Personal Financial Management - Chapter 3

Question 0

403(b)

Answer 0

Typical retirement plan found in non-profit organizations such as schools and hospitals

Question 1

401(k)

Answer 1

Typical retirement plan found in most corporations

Question 2

457 plan (2)

Answer 2

Deferred compensation - meaning you are deferring or putting off compensation

Usually available to government employees

Question 3

529 plan

Answer 3

If you want to save more or if you don’t meet the income limits for an ESA, use a certain type of 529 Plan

Question 4

Custodian (2)

Answer 4

Parent or grandparent - that person is the manager until the child reaches the age of 21

At 21 (age 18 for UGMA), they can do whatever

Question 5

Direct transfer

Answer 5

Moving your money into an IRA account when leaving a company

Question 6

ESA (2)

Answer 6

Educational savings account - after-tax college fund that grows tax-free for educational uses

Eligibility is based on parents’ annual income

Question 7

IRA (5)

Answer 7

Individual retirement arrangement - tax-deferred arrangement for individuals with an earned income and their non-income producing spouses

Growth isn’t taxed until money is withdrawn

Contributions to an IRA are often tax-deductible

Good long term-investment

Everyone with an earned income is eligible

Question 8

Pre-paid tuition

Answer 8

Paying for college ahead of time by accumulating units of tuition

Question 9

Rollover (2)

Answer 9

Movement of funds from a tax-deferred retirement plan from one qualified-plan or custodian to another

Incurs no immediate tax liabilities or penalties, but required IRS reporting

Question 10

Roth IRA

Answer 10

Retirement account funded with after-tax dollars that subsequently grows tax-free

Question 11

SEPP (3)

Answer 11

Simplified employee pension plan - pension plan in which both the employee and the employer contribute to an individual retirement account

Also available to the self-employed

An SEPP-employed person may deduct up to 15% of their net profit in the business day by investing in an SEPP

Question 12

Tax-favored dollars

Answer 12

Money that is working for you, either tax-deferred or tax-free, within a retirement plan

Question 13

UGMA

Answer 13

Uniform gifts to minors act - legislation that provides a tax-effective manner of transferring property to minors without the complications of trusts or guardianship restrictions

Question 14

UTMA

Answer 14

Uniform transfers to minors act - law similar to the UGMA that extends the definition of gifts to include real estate, paintings, royalties, and patents

Question 15

What does pre-tax mean?

Answer 15

The government is letting you invest before taxes have been taken out

Question 16

Why should you NEVER borrow money from your retirement plan?

Answer 16

Because it will lose the growth rate if you do

Question 17

An IRA is not an investment, but…?

Answer 17

The tax treatment on virtually any type of investment

Question 18

What is a list of retirement plans? Which plan is NOT a retirement plan? (2)

Answer 18

401(k), 403(b), 457 Plan, IRA, SEPP

the 529 Plan is NOT a retirement plan

Question 19

Benefits of Roth IRAs? What is NOT a benefit? (3 benefits and one non-benefit)

Answer 19

Benefits:

• grows tax-free
• provides penalty-free withdrawals under certain circumstances
• more choices are available

NOT a benefit: unlimited contributions

Question 20

If your company provides a 100% match up to 6% how much should you personally contribute to your 401(k) if you earn $35,000 (not including the money the company contributed)?

Answer 20

$2,100 –> $35,000 x .06 = $2,100

Question 21

If you contribute $2,300 to your 401(k) and your company matches up to 3%, how much is in the account (assume you have not gone over the 3% match)?

Answer 21

$4,600 –> $2,300 (from you) + $2,300 (from company) = $4,600 total

Question 22

What is baby step 5?

Answer 22

College funding

Question 23

If carol and joe are debt-free, how much should they be investing in retirement plans if their combined income is $145,000? (2)

Answer 23

$21,750 –> $145,000 x .15 = $21,750

Invest 15% of your household income into Roth IRAs and pre-tax retirement plans

Question 24

Why worry about retirement when every worker pays into social security?

Answer 24

Social security isn’t guaranteed to everyone

Question 25

Explain how the rule of 72 works (4)

Answer 25

It’s a quick way to do compound interest problems in your head

It will show how long it will take to double your money at a given interest rate

Divide 72/interest rate (%) = years it takes to double your $ at __% rate

Can find interest rate needed to earn if you want your money to double in a specific amount of time - 72/years you want to double your money in = interest rate needed

Question 26

What are baby steps 1-5? (5)

Answer 26

1. Invest $1,000 in an emergency fund
2. Pay off debt
3. 3-6 months of expenses in an emergency fund
4. Invest 15% of household income in Roth IRAs and pre-tax retirement plans
5. College funding

Question 27

What does tax-favored mean? (2)

Examples?

Answer 27

That the investment is in a qualified plan or has a special tax treatment

Ex. IRAs, SEPP, 401(k), 403(b), and the 457 Plan

Question 28

The maximum annual contribution for more income earners is _____ as of 2008? Will it keep growing? (2)

Answer 28

$5,000

Yes, it will always keep growing

Question 29

Do NOT use… to fund your plan? (2)

Answer 29

A guaranteed investment contract (GIC) or bond funds

Should always be funding your plan whether your company matches or not

Question 30

Steps to completing baby step 4 (3)

Answer 30

1. Fund 401(k) or other employer plan up to the match
2. Above the match, fund both IRAs; if there aren’t any matches, start with Roth IRAs
3. Complete 15% of income by going back to your 401(k) or other company plans

Question 31

What kind of plan do you use for college funding?

Answer 31

Tax-favored plans

Question 32

Steps to funding college (4)

Answer 32

1. Save for college by using ESA “educational IRA”
2. Use 529 Plan if you want to save more or if you don’t meet the income limits for an ESA
3. Move to an UTMA or UGMA plan
   - it’s a good way to save with reduced taxes, but it’s not the best

Question 33

Never buy a plan that (2)

Answer 33

Freezes your options

Automatically changes your investments based on the age of the child

Question 34

More info on UTMA/UGMA Plans

3

Answer 34

The account is listed in the child’s name and a custodian is named

The custodian is the manager until the child reaches the age of 21

At age 21 (age 18 for UGMA), they can do whatever they please

Question 35

3 “Nevers” of college savings (3)

Answer 35

1. Never save using insurance
2. Never save using saving bonds (only earns 5-6%)
3. Never save using pre-paid tuition

Question 36

If you need college funds within 5 years.. use… do NOT use… (2)

Answer 36

USE the money market fund

Do NOT use the ESA