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Personal Finance
Broke but now cigar
July 24, 2000: 8:01 a.m. ET

A scientist who recovered from a bankruptcy finds he can live large a little
By Staff Writer Alex Frew McMillan
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NEW YORK (CNNfn) - Mike Heider has a good job as a material scientist, a decent salary at $72K a year, a new house to close on in 10 days and one ungodly blemish on his credit record.

He went bankrupt.

Heider calls it his "wrench." But it could have jammed up the works in any smoothly functioning financial plan.

A hard rain that was going to fall


Bankruptcy was a long time coming, frankly, Heider would tell you.

graphic"It's not something I'm proud of at all," he admitted. "But I've learned from it. I think I've grown from it. I've got things under control."

Since November 1997, when he filed Chapter 13, he's spent a long time fighting his way out. His debts should be discharged by the end of this month, he said.

Maybe it could happen to anyone. But it happened to Heider, and it happened like this.

When he was in school at Case Western Reserve University, in Cleveland, he had scholarships to pay the tuition. And he had plastic to pay the rest.

"I got credit cards, and I would charge everything I wanted on them," he recalled. Heider, now 28, got a bachelor's in material science and engineering in 1994. In 1997 he finished his master's in the same subject. Then he got a job at a factory in Detroit.

"When I went to work in Detroit I was still doing that," racking up the credit-card bills, he said. And there were casinos calling from across the border in Canada.




Checks & Balances runs weekly on CNNfn.com. People with questions about financial planning are invited to write in explaining their financial picture and short- and long-term goals. See the bottom of this article for specifics. For those selected, financial planners will review the details and suggest ways to meet those goals.




"I started gambling, to try to cut down on the debt," he remembered. Blackjack and roulette, mainly. It didn't go well.

By the end of the year, he was in Chapter 13, which meant all his debts were suspended and he didn't have to pay interest. He did have to pay his debts back, though.

They're getting paid in full


Heider will finish paying all his creditors in full, in fact, he said, or at least the ones that filed claims. Two credit-card companies he owed money to failed to respond to his bankruptcy filing. He hasn't called to find out why. Other than that, he says he didn't miss a payment.

Now he has a new life.

graphic"I left Detroit, because I heard they were bringing casinos to the town itself," he said. It was time to escape temptation. He moved to Myrtle Beach, S.C., to work as a metallurgist at a Honeywell plant for a while.

This May, he switched jobs again. He moved to Warsaw, Ind., where he works as a material scientist in a division of a large U.S.-based health-care products manufacturer. Because he has had three full-time jobs since 1997, he wants to settle down for a while.

He pays his two credit cards off each month. When he moved to Warsaw, he decided it was time to buy a house. He figured it would be at least seven years before he could qualify for any kind of home-loan, though, because he would have to wait for his bankruptcy to be expunged from his record.

Dealing with his retirement plans


He was wrong. "I was amazed I qualified for an FHA loan," he recalled. The Federal Housing Administration gave him a 15-year mortgage, at 8 percent interest. In all, the 1,600-square-foot house, which is in Warsaw's neighboring town of Winona Lake, cost $113,500. He put down 3 percent, or $3,405.

He hopes to close in a week and a half. Fortunately, the appraisal on the house came in at $118,000, so he already has some equity, without yet owning his place. That has helped reduce the Private Mortgage Insurance he has to pay.

He is not yet eligible for the 401(k) at his current employer, where he must wait a year before joining. Once eligible, Heider plans to max out his contribution and get the full match - 75 percent of the first 6 percent he pays in.

He has a balance of $27,000 in the 401 (k) with his former employer that he wants to roll over. But because the company match was in Honeywell (HON: Research, Estimates) stock, which took a spanking in June, he is waiting for it to rebound before he does that.

A little left over to invest


He did withdraw $7,000 to cover his closing costs. After tax penalties, he wound up with $4,900 in cash. He wants to close on his house and then come up with the full $7,000 before his 60-day deadline for him to roll the money into an IRA expires. He would then have $7,000 in an IRA that he plans to convert to a Roth.

On top of the $72,000 salary, he is up for a bonus of up to 10 percent. He assumes 3.5 percent just to be safe. His house payment will be around $1,300 a month, including taxes and so on.

Heider estimates he only spends around $1,000 a month on food, utilities and gas. He has a girlfriend who lives three hours away from Warsaw, so he does a fair bit of driving.

So he wants to buy a nice car to replace the Saturn SL2 he bought new back in 1994. Maybe a Sebring convertible or a Saturn LS, he thinks. He will also have around $5,000 a year to invest, over and above his costs, as well as $2,000 a year he plans to contribute to his Roth IRA each year.

"I am looking for advice regarding the tax consequences of my plans," he writes. He also wants ideas on deploying his surplus income. "Would I be best-served to invest this aggressively in the stock market - no day trading - or to pay down my mortgage faster, and have more equity in my home?"




What the planners say:


"Mike Heider is on track to having a very comfortable life, if he stays on the course that he has set," said Chris Dalto, a financial planner with Newton, Mass.-based Delessert Financial Services who also has an MBA and a J.D. law qualification.

Heider makes an above-average income for his age that should increase, and he has a nice nest egg that has plenty of time to grow before he retires, Dalto explained.

But Dalto still notes several areas for improvement. Off the bat, he points out that Heider's choice to "invade" his 401(k) to cover the down payment on his house is "a very aggressive move."

He has to make sure he covers the $7,000 disbursement within 60 days or he will have a 10 percent penalty to pay, and the distribution would be classed as ordinary income. That would make it "a very expensive proposition," Dalto said.

Mortgage vs. invest? Invest!


Dalto also recommends that, when Heider rolls the money into a rollover IRA, he keep it separate from his other funds. That way, he could convert it back to a 401 (k) with a future employer if he wanted to, Dalto said.

Heider wonders whether to invest the surplus $5,000 in annual income he expects or to pay down his mortgage.

"This is a common question that always gets the same answer," says Will Hays, a certified financial planner in Collierville, Tenn. Investment returns, particularly in stock, vary greatly, and Heider can try and choose wisely. But his home value will increase or decrease regardless of the equity he has in it.

The home value "is dictated by real-estate factors and is totally beyond your control," Hays continued. His mortgage is fixed at 8 percent. "As long as he can earn over 8 percent on his investments, he would be wise to invest the $5,000 annually."

Roth conversion makes cents


Though Hays points out that stock returns aren't certain, the S&P 500 has easily outpaced 8 percent over the last 10 years. If Heider invests $5,000 a year for 10 years, that amount could grow to $150,000 or so, given past returns and compounding, Hays said.

After 10 years, Heider could use that money to pay off his mortgage then, "or for whatever Mr. Heider wishes," Hays said. "This could also serve as Mr. Heider's emergency fund."

As far as the tax consequences of his retirement plans go, Heider is wise to roll his Honeywell 401(k) into an IRA, then convert it to a Roth IRA, according to Dalto. Heider will have to bear the brunt of the conversion costs now in the form of tax. But Dalto said it's worth it, if Heider can afford to convert now.

"The additional tax upfront would be more than offset by more than 30 years of tax-free growth in the retirement account," Dalto said.

Dalto recommends that Heider convert now rather than wait for Honeywell's stock to rebound. Major discount brokers such as Charles Schwab and Fidelity let you transfer stock into a rollover IRA without having to sell it, Dalto pointed out.

Use the Roth now while you can


Hays commends Heider for using the Roth IRA, which means he'll get tax-free distributions at 59-1/2. Now is the right time, according to Hays. Single investors can only invest the full $2,000 in a Roth when they earn less than $95,000, and the Roth IRA benefit ends entirely for single people if they make more than $110,000. So Heider may not always be able to use it if his pay goes up.

Other than that, both planners agree stocks are the right way for Heider to invest. He's young and able to weather the ups and downs of the market, with 30 years or so before he retires. What's more, long-term capital gains of 20 percent are lower than his current tax bracket, so income earned from long-term stock investments is better than his salary, Hays said.

Dalto would like to see Heider use stock mutual funds rather than individual stocks, to help him diversify. The planner recommends he put at least 80 percent of his investments in equity funds, more if he can stomach the risk, with two-thirds of the stock money in growth funds.

Some funds to mull


He might want to form a core portfolio with the Harbor Capital Appreciation fund (HACAX) for a large-cap growth fund and the Selected American fund (SLASX) for a large-cap value fund, Dalto said.

The remaining third he should put in mid-cap and small-cap funds, Dalto said. Dalto recommends the Weitz Value fund (WVALX) for mid-cap value stocks and the RS Diversified Growth fund (RSDGX) for small-cap growth stocks.

Investing is also a good option because of his bankruptcy, according to Hays. Investment money is pretty liquid, so Heider could get to it in an emergency. That's not true of equity in a house.

His bankruptcy also means he needs to monitor his expenses carefully, Dalto said. The planner recommends that he set up online bill paying so he never misses a monthly bill. Heider might want to consider buying a year-old car to keep costs down, too, Dalto added.

Otherwise, Heider is in good shape now, the planners both believe. "Mike has the potential to be financially independent in retirement," Dalto said. "If Mike is able to consistently maximize his contributions to his retirement plans over his career, and do that by not going into debt, he will have a very comfortable financial life."

"He seems to be in a good position to cover all of his current obligations, as well as provide himself security for the long term," Hays added.

* Disclaimer




Got questions about financial planning? Need some advice? CNNfn.com has organized a panel of outside experts to answer your questions. If you want to be considered for the "Checks & Balances" column, where professional planners suggest ways you can manage your money, send us an e-mail at checksandbalances@cnnfn.com. Include information about your age, occupation, income, assets and monthly expenses -- imagine you're providing a full income statement and balance sheet. Also, share with us any short-term and long-term financial goals you may have. And don't forget to leave your phone number. Back to top

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Most stock quote data provided by BATS. Market indices are shown in real time, except for the DJIA, which is delayed by two minutes. All times are ET. Disclaimer. Morningstar: © 2018 Morningstar, Inc. All Rights Reserved. Factset: FactSet Research Systems Inc. 2018. All rights reserved. Chicago Mercantile Association: Certain market data is the property of Chicago Mercantile Exchange Inc. and its licensors. All rights reserved. Dow Jones: The Dow Jones branded indices are proprietary to and are calculated, distributed and marketed by DJI Opco, a subsidiary of S&P Dow Jones Indices LLC and have been licensed for use to S&P Opco, LLC and CNN. Standard & Poor's and S&P are registered trademarks of Standard & Poor's Financial Services LLC and Dow Jones is a registered trademark of Dow Jones Trademark Holdings LLC. All content of the Dow Jones branded indices © S&P Dow Jones Indices LLC 2018 and/or its affiliates.