. $175k is a pittance when you consider retirement in less than 15 years, and they could kill most of that amount by paying their current debts.
A few of the many questions I would ask: Do they have children at home or parents they take care of? Are they healthy? Is the wife employed? Do they plan to stay in their home long-term? How did they accumulate the debts — is it a spending problem or a crisis-management problem?
Lots of good suggestions here — I would also look hard at the CC debt and the 2nd mortgage (assuming 1st mortgage is low-interest).
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I think it is reckless to do anything but put this money into a retirement account and get a financial planner that works on a flat rate and will benchmark their performance based on their goals, i.e., how does their investment advice perform compared to if you had just picked some low cost bond and stock index funds; emphasis on index fund. A tax accountant that works on a flat fee and has an investment background can then tell you how to structure the investment to maximize your returns and minimize tax liabilities when you retire.
This is not that much money and anyone that thinks it is, is pretty darn foolish. The best thing he can do is consider how much he will need for retirement. There are many of those calculators on the net, but rule of thumb (for a base line retirement) for me is 80% of final income, per year of life, for twice as many years as you think you will live past the age you want to retire. That will tell you what you need to do and how your retirement will look.
He needs to consider what the credit card and second mortgage debt was spent on. If the gent has been in a secure job for five years and has $20,000 in credit card debt that consists of consumables, e.g., eating out, clothes, vacations, recreation, etc., he is not a good candidate for being responsible after the debt is paid off. If that is the case, he has been living beyond his means.
If he is serious about not having a shitty retirement and having to work till the day he dies, he is going to have to make some hard choices and pay off the debt with income rather than this inheritance. I may be wrong, but he needs to be frank with himself and look at his choices and actions that have put him in the debt situation he is in right now. The interest rates don’t seem to be high and investing now while the market is down, even if it goes down a bit more in the next year, will lead to far better returns on the money than paying off the debt in the near term.
I would rather see him and his wife taking some part time work, solely for the purpose of paying off debt than putting a dime of the inheritance towards it. If you put yourself in the hole through your own irresponsible actions, you will have learned nothing by whipping it clean with money you did not earn. For most people, it is a psychological conundrum of the human condition that must require one to have earned something in order to honor it.
There is a reason why credit card companies offer low transfer rates; because they know that those who need to transfer their burdensome debt are creatures of habit. I think that habit will lead to more debt once the current debt situation is alleviated and the burden is lifted if there is no consequence for that debt.
In short, put this money towards retirement investment as I mentioned before, and act as if you had never received it. Anything less than that will cause you to either be the old guy that greets at Wal-Mart to pay for the meds because retirement only affords you to feed yourself or you will be the old guy that lives in a trailer having to decide between eating something for breakfast and taking your meds. This is a serious matter that should not be taken lightly. Talk to some of those working retired people about what they would have done differently so they wouldn’t have to work.
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If I had the same circumstances as the reader asking the question, I would:
1. Pay off credit card immediately.
2. Not spend any of it on “fun.”
3. Not trust that any job is “secure” and pay off the car and the house.
0.5% and 7.5% are still too much to pay if you don’t have to pay it. You will have freed all that cash you normally spend for your car and mortgage payments for a little “fun” in no time. ; )
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When my husband and I received a small windfall (much, much smaller than this reader’s), the first thing we did was park it into a high-yield savings account. This actually turned out to be one of the best things we did, because the money became virtually “untouchable” and we still haven’t used any of it.
That being said, we are much younger and in a very different situation. As for Donald, I believe a lot of what other readers have mentioned is sound advice- pay off your credit cards. Then take them out of your wallet. Resist the urge to spend with them again. Go to a cash-based system if necessary. Hire an objective financial planner who can help you with more information. If I were in the situation, I believe I would be most inclined to put a large majority of it toward retirement, and to continue to pay off the car and mortage as is. And then, as another reader mentioned, once those are paid off, put that money into a retirement account.
Good luck- you have some tough decisions to make!
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I’d pay off all my debts, including the mortgage. Anything left over would go into an ING Direct account. After that, I’d apply what I had been paying on my mortgage, car payment, and credit card debt to a retirement account either through a 401K at work or start a Roth IRA through Vanguard. Actually, I’d probably put the car payment or credit card payment toward the ING account (as my emergency fund), but the rest would go toward retirement. Why pay any interest on debts when you could be earning interest on savings? Since you’re losing the mortgage interest deduction by paying off that debt, the 401K retirement account would be my preferred choice for retirement savings, to try to offset some of the tax liability. That’s what I would do!
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I think JD’s best advice is to move slowly and seek professional advice. I know that I overspend any windfalls I anticipate before I even receive them! Waiting a few months seems like the best advice, as long as one doesn’t blow the monthly budget thinking, “hey, I’ve got $175,000 in the bank!”
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$175k is not a lot of money so use it wisely to get the most out of it. I’d forget about the first mortgage and the car note. I would pay in full the credit card and possibly the second mortgage depending on the amount. Then I’d take a relaxing 2 week vacation. Don’t take a cruise or anything like that. Go somewhere and just relax. Rent a home at the beach or mountains. Or go on a fishing trip. don’t pay some guide to take you to a bunch of place – just do nothing.
I’d put the remainder in a retirement vehicle or investments that are marked to be used for retirement. Lay off the credit cards and addition mortgages. Drive your cars longer and continue to save your salary.
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I would differ a little, being in the same age bracket but with(thank goodness) none of the problems. I would start by immediately maxing my retirement plan at work(and his wife’s if she works- that wasn’t clear) and doing two IRAs for this year. that amount of money is locked in with strong penalities for withdrawing). At their age,depending on where they work, that could take $50,000 out of the pot(20,000 less if she doesn’t work). I would also pay off the credit card debt. This leaves about $100,000K
I would then definitely see an independent financial/tax/retirement advisor(often a team)-to help these people who haven’t seemed to get a handle earlier- get a handle on this money and their future. They will ask all the questions-easy and hard
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I think you have to ask yourself a hard question. Are you willing and able to live below your means? Not saving much for retirement means that you haven’t done this in the past. If your answer is yes, I lean towards paying off all debt and the mortgage (you are 55, too late to put it all in the stock market), and put the rest in a Vanguard account investing primarily in bonds and fixed income, but some stock is ok, maybe 25%. Every payment you would have made towards the mortgage, credit card, and car needs to be saved into this Vanguard account or into your retirement account by upping your contribution. If your answer is no, you can’t live below your means, then please put all 175k in an investment account, investing in mostly bonds and other fixed income, with a bit of stock, and don’t touch it until you are physically unable to produce income by other means. Act like it doesn’t exist! Sounds harsh, but if you can’t live below your means, you can never retire without a great pension, and you’ll need this money to get you through the last few years of life when you are unable to find work due to physical or other reasons. I think the 1% for fun is a good rule too.
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Whoever made the point about college financial aid was spot on. If relevant, you might want to run the numbers through a financial aid calculator to see what effect it has on your EFC.
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I think that Dave Ramsey would say, where did that 20K in CC debt come from, and whose to say that if you payed it down with a windfall you’d just run it up again? Either cut up the card and pay it down with the inheritance, or move the inheritance somewhere safe until you were convinced that you’d changed your spending habits.
With so little money saved for retirement, given the couple is in their late 50′s I’d buy some really good insurance policies instead of investing. That is, I’d buy a good disability policy because they are probably going to need to work well beyond retirement age at this point. And I’d get life insurance for one or both to cover that person’s contributions to college and living expenses of the spouse. And I’d buy fixed annuities. I know this is a bit “out there,” but It’s not about maximizing investment gains for this couple, it’s about averting real catastrophe. If they were 20 or 30, I’d follow JD’s and others’ advice above.
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If I were in Donald’s shoes, the first thing I would want to do is to learn as much as I could about retirement planning. Donald, you’re lagging where you should be at this point in your career, but you can definitely catch up. There’s a good read of someone in worse shape than yourself at I’m in my late 40s with no savings… is it too late for me?
It’s never too late and you’ve been given a huge opportunity. Take advantage of it by educating yourself about personal finance and investing. Adhering to a few good habits can change your life. One of JD’s best posts on this subject is http://www.getrichslowly.org/blog/about/ , these are basically his golden rules and worth reading if you’re looking for great money-management advice.
Donald, it’s fun to watch people on their wealth-building journey, Donald, so post back here letting us know how what you decided to do.
Cheers!
Odd Lot
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JD, I have a similar “windfall rule”, but instead of using a dedicated piece of windfall money for fun, I use it for charity. I love giving to charity, and something just seem so right about sharing wealth with others who are not as fortunate what you have the chance. After all, there are so many families in the world who don’t even have food and water, while I get to eat relative feasts and live in the relative lap of luxury even before having ‘fun’ with extra money.
I tend to give more like 10% of what I receive, and I spread it across small nonprofits, international groups, local groups, environmental groups, and health and human rights groups – including passing on a series of small loans through http://www.kiva.org … there is nothing better than looking at my loans page and seeing all the pictures of the people that my windfalls have helped, then getting the loaned money back again to keep giving!
After I’ve adhered to this rule, I can’t help but feel that I have done the right thing, no matter how I choose to invest the rest of the money for my future.
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The FIRST thing I would do is put my house up for sale and buy a house suited for 2 people, not something worth over a quarter of a million dollars. Sorry, but when you have 5 figure credit card debt, you don’t need to live like a millionaire. They could find a nice well-kept home that is easier to maintain during their retirement for a much more reasonable amount. Sell it. Pay off the mortgage debt, and they shouldn’t have to finance their retirement home much at all if they can sell the first one. Inheritance can sit in high interest savings until their home is sold. If that means they have to live in an apartment until they find their retirement home, that is OK because that is better than mortgage payments on a home that is bigger than what they need! They can do something much smaller but still cozy and neat and well-kept. It will be so much less to worry about during retirement.
After getting a realtor (Do not try to sell it by owner, it takes longer and you get up to 15% BELOW your asking price), pay off the credit card debt. You are not going to earn more than 6% in that high interest savings, be done with it. 5 figures charging you interest, not necessary! Get rid of it!
I’d say just pay off the car over the next six months, as previously planned.
I’d say keep a good chunk in a savings account, a few months of expenses just in case that high-stress job evaporates. Sometimes people are pushing out the “old folks” nearing retirement, so it is best to be prepared!
Once in the new, smaller, much less financed home, with the paid off car and the nice emergency savings fund of a few months of expenses… that would make you next to debt-free. Take the rest and hire the personal finance advisor on a flat-fee as many advised above, and invest it in retirement. Take all that money used for credit card payments and put it towards retirement or in savings, but if the mortgage payments are less (or hopefully non-existant), try to put more of the paycheck into retirement accounts. The personal finance advisor should be able to help.
I would NOT spend any “windfall” until AFTER all of this is done, including sale of old house, purchase and move into new house. If the “windfall” is not spent during the move (moving is expensive, no doubt, but hopefully they’ll have some stuff in the big house that they can sell before moving to the little cozy home to fund any random moving expenses), then I would begin to plan some sort of trip like a year out… try to save the money that used to be used on the car payment towards the vacation or something. Don’t go overboard. But a second honeymoon would be super cute! (I love seeing couples in love after 30 years of marriage!)
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Andrew Tobias has some advice on what to do if you have a windfall, but I can’t remember all the details. I think laddering treasuries was part of the plan. There is a wealth of good ideas here in JD’s approach and in the comments.
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As someone who is living in an area that constantly gets hit with tropical storms and hurricanes – I would have to agree with Helen (#6) and decided if the house was a worth while long term investment.
I don’t know if I would ever pay our house completely off since I have no idea if our house could be damaged beyond repair sometime in the future. Like she said, unless you know that you are in a place where, short of a fire, your house is pretty much safe and will work when you are old AND you don’t want to ever move – then decide what you want to do about the payments.
Personally, I always take this sort of thing into consideration. Like for instance my cheap car with a low interest loan is about $1500 short of being paid off. BUT it is also a piece of junk. So if I get a small bonus from work for about that much do I pay it off only to probably have a broken down car in a few months, or do I keep the low payments and then when the car breaks down and costs more to fix then pay off (basically a “totaled” car) and let the bank eat it with the gap insurance?
I think all kinds of stuff like this needs to be completely thought through and putting the money away for a while is a great idea. Sometimes just because it works out on paper doesn’t mean its the best thing for you.
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You know it seems that with no savings and a significant [I'd guess more than half a year's take home pay?] cc debt that the safest thing to do would be your initial instinct JD – park it for retirement – untouchable and safe – otherwise it is likely that paying down the cc will just let it be run up again [and likely repaid off with that windfall at a later date] and preapying the mortgage will lead to them not saving either – I’d park it and leave it intending it for retirement then take a hard look at daily choices resulting in their hard spot in the first place
Then, ONLY IF they have paid off the cc on their own, paid cash for their next car etc should they consider what to do with that money as an investment . . . jmho
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Always always always pay off debt before you start saving!
1. Worst first is the rule: mortgage is largest sum & highest interest rate. Get it out of the way.
2. Then the credit card.
3. That leaves $5000 to pay off the car, and then you are *financially free* to start over by saving the remaining amount for retirement/whatever.
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I think your recommendation of paying off the credit card is pretty sound but I would also be in favor of paying off the house and car. After that you should still have somewhere around 30K to save and invest. Plus, if you don’t have a mortgage or car payment anymore you can put those monthly payments into savings and investment account each month and you would save tens or hundreds of thousands in mortage interest.
You should also max out your 401K contributions immediatley to save on taxes now that you won’t get 25% of your mortgage interest back on your income tax anymore if it is paid off. (don’t think a mortgage interest deduction is reason enough to keep a mortgage though. It’s not like you get ALL the interest back, only 25%)
Then you could be on the fast track to saving and investing money quickly for retirement in 5 or 10 years. That said, investing near retirement means not doing high risk investments so any good advisor would suggest low risk bonds or some other safe place to invest in.
According to the CNN Savings Calculator if you start with that 30K and invest $1,200.00 per month (at 5% interest) for 10 years you will end up with $223,457.00 in addition to your 401K retirement savings and social security payments.
And your retirement will be a lot easier because you paid off your house. (and I don’t live in a place where there are hurricanes so I have not included that factor in this calculation)
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http://www.moneysavingexpert.com/cards/pay-off-debts
Please have a quick look. He explains it far better than I can. It’s british but the same principle applies.
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You have expressed a sincere desire to get on track and to do what you can to secure your retirement. Doing so will require you to change your spending habits and your mindset about money. Given your age, you don’t have the luxury of time that a much younger person would have. Here are some things for you to consider:
1) Get completely out of debt. As one reader pointed out, you don’t need to own a home. You could sell your home, take the equity and invest it wisely (see #5 below). Renting may offer you and your wife more personal freedom and options. Or, if you feel you absolutely MUST own a home, sell your present home and buy a smaller, more modest home or condo for cash. Pay off the credit cards and the car no matter what percent interest rate you’re getting.
2) Commit yourself to be debt-free for the rest of your life. You are fooling yourself by taking on debt just because the interest rate is low or by convincing yourself that you “need” something. If you can’t pay for your purchases with cash or pay off your credit card at the end of each month, get rid of the credit cards. Never buy a new car or finance a car again.
3) Reduce your appetite for consumption and live well beneath your means. Separate your “wants” from “needs”. Establish a budget. Read “Your Money or Your Life”, “Affluenza” and other similar books to change your mindset about consumption.
4) Set aside 6 months of living expenses in an emergency fund. Don’t touch it unless you have a true emergency such as you lose your job (there is no such thing as a “secure” job any more) or have a non-insured medical emergency (which is certainly possible, given the high-stress job you mentioned).
5) Sock away everything you can in your employer’s retirement plan. Establish Roth IRAs for you and your wife. Max out your 401(k) and IRA contributions and take advantage of the “over-50” contribution provisions in the plans. After selling the house, open a brokerage account at Charles Schwab with the equity. Continue building liquid assets with any additional discretionary income you have.
6) Get help from a professional with your investment strategy
Good luck!
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I’m the same age as Donald so I know that he needs this money for retirement – period. It sounds like a lot to him since he doesn’t have much but at a 4% withdrawal rate (recommended to make your money last)it will generate only $7000 a year. So he needs to grow it – slowly and safely.
If I were him I’d give myself a $10,000 treat – a vacation or fishing boat but nothing much bigger. Pay off the credit card and the 2nd mortgage – both are bleeding money. Put aside a $20,000 emergency fund to stop the credit card borrowing. Make a pact not to borrow any more from either credit cards or their house.
Now for his retirement money. Max out his 401K for the year ($15,500) and put $6,000 each (the max at their ages) in ROTH or regular IRAs. If he’s unsure of where to buy a Roth IRA his community bank might be a good place to start. Both the IRAs and the 401k will reduce the tax burden on their income and earnings so that their money can grow a tad faster.
Now he has less than $90,000 left. How he handles it will depend on why he’s in debt and with such little savings for retirement. There isn’t enough information to advise him. If it was me, I’d split the remaining money between an indexed stock fund (Vanguard _ mentioned above,Fidelity or T. Rowe Price are good choices) and some Certificate of deposits at the bank. Have enough in shorter term (one year) CDs to fully fund his IRAs and 401k each year until retirement. If he has a nice community bank that is FDIC insured he can probably find someone there to help him ladder the CDs without paying money to a financial planner.
Though a financial planner is a good idea, he needs to be careful that he doesn’t end up with someone who just wants to sell him annuities or some other not particularly wise investment. I’ve never used one. Does anyone have suggestions on how Donald can find a reliable adviser?
Good luck Donald.
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The real key is to get the spending under control. Credit card debt of $20,000 and a second mortgage suggest, combined with negligible retirement savings, suggest that they spend more than they earn. With this in mind, sheltering the inheritance from inroads is essential. I’d say put it in a safe long-term investment and treat it as if it doesn’t exist until it’s time for retirement. If it goes toward paying off the credit card and the second mortgage, I see no sign that these folks have yet developed the discipline not to run up the bills again. They should be putting the maximum into a 401(k) — if you’re 50 or older it’s $20,000 a year — as well as the allowed $6000 into a Roth IRA. (It’s $6000 if you’re 50 or older.) That will “tax shelter” some of the money right there. But getting the spending down is the most important thing.
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Wow, Lots of great advice above. I can’t really add anything, but would love to see more details and a continuing story line on what they have deceided to do. Good Luck
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Remember (#30) in some parts of the country $275,000 does not buy you a lot of house.
My 1,100 square foot three tiny bedroom house on a small lot in SE Portland cost $260,000 in 2005.
I wouldn’t go assuming that they even *can* downsize. Of course if that is a possibility it’s worth considering if all the kids are out of the house.
Lot’s of good advice here I don’t have anything to add.
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Will the inheritance put them in a less advantageous position for college financial aid? Not as much as you might think. Inheritances are generally not taxable as income, so they won’t impact the income shown on your tax return. However, it will appear on the FAFSA (college aid application) as an asset. Parents are expected to make 5.6% of their net worth (outside of primary residence and retirement accounts and after an allowance)available for college expenses annually. Check with a college financial officer if this situation applies to you. They understand all of the details and nuances.
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@Remember (#30) said: “The FIRST thing I would do is put my house up for sale and buy a house suited for 2 people, not something worth over a quarter of a million dollars.”
We don’t know what part of the country they are in, but here in southern California that would only buy you a small condo (or maybe not even that…). According to Zillow, our first house (1200 square feet, bought in ’83 for $80k and sold for $160k in ’95) last sold in ’05 for $480k and even now is worth an estimated $415k.
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My immediate gut response was “pay off the debt”, put the rest in savings.
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I think your advice is probably OK, but I think it might be on accident. Think of it this way: if they were 15 years older, would you still tell them to pay off all their debt? I sure wouldn’t.
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I know what I would do! If I read it right, the $175k is enough to pay off all the debt, so pay it off and cut up the cards. Now each month he has all that money that was going towards the mortgage, car and cards. Take a few months to build a nice fat emergency fund and then max out 401k and IRA contributions for the looming retirement.
After all this he might still have enough left over to keep the same “lifestyle” he had previously been funding with debt.
As for giving yourself a “treat”, well, feeling the paid-for grass of my paid-for back yard between my paid-for toes would be quite a treat for me!
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A good laugh- although not meant to be- Remember who said a house worth $275,000 is for a millionaire. In the DC metro area- $275,000 will get you a smallish condo- if you are lucky.
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I’m curious as to why people think parents should pay for college for their kids?
People do not value what they do not earn and a student loan is a cheap lesson in learning to live within ones means.
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The more I read through these comments, the more I disagree.
Everyone is telling him to pay off his credit card debt first. Why? Is this perhaps a knee-jerk reaction to the words “credit card debt”? Did anyone notice that his debt is at SIX PERCENT interest? Right now, that’s about on par of some estimates of INFLATION. I have no idea why people are telling him to pay that off. PAY THE MIN and thank your lucky stars your rate is so low.
Pre-pay the mortgage? Are you kidding me? If they are in a 30 yr loan, statistically their loan will outlive them. Unless the rate is very high (in which case just refinance), PAY THE MIN.
What they are doing with that second mortgage is beyond me. I don’t understand that one, and it’s hard to comment on it since it was not clear how much that 2nd is for. 7.5% is inching kind of high and if they’re going to pay more than the min on anything, it should be that.
Debt is not bad, people. Only bad debt is bad. If that credit card debt were at 14%, I’d be on board with your suggestions. But I don’t understand how you can justify a suggestion to drop $20k on paying off 6% debt, ESPECIALLY when the person holds more expensive debt! Paying off 6% debt is just about as advantageous as putting that money into a CD. It just doesn’t make sense.
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Since he is near retirement age, I say save/invest the inheritance money somewhere safe. This way you know you have a some money for retirement. Especially since he mentioned that they have not done a good job of saving so far. Then work really hard with your current income and pay off the car loan, credit cards, then mortgages.
If he was 20yrs younger, then I would say pay off all debt. If he was 10 years younger, then I would say use half of the money to pay off debt and save the rest.
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