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On money

Personal Finance editor
huntley

HELEN
HUNTLEY

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By HELEN HUNTLEY, Times Staff Writer

© St. Petersburg Times
published July 14, 2002


Big risk accompanies quick returns for retirement

Q. I would like to retire in three years when I turn 62 and wondered if you could recommend some investments that have a history of paying dividends in the 6 to 10 percent range.

A. I can't get specific, but real estate investment trusts, utility stocks, preferred stocks and high-yield bond funds are the places to look for the kind of yields you are talking about.

Before you start shopping, close your eyes and repeat after me: High yield equals high risk. If one investment has a higher yield than another, there's a reason for it. Make sure you fully understand that reason and are comfortable with the risks you are taking before you invest your money.

Then diversify your investments to spread your risk. In addition to avoiding overconcentration in any single company, avoid having too much in any single sector. Often when one company gets into trouble, others in the same industry see their share prices pummeled.

Forget about buying individual high-yield corporate bonds. They are appropriate only for wealthy investors who are capable of analyzing the risks and who can afford to lose their entire investment if things don't work out. Mutual funds diversify broadly, reducing the risk that a disaster like WorldCom will decimate your portfolio.

Finally, remember that interest rates and prices operate like a seesaw. When rates declined, prices of bonds and high-yielding stocks rose. If they go back up as the economy recovers, the reverse will occur.

* * *

Q. When I completed my tax return this year, I was disappointed that a good portion of my Social Security income was taxable. I know it depends on how much other income one has. Can you tell me how interest from EE or I savings bonds is treated in this calculation? The IRS Web site mentions only the exclusion of bonds cashed for educational purchases, but I seem to remember reading that other savings bond interest is excluded too because the bonds are tax deferred. Can you explain?

A. One of the benefits of both EE and I bonds is that you can defer taxes on your interest earnings until you cash the bonds. As long as the interest is accumulating and you are not reporting it on your tax return, it will not affect your Social Security benefits. When you cash the bonds, it will.

That's probably all you need to know, but I want to explain a little more about savings bond taxation. Although they rarely choose it, savings bond owners do have the option of reporting and paying taxes on their interest income annually without cashing their bonds. This complicates tax return preparation because you have to figure out how much to report, and you have to keep good records of what you've already reported.

If you choose annual reporting, you have to do it for all your savings bonds now and in the future. Then if you want to change back to deferred reporting, you have to get IRS approval. To top it off, you risk the possibility of double taxation if you or your heirs forget that taxes already have been paid and pay them again when the bonds are cashed.

So who might choose this option? People whose other income is so low that they can declare the savings bond interest without having to pay taxes on it.

* * *

Q. Could you tell me the maximum contribution to an individual retirement account for 2002?

A. Sure. It's $3,000 if you are under 50, or $3,500 if you are 50 or older.

Online money map

T. Rowe Price has added a college planning calculator to its Web site (www.troweprice.com). Click on "investment tools," then on "college investment calculator." You can use national average costs for public or private colleges or select estimated costs for the school of your choice. The calculator shows how much you need to set aside as a lump sum or save monthly depending on how certain you want to be that you can meet your goal.

-- Helen Huntley writes about investing and markets for the Times. If you have a question about investments or personal finance, send it to On Money. We'll try to answer those we think are of greatest reader interest. All questions must be submitted in writing, but readers' names will not be published. Send questions to Helen Huntley, Times, P.O. Box 1121, St. Petersburg, FL 33731.

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