YOUR MONEY: How to invest a pension lump sumFor anyone who's been laid off and is contemplating how to fend for their financial future, this week's question will hit home. It's answered by Cynthia S. Meyers, a certified financial planner and one of our online "Ask the Experts" writers.
By: Claudia Buck, McClatchy Newspapers
For anyone who's been laid off and is contemplating how to fend for their financial future, this week's question will hit home. It's answered by Cynthia S. Meyers, a certified financial planner and one of our online "Ask the Experts" writers.
Q. I am 49 and recently laid off. My husband is employed and we need advice on what to do with the pension from my former employer. I selected a cash-out option, since I will have a small pension from another employer. I can roll this cash into a traditional IRA but wonder if there is a different way to invest this money?
We have no debt, except for our $240,000 fixed-rate mortgage. I have a 401(k) valued at $100,000 and a variable annuity of $120,000. My husband has an $80,000 IRA and a smaller one at our bank. We have a joint stock plan of about $10,000 and a 529 plan for our son, who is 10.
I wonder if investing the $43,000 pension monies into a business for me wouldn't be a good idea. No one is hiring right now, unless I work for 50 percent to 70 percent less than I was earning. Is there a way to avoid tax penalties if the pension money went into starting a business?
My husband is risk-averse so I also wonder if buying some rental property would be an option, instead of investing in a business? I heard there are ways to structure an old 401(k) as a real estate IRA (buying specific properties we would manage). I had also thought about using some of the money to help fund our household expenses while I get my master's degree. Help!
A. You are to be commended for stepping back and trying to identify opportunities that may bring a brighter future for you and your husband.
There are two separate issues here: 1) what to do with your pension; and 2) what your next job will be.
In thinking about work opportunities, do not forget that you still must continue planning for your retirement years. Your pension is an investment for your retirement, therefore, it should be considered only a last resort for funding your next career goal. If you do not roll your pension into an IRA, you will be subject to federal and state taxes and penalties. Undoubtedly, there are ways to avoid those penalties and taxes, but the maneuverings do not seem worth the risk to your investment dollars.
Since you've already chosen the cash-out option for your pension, I recommend you roll this money into an IRA in an investment that would diversify your overall portfolio. A low-cost mutual fund would be a good choice.
You mentioned purchasing real estate within your IRA. While this might help diversify your investments, holding real estate in an IRA is not recommended, because:
—The annual IRA trustee costs for a self-directed IRA, which is needed for real es-tate property, are expensive.
—You lose the ability to do a tax-free exchange to another property.
—You lose the capital gains tax benefits of real estate since future IRA withdrawals are taxed at ordinary income rates.
—Failure to follow the sometimes complex rules could result in costly penalties and taxes.
Regarding your next job, you now have time to seriously focus on work. Do you want to stay in your profession because you enjoy it, or do you want to change? If getting a master's will help in your own profession or in running a future business, it's an excellent idea, assuming you have the cash reserves to pay for the degree or can afford to take out a loan.
Running a business may provide future opportunities if you understand the risk. It's best suited for those with the temperament to withstand irregular income and who have experience or education suited to starting and operating a business. Some people fail because business skills are very different from the technical skills needed in one's field of expertise. In the first few years, you could easily find yourself earning less than 50 percent to 70 percent of your current income.
Like many things, running a business looks easy and attractive from the outside, but it can be a lot of work. Make sure it is something you really wish to tackle.