Making good on a bad real estate bet

The Wades: Heather, 32, Todd, 40

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Goals • Sell their real estate property • Prepare for a bigger family • Prepare for retirement Assets • $180,000 in real estate equity • $58,000 in retirement savings • $24,000 in a taxable portfolio • $8,000 in checking

Recommended portfolio This mix exposes the Wades to foreign stocks, commodities and real estate • International 25% • Large-cap 20% • Small-cap 20% • Real estate 15% • Bonds 10% • Commodities 10% Strategic picks • Vanguard Intl. Value (VTRIX) • Pimco Comm. Real Return (PCRDX) • Vanguard Value Index (VIVAX) • Vanguard Small Cap Growth (VISGX) • Vanguard Growth Index (VIGRX) • Vanguard Total Bond Market (VBMFX)

(Money Magazine) -- With a six-figure household income and good prospects, Heather and Todd Wade are off to a decent start in realizing their financial goals. But a few years ago, the young couple tried to speed things up by dabbling in real estate.

"I started messing around because everyone seemed to be doing it," says Todd. Guess how that turned out?

After flipping an investment property near their Baltimore home in early 2006 for a tidy profit of $40,000, Todd, 40, and Heather, 32, got the bug. In April 2006 the Wades bought a run-down house in a questionable Baltimore neighborhood for $62,000. So far the project has produced a lot of pain but no profits. "It just took us a little longer to get this house in order, and we missed the window," says Todd.

Now the Wades, who recently had daughter Madeline but plan to have another baby and adopt two more children in the next several years, wonder if their error in timing the real estate market may have set their finances back just as they're hoping to expand their family.

The Wades are still actively looking to sell their property. But in Baltimore's slumping real estate market, they aren't expecting much of a profit. What's more, they're not even sure what to do with the proceeds from an eventual sale.

Thankfully, Heather, a pediatrician, recently joined an area medical practice and now makes $100,000 a year - more than double what she earned as a resident. And Todd, a high school Spanish teacher, pulls in $70,000 a year.

But their savings are almost tapped out. And in addition to the mortgage on their primary home, they owe more than $100,000 in medical school loans. So the Wades, who are stuck paying $750 a month in mortgage and utility bills on their flip, could certainly put that money to better use.

Though their property is on the market, J. Patrick Collins Jr., a financial planner with Greenspring Wealth Management in Towson, Md., suggests the couple rent it to generate income while waiting for the right moment to sell.

The Wades say they can't stomach the idea of being landlords, but they're willing to compromise. If they can't sell it in a few months at a price that lets them recoup most of their investment, they will consider renting it. But they say they'll hire someone to manage the rental.

Fix their financial foundation Once they rent or sell the house, Collins recommends they increase their emergency fund to about $20,000, or six months of essential expenses. This shouldn't be too hard given their rising incomes.

Diversify their mix In addition to the $58,000 in their retirement accounts, the Wades have $24,000 in five Vanguard mutual funds. But the bulk of that is invested domestically.

Collins says they should add a foreign fund, like Vanguard International Value (Charts), to the mix. And though commodities have had a great run, he says, a small allocation to a fund like Pimco Commodity Real Return Strategy (Charts), which seeks exposure to things like oil and copper, can help reduce gyrations in their portfolio.

Similarly, though the Wades have had their fill of real estate, they still need a small dose of it in their portfolio for diversification, Collins says. As a teacher, Todd can buy a low-cost TIAA Real Estate annuity, which invests in office and retail properties.

Start saving for school Baby Madeline is just seven months old, but it's never too soon to save for school. Collins says the couple should explore the possibility of freeing up more cash by dumping an expensive whole life insurance policy and purchasing 30-year term coverage instead.

He suggests they go to reliaquote.com to search for low-cost policies with an established insurer. They should then open a 529 college savings account for Madeline.

Says Todd: "We need to afford the adoptions and be able to support all of our children."

--Want a money makeover? E-mail us at makeover@moneymail.com.