Archives for July 2010

Undo a Roth IRA Conversion For Profit – Tips & Tricks

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone.

Did you know that if you do a Traditional to Roth IRA conversion, that you can undo it? This “do-over” process is called recharacterization, and can come in very handy if the value of your investments drop significantly after your conversion since you owe income taxes based on the value of the IRA at the time of conversion. With the recent market volatility, this may apply to many investors as it did previously in 2008/2009.

Take the example below, from a 2009 CNN Money article but still applicable. Let’s say you had a Traditional IRA valued $150,000 at conversion, which later on drops to $100,000. At the end of the year, you’d have to pay taxes on $150k of income and also be stuck with the lower account value. By performing an “undo” and “redo” the conversion, you could pay income taxes on only $100,000 of income instead of $150,000 – a savings of $14,000 at the 28% tax rate. (Find your 2010 tax bracket.)

There are some ground rules, however. The IRS says you can perform a recharacterization until October 15th of the year following the year you converted. So if you converted in April 2010, you have until October 15, 2011. If you want to re-convert, you have to wait either 30 days after the recharacterization or until the tax year after the conversion year, whichever is later. Again, if you converted in April 2010, you’d have to wait until January 1st, 2011 to reconvert. If you wait too long in between, it is possible your account value might be even higher than before. Still, something I’ll be keeping an eye on.

(You must still meet the Roth conversion eligibility rules, previously based upon your modified adjusted gross income. In 2010, there are no income limits. In 2011 and beyond, there currently are no income limits either, but it is unknown if this will remain the case. Also, only for 2010 conversions are you allowed to split the income over 2011 and 2012, which can lower your overall tax bill based on tax brackets.)

More Advanced: Multiple Roth IRAs

How can you set yourself up to best take advantage of this “redo” opportunity? I recently read in a sample issue of Kiplinger’s Retirement Report that you should split your Traditional-to-Roth conversion into multiple IRAs for each asset class you own.

For example, you might split a $200,000 IRA into $100k of stocks and $100k of bonds. If the stocks go down to $80k while the bonds go up to $120k, just to a “redo” on the stock IRA and leave the bonds IRA alone. Assuming the values stay the same upon re-conversion, that would save you income taxes on $20,000 ($5,600 at a 28% tax rate) as compared to not splitting up the IRA since if you just converted it a single IRA, the total value remained $200,000 ($80k+$120k). Tricky!

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone, and has not been provided nor approved by any of the companies mentioned.

MyMoneyBlog.com is also a member of the Amazon Associate Program, and if you click through to Amazon and make a purchase, I may earn a small commission. Thank you for your support.


Traditional to Roth IRA Conversion at Vanguard

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone.

So, you’ve done your research, read the articles, crunched the numbers, and you want to convert your Traditional IRA held at Vanguard into a Roth IRA. But, how do you actually do it at Vanguard.com? There is no explicit “Convert” button or link to run this conversion. After some fumbling around, I managed to figure it out. But why not just share it here in mind-numbing detail and hopefully save folks some time.

You’ll need to have both a Traditional and Roth IRA set up at Vanguard first (mutual fund only). If you don’t have the Roth yet, click on the “Open an Account” link on the black bar on the top of every page and open an account first. Be sure to indicate that the funds you’ll use to open the new account are “At Vanguard”.

After you already have both a Vanguard Traditional IRA and a Vanguard Roth IRA:

  1. Log in to your account online. Click on “My Portfolio” so that you can view all your accounts.
  2. Under your Traditional IRA section, click on “Buy & Sell”.
  3. Next, click on “Exchange” on any of your funds.
  4. Now, you can choose to Exchange from all your Traditional IRA funds, to funds in your Roth IRA. You may need to add a new fund.
  5. For the exchange amount, if you are doing a complete conversion, chose All. You may be asked to verify and accept any redemption fees.
  6. You’ll also need to choose your tax withholding options. In order to maximize my balances in these tax-deferred accounts, I chose not to withhold and to pay the taxes separately myself later from a taxable account. Also, I can spread the taxes due for a 2010 conversion over two years.
  7. At the end of the next available business day, your mutual funds will be exchanged into your Roth at their net asset values. Your Traditional IRA will still show up with zero balances, which you can hide from displaying.
  8. Your conversion is complete! Keep your transaction confirmations for tax time.

Keep on reading below for some of the warnings and notifications that you’ll encounter during the conversion process.

A conversion is a taxable event. Generally, you’ll owe taxes on the amount you convert from your traditional, SEP-, or rollover IRA into a Roth IRA.

When you convert to a Roth IRA, you may elect to withhold Federal and certain state taxes. You can get the most benefit from the conversion if you don’t have taxes withheld and instead pay taxes from a separate nonretirement account. Keep in mind that the money withheld for taxes isn’t part of the conversion, and, if you’re under age 59½, you may have to pay a 10% federal penalty tax on it. You also can’t “recharacterize”, or restore to a traditional IRA, the amount you withhold. If you choose not to withhold, you may need to make estimated tax payments to avoid an underpayment penalty.

We encourage you to consult a tax advisor about your individual situation. For 2010 conversions only, you have the option of postponing the tax due and paying it off over two years. If you choose this option, taxable income from the conversion gets split evenly between 2011 and 2012. Alternatively, you can choose to pay all the conversion income in 2010.

Moving money out of a retirement account is a distribution, and all or a portion of your distribution may be subject to federal or state tax. You can elect to have either no federal income taxes withheld from your Vanguard IRA® distribution or a percentage between 10 and 100. If you don’t elect to have income taxes withheld from your IRA distribution, you’ll remain liable for income taxes. Tax penalties may also apply if your estimated income tax payments or income tax withholdings are insufficient under federal or state rules.

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone, and has not been provided nor approved by any of the companies mentioned.

MyMoneyBlog.com is also a member of the Amazon Associate Program, and if you click through to Amazon and make a purchase, I may earn a small commission. Thank you for your support.


Is Generic Financial Advice Helpful or Hurtful?

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone.

Good financial advice is hard to come by. There are so many variables, such that you have to find the balance between providing enough information, and making things digestible enough that peoples’ eyes don’t glaze over.

Check out this advice column found in the newsletter that comes in my 401k statement each month. Can you spot what’s missing?

There is no mention of what investment vehicle you should be sticking your money in, or even how much they estimate your future returns to be. Is it 100% stocks? 50% stocks/50% bonds? Orange juice futures? 6% returns? 12% returns? Who knows. Is this pre-tax or post-tax? Is it all in tax-sheltered accounts? Is my annual income supposed to rise as sharply as the chart seems to imply? I selfishly hope so!

Yet, I feel like this is what a large percentage of workers want to read. One impossibly simple chart that defines your retirement needs. So someone gives it to them. Maybe it gives them a general idea of where to start. But is a vague, possibly wrong answer better than guessing? I feel another poll coming on…

Is Such "One-Size-Fits-All" Financial Advice Helpful?

View Results

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My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone, and has not been provided nor approved by any of the companies mentioned.

MyMoneyBlog.com is also a member of the Amazon Associate Program, and if you click through to Amazon and make a purchase, I may earn a small commission. Thank you for your support.


Fun With Charts: P/E Ratios vs. Future 10-Year Returns

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone.

Here are another set of charts comparing the P/E10 Ratios for the S&P 500 and subsequent 10-year annualized real returns, courtesy of Mebane Faber based on Professor Shiller’s data. Can we really decide if the market is “overvalued” or “undervalued” by looking at one single number?

As noted in my earlier post about P/E ratios as a long-term predictive tool, the “P/E10 ratio” is the market’s current share price divided by average earnings over the last 10 years. By taking a long-term average as opposed to the more common single past year’s earnings, the idea is to smooth out the noise and bumps. The initial use of this ratio has been credited to famous value investor Benjamin Graham.

In the first chart above, you can see what appears to be a very strong relationship between lower P/E10 ratios and future 10-year returns. Everything is neat and tidy. High P/E10 = Bad. Low P/E10 = Good. The approximate current price of the S&P 500 is noted by the highlighted grouping. This would suggest that the median expected annualized real return for the market over the next decade would be about 5%.

In this next chart, Faber splits the data up into deciles instead. He notes a more precise trend of “great returns up to about 13, then decent returns up to about 20, then crappy returns over 20.” I personally just see a less convincing relationship. If there is such a strong correlation between lower ratios and higher returns, why should the fifth decile with P/E10 of 13 to 15 perform worse than P/E10s of 15 to 19? Hmm.

Finally, we have the actual data points. We see that although there is a nice trendline that can be created from such scattered data points, for any given P/E10 ratio there is a very wide variety of returns. Accordingly, in my humble opinion, I would be careful not to make P/E10 your main basis for setting asset allocations. It’s a nice idea that scores well in the common sense category, but in reality has been far from perfect.

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone, and has not been provided nor approved by any of the companies mentioned.

MyMoneyBlog.com is also a member of the Amazon Associate Program, and if you click through to Amazon and make a purchase, I may earn a small commission. Thank you for your support.


Free Year of Amazon Prime For Students (.edu email)

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone.

Amazon Student LogoAmazon.com has a new program called Amazon Student where you can get “exclusive deals”, the best of which is a free one-year subscription to Amazon Prime. This allows you to get the convenience of free 2-day shipping on most products (including textbooks and even some used books) with no minimum order amount. Usually costs $79 a year.

You can even keep your existing Amazon.com account, just click here, enter your .edu e-mail address, and click on the confirmation e-mail to activate. If you have an .edu e-mail, try it!

This is a really nice perk, and would go great with the Citi Forward® Card gives you 5 ThankYou® Points for every $1 you spend at restaurants and on entertainment, like bookstores, of which Amazon.com counts regardless of what you are actually buying at the bookstore. Up to 2% APR reduction when using credit wisely. This equates to 5% back in the form of gift cards at select retailers, or a 3.45% pure cashback return. Really, I’ve done it.  2,500 bonus ThankYou Points after spending $500 within the first 3 months of cardmembership and up to 1,200 bonus ThankYou Points for paying on time and staying under your credit limit. Watch your interest rate go down and your ThankYou Points go up.

See my Citi Forward review and rewards follow-up for more details.

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone, and has not been provided nor approved by any of the companies mentioned.

MyMoneyBlog.com is also a member of the Amazon Associate Program, and if you click through to Amazon and make a purchase, I may earn a small commission. Thank you for your support.


Inflation As a Hidden Tax Increase

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone.

With all of the current government spending, future promised spending, and the huge trillion-dollar budget deficit, there is a lot of talk about impending inflation. Many people are convinced that there is going to be a tax increase as a result, regardless of your political affiliation. However, this reminded me that we shouldn’t forget that the government can increase taxes without ever passing a bill, making you a new line on your IRS 1040 form, or even telling you about it. It simply has to keep pumping more money into the system.

The Wikipedia entry on “inflation tax” focuses on the idea of increasing prices and devalued currency as a increasing burden on people. But rising inflation itself is a hidden tax increase.

Let’s take a simple investment like a savings account or a bond earning an interest rate of 2% a year, but there is no inflation. Income tax is 25%. So you grumble about your low interest rates, pay your 2 x 0.25 = 0.5% in taxes, and keep the other 1.5% as your after-tax “real” return.

What if inflation is 3%, but you are slightly happier because you’re earning 2% above that for a total of 5%. Income tax stays the same, 25%. But now you’re paying 5% x 0.25% = 1.25% a year in taxes, and after 3% inflation you are left with 0.75% as your after-tax real return. Even worse.

Finally let’s say that inflation is now 6%, and you are still earning 2% above inflation. Income tax again is based on your nominal income, so you’re stuck paying 25% of that 8% interest. This leaves you earning 2% above inflation pre-tax, and then going and paying 8 x 0.25 = 2% in taxes. Your after-tax real return is now zero. You’re not making any money, it all went towards taxes.

All this could happen without ever raising the official income tax rate. This fact is sometimes brought up when talking about inflation-indexed bonds, but applies the same to all investment returns.

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone, and has not been provided nor approved by any of the companies mentioned.

MyMoneyBlog.com is also a member of the Amazon Associate Program, and if you click through to Amazon and make a purchase, I may earn a small commission. Thank you for your support.


Net Worth & Goals Update – July 2010

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone.

Net Worth Chart 2010

Time for another net worth update… last one was back in April.

Credit Card Debt
I used to take money from credit cards at 0% APR and place it into online savings accounts, bank CDs, or savings bonds that earned 4-5% interest (much less recently), keeping the difference as profit while taking minimal risk. (Minimal in regards that the risk was under my control.) However, given the current lack of great no fee 0% APR balance transfer offers, I am currently not playing this “game”.

Most credit cards don’t require you to pay the charges built up during a monthly cycle until after a grace period of about 14 days. This theoretically provides enough time for you to receive your statement in the mail and send back a check. As this is simply a real-time snapshot of my finances, my credit card debt consists of just these charges.

Retirement and Brokerage accounts
We recently converted our Traditional IRA balances to Roth IRAs, as the income restrictions were lifted this year. The choice to convert was rather simple for us, as we had non-deductible contributions that will now be able to be withdrawn tax-free. (We still owe taxes on very modest gains.)

Our total retirement portfolio is now $289,277 or on an estimated after-tax basis, $249,976. At a theoretical 4% withdrawal rate, this would provide $833 per month in after-tax retirement income, which brings me to 33% of my long-term goal of generating $2,500 per month.

Cash Savings and Emergency Funds
We are now a bit below a year’s worth of expenses (conservatively estimated at $60,000) in our emergency fund. This is after withholding some money for paying taxes on the Roth IRA conversion above, and also for undisclosed, one-time recent expenses. It’d be fun to say that we picked up a convertible or something, but the reality is much less exciting. 😛

Our cash savings is mostly kept in a combination of a rewards checking account (with debit card usage requirements), a SmartyPig account at 2.15% APY currently, or in a 5-year CD from Ally Bank, which despite the long term still provides a very competitive yield even if you withdraw early before the 5 years is up. (See here for more details.)

Home Value
I am still not using any internet home valuation tools to track home value. After using them for a year and finding them unreliable, I am back to maintaining a conservative estimate and focusing on mortgage payoff. If we get some positive cashflow after retirement savings, I do want to pay it down faster.

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone, and has not been provided nor approved by any of the companies mentioned.

MyMoneyBlog.com is also a member of the Amazon Associate Program, and if you click through to Amazon and make a purchase, I may earn a small commission. Thank you for your support.


New Credit Card Trend: Rotating Rewards, Swiss Army Style

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone.

When you charge something on your credit card, the merchant usually pays about 2-3% in transaction fees for the convenience and benefit of accepting these cards (it makes it easier for people to spend money with them). In order to get their specific card “in your wallet”, issuers often rebate part of these fees in the form of % cashback rewards or frequent flier miles. This makes sense, because many people with good credit and/or higher spending don’t carry balances so that the primary source of profits is from these transaction fees.

Swiss Army Knife

The trick for issuing banks, of course, is to offer as little rewards as possible yet still convince enough people as a group to use the card. The newest trend is to offer a high 3% to 5% back (more than they take in!) but only on a specific group of rotating purchases. Usually the rest earn 1% cashback. If you pay attention to the rules, this can make for some significant savings. I think of it as a Swiss army knife of credit cards; you just need to pick the right one for the job. 🙂 It might even be time to dust off an old card you don’t use anymore.

Here are some popular cards and their current rotating categories. Also, new cardholders can combine with current sign-up bonuses of up to $100 upfront.

Citi® Dividend Platinum Select® Visa® Card
Reward categories change quarterly. From April 1st to June 30th, you can earn 5% cash back on

  • Home Depot
  • Home Furnishing purchases
  • Home & Garden Purchases

After you get your card, you must enroll by logging into your account or calling 1-800-231-0891. There is no cap on the 5% back, except for the $300 overall cap on all dividend rewards annually. All other purchases do earn a standard 1% with no tiers, and rewards do not expire as long as you have activity once every 12 months.

Chase Freedom Visa – $100 Bonus Cash Back
Reward categories change quarterly. From January 1 to March 31, 2012 you can earn 5% cash back on up to $1,500 spent in the following categories:

  • Gas Stations
  • Amazon.com

You must enroll at ChaseBonus.com. All other purchases do earn a standard 1%, with no tiers or expiration of rewards. Currently, the Chase Freedom Visa – $100 Bonus Cash Back has a promotion offering a $100 check if you sign up and make $500 in purchases in your first three months.

Discover More CardDiscover More Card
Reward categories change quarterly. From January 1st to March 31st, you can earn 5% cash back on up to $300 spent in the following categories:

  • Gas
  • Entertainment

In September, you can also earn 5% cash back on up to $200 spent in grocery stores and drugstores. You must enroll online to activate the rewards each quarter. Discover card has a tiered cashback rate (1% unlimited Cashback Bonus on purchases after your total annual purchases exceed $3000; purchases that are part of your first $3000 earn .25%.).

PenFed Platinum Cashback Rewards CardPenFed Platinum Cashback Rewards Card
Bonus categories appear and change regularly for this card, but not on a set schedule.

You can view all the eligible merchants. You don’t need to enroll. This is in addition to the year-round rewards structure of 5% cash back on gas purchases (must pay at pump) and 1% cash back on everything else. Rewards are credited monthly on your next statement.

Note: To get this card, you must also have membership to the Pentagon Federal Credit Union (you can apply for both at the same time). In general, membership is open to the military, US government employees, or the family or household of existing members. However, anyone can become eligible by joining the National Military Family Association (NMFA) for a $20 one-time fee. PenFed also offers other competitive financial products, including low-rate mortgages and long-term CD rates.

In order to keep track of all these, I usually just cut off the top part of a Post-It note with the sticky backing, and use it to label each card in my wallet. Here’s a pic of one of my cards:

Citi Dividend World Mastercard Image
 

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone, and has not been provided nor approved by any of the companies mentioned.

MyMoneyBlog.com is also a member of the Amazon Associate Program, and if you click through to Amazon and make a purchase, I may earn a small commission. Thank you for your support.


Property Tax Assessment Appeals: Share Your Story

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone.

image credit:  governing.typepad.com

Another problem with escrows is by mixing it in with your mortgage payment, it can obscure what you’re paying towards property taxes and homeowner’s insurance premiums. Do you know how much you paid in property taxes this year versus the last? Or how much of each month’s mortgage payment goes towards taxes and insurance? I probably only knew within about $500 the annual total.

Property taxes are usually based on an quick assessment of how much your home is worth. However, local governments rely on these taxes to fund much of their services, so they have an incentive to keep this value as high as possible. With housing prices dropping, the number of property assessment appeals last year doubled in many states.

Should you appeal as well? Here are some quick tips on getting your property tax bill lowered:

  • You can find out how often your state does reassessments at this Tax Foundation page. It ranges from annually to 10+ years. For details on how your municipality calculated your assessment, contact your local tax assessor’s office.
  • Check your assessment and county records to make sure your land size, house square footage, and other information are accurate. By correcting these measurements, your assessment may automatically be lowered (or raised!) .
  • Collect documents that show your home’s value should be lower, such as recent sales of at least three comparable homes nearby. Try using real estate websites such as Zillow or Trulia. You can also see all your neighbors’ property taxes at PropertyShark.com.
  • Submit any reports by inspectors or contractors, or at the minimum photos, to prove that your home needs major repairs and is thus worth less. Also document any material changes such as easements, re-zoning, heavy traffic, nearby railroad tracks, or freeways.
  • If the amount is significant, you may decide to hire a lawyer or real estate appraiser to help you through the process. Many online sites have popped up that offer to do the legwork for a fixed fee of $100-$300. I have not used any of these sites, and don’t think they are necessary if you are willing to spend a few hours of your own time. If you decide to try one of them, please do your due diligence, and then let me know how it goes! Examples: EasyTaxFix.com, ValueAppeal.com, ReduceHomeTaxes.com.

Have you appealed already? Share your story in the comments below. I hope it’s a success story, but all experiences can be helpful to others.

Sources: AARP, ConsumerAffairs

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone, and has not been provided nor approved by any of the companies mentioned.

MyMoneyBlog.com is also a member of the Amazon Associate Program, and if you click through to Amazon and make a purchase, I may earn a small commission. Thank you for your support.


Paying Homeowner’s Insurance Yourself, Even With Escrow

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone.

In response to my earlier post on Should You Manage Your Own Mortgage Escrow?, reader James e-mailed me a trick he found to save some money even if you are required to have an escrow account:

Even if you’ve got an loan that requires an escrow account for the life of the loan, you can still save some money by beating your lender to the punch on payments. Most homeowners insurance companies provide a discount (about $50 in my case) if you pay your homeowners insurance premium yourself on-time or in advance. They get their money sooner that way. Payments made from escrow don’t usually post until 30 to 60 days past the actual due date.

You can make this payment using a credit card, and then provide proof of payment to your lender, who will then reimburse you from escrow instead of paying the insurance company. If you time it right, you can float the payment on a credit card as a regular purchase, and not incur any interest by paying it off as soon as you receive the payment from your escrow account. Presumably, you could do the same with property taxes.

I called my homeowner’s insurance company (State Farm), and they said they don’t offer such a discount. But maybe yours does?

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone, and has not been provided nor approved by any of the companies mentioned.

MyMoneyBlog.com is also a member of the Amazon Associate Program, and if you click through to Amazon and make a purchase, I may earn a small commission. Thank you for your support.


Housing Prices Are Still Too High, Says These Charts

My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone.

Housing prices. Are they still falling? Stable? Best time to buy ever?

Barry Ritholtz of The Big Picture thinks that housing prices have much further to fall. Here’s part of his analysis:

Today, residential real estate confronts numerous headwinds: Credit, once given to anyone who could fog a mirror, is now tight. Hence, demand is far below what it was during the past decade. Home prices are still unwinding from artificially high levels, and remained over-priced. Inventory is elevated. Unemployment remains high. A huge supply of shadow inventory is out there: Speculators and flippers who overpaid but have held onto their properties await modestly higher prices to sell. Bank owned real estate (REOs) continues to increase. We are barely halfway through a decade long foreclosure surge.

He also shares some historical data from 1977 to 2010 that support his view. The top graph below is home price appreciation divided by rent as measured by CPI. If the ratio is rising, it means that home price appreciation is rising faster than rent. If the ratio is falling, it means that rent is rising faster than home price appreciation. Then there is the price/income ratio, illustrated by the bottom graph below. In both cases, we are currently still above the historical mean.

From 1977 to 2010, the median US home price was 4.1 times median household income. But as the chart below shows, Home prices are still above that mean. Oh, and that mean is artificially elevated due to the 2002-07 boom. Same with home prices relative to rentals, or housing value as percentage of GDP. Further, we should not assume that prices will merely mean revert back to historic levels. In most markets, a near 3 standard deviation price move is resolved not by reverting to the mean, but by by careening far below it.


Data source: Ned Davis Research
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Should You Manage Your Own Mortgage Escrow?

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I recently got a refund from my mortgage escrow servicer, as my property taxes decreased. This reminded me about how I always used to read that you should manage your own escrow account. I don’t think I have a choice about the matter right now, but I tried to research all the pros and cons below. Did I miss something? Share your own reasons in the comments, and don’t forget to vote in the poll below!

Escrow Definition and Background
When you borrow money to buy a house, the lender holds your house as collateral in case you stop paying them back. However, in certain cases the lender can lose control of their collateral. If nobody pays the city and/or county property taxes, the local government can seize the house and become the first lienholders on the property. Similarly, if the house burns down or becomes flooded without insurance, then they’ll be in trouble too. This is why most lenders require the funds for these types of charges to be automatically collected each month and placed in escrow, until the respective bills are actually due.

Now, most homeowners of course want to pay these things, but as with other big bills, many people may not plan ahead and later find themselves unable to pay. Some lenders may allow you to manage these things for yourself once you reach a certain amount of home equity (loan-to-value ratio) or if you pay them a fee or a higher interest rate.

The Real Estate Settlement Procedures Act (RESPA) provides several requirements regarding escrow. The maximum “cushion” a lender can accrue is for 1/6th of the total amount paid out, or approximately two months of escrow payments. While some states require interest to be paid on escrow account, RESPA does not.

Reasons To Manage Your Own Escrow

  • Earn interest. This is the reason I hear most often. You pay out a lot of money ahead of time, when you could be earning interest on those funds instead. Even if you don’t have it as as lump sum, you could tuck away 1/12th of your insurance and tax bills every month on your own.
  • Avoid payment errors. Even though the whole point of escrow is to pay your taxes and insurance on time, escrow servicing companies still make mistakes occasionally, resulting in lost payments and big headaches.
  • Increase tax deductions. If you think that you will be able to itemize deductions in one year and not the next on your tax return, you may try to “bunch” deductions so that they end up in the preferred year and save you some money. For example, you could pay your 2010 taxes in January 2010, and your 2011 taxes in December 2010, so they both occurred in 2010.

Reason Not To Manage Your Escrow

  • You have no choice. Many lenders, like the Federal Housing Administration (FHA), require escrow for the life of the loan. Others, like PenFed only allows you to manage your own escrow once you reach a 75% loan-to-value ratio. If you’re shopping for a new loan, this is a possible negotiable item.
  • It costs too much. Some lenders will let you waive escrow, but only for a flat fee (possibly hundreds of dollars) or a quarter to half point (0.25%-0.5% of your loan value). That could be end up being a bad financial trade-off, especially if you don’t keep your mortgage for very long.
  • Simplicity and convenience. Hey, it’s one less thing to worry about, and your monthly expenses stay more constant. Technically, if you are short on your escrow, the servicing company will even cover the difference for you and just make it up over the next year. You can view it as a service provided in exchange for any lost interest. If your annual taxes and insurance premiums total $1,500, that is $30 per year at 2% APY, which even assumes that you lose an entire year of interest. Of course, interest rates may rise later.

Poll

Do You Manage Your Own Mortgage Escrow?

View Results

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My Money Blog has partnered with CardRatings and may receive a commission from card issuers. Some or all of the card offers that appear on this site are from advertisers and may impact how and where card products appear on the site. MyMoneyBlog.com does not include all card companies or all available card offers. All opinions expressed are the author’s alone, and has not been provided nor approved by any of the companies mentioned.

MyMoneyBlog.com is also a member of the Amazon Associate Program, and if you click through to Amazon and make a purchase, I may earn a small commission. Thank you for your support.