Financial Literacy - Families and Finance
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Did retired teacher save enough?

Finally, Maria should consider converting some of her traditional IRA assets to her Roth IRA each year. While this will create taxable income in the amount that is converted each year, it could be a wise maneuver because of current expectations of higher taxes in the future. Also, since she wishes to leave an inheritance behind for her children, the Roth is far preferable to the traditional IRA since traditional IRA distributions are 100 percent taxable to heirs while Roth distributions are tax free.

Reconfigure investment portfolio

While Maria has shown remarkable wisdom in her real estate investments over the years, she could use professional guidance with her investment portfolio, which reflects a disjointed strategy. Her portfolio should not contain high-risk investments -- she doesn't have the need to take risk, especially in the current market environment.

Our research suggests that the following mix would be suitable for Maria with her low tolerance for risk:

Maria's low-risk investment portfolio:
  • 15 percent in individual equities and mutual funds
    • 3 percent to 5 percent of that geared toward commodities
    • 5 percent to 7 percent toward Asian markets 
  • 50 percent in fixed income
    • 15 percent of that in short-term CDs
    • 20 percent in global bond mutual funds
  • 35 percent in cash
    • U.S. government money market preferable

It's extremely important to note that these recommendations are the basis for an actively managed portfolio -- not one that is static. The sell decisions for the above parameters are far more important than the buy decisions.

Re-evaluate insurance needs

Maria has a $2 million umbrella policy that protects her from lawsuits should someone get hurt on her property. This is important in her case because tenants currently occupy her rental property. The other coverage that she has for her homeowners and auto policies are in line with our recommendations.

Maria should ensure that her rental property has replacement coverage in case of a catastrophic loss, as well as sufficient contents coverage.

If she hires someone to do work around her home or the investment property, she would be better protected from both a liability and tax perspective if she dealt with a company rather than individuals. If she pays a contractor to do significant work around her home, she should get a certificate of insurance coverage directly from the contractor's insurance carrier to reduce her personal liability exposure.

She should also conduct an in-home inventory of her personal assets -- ideally with a video camera -- to document the contents in case of a serious claim that requires replacement. This evidence of assets should be stored outside of the house or in a fireproof safe.

Update estate planning docs

Maria's estate isn't valued near the $3.5 million level that is currently exempt from federal estate taxation, so estate taxes are not a concern this year. But unless Congress intervenes, in 2011 the estate tax reverts back to levels of the past so that estates worth more than $1 million will be subject to tax. A $1 million exemption could mean a federal estate tax of up to $250,000 that would be payable by her estate. The value of Maria's retirement accounts coupled with her California real estate means this will be a concern in the future.

Maria's estate planning documents need to be updated. One of her trust documents deals with the disposition of a property she has since sold. Other estate planning documents, such as the durable power of attorney and her advance health care directive, are out of date.

The revocable living trust documents need review and revision. It's extremely important that Maria funds the trust fully for it to be of value. This requires her to change the titles on not only her real estate, but also her investment and bank accounts. The exception would be retirement plan assets, including IRAs and Roth IRAs, which should name direct beneficiaries so that her children can take advantage of the "stretch" provisions, allowing them to stretch any taxable distributions over their lifetimes.

To address these matters, Maria should consult a California estate planning attorney to draw up new documents.

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Bequests of real estate can create difficulties in estate equalization since it is difficult to split up the assets equitably between children. The most equitable way to transition her estate would be for the real estate to be sold after her death and the proceeds divided. But if an understanding can be reached with her children, it can be a great blessing to pass real estate on to heirs. Maria should have an open conversation with her children to see what they desire.

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