FINANCIAL PLANNING BEFORE THE BABY ARRIVES
The wedding is over and the honeymoon occurred a couple months ago. And, now a young couple finds themselves with a baby on the way. Much like planning for a wedding you plan for having a baby. It can cost over $300,000 to raise a child. Here comes on of the toughest challenges that young couples will face: managing their finances. What a young couple should do right away to start planning financially for their new baby are:1. To be on the same financial page. Young couples must communicate expectations and financial habits. Beginning to set up financial priorities by answering questions, such as: Which is more important, begin saving “baby” money so when the baby comes we’ll have the funds ready to cover the baby’s needs for awhile, or take a vacation? Which is more beneficial: daycare or “grandma/grandpa” daycare? By constantly keeping the communication line open will a young couple know what to expect. 2. Assess your financial situation. Don’t fail at budgeting. Know how you are handling the families hard earned income before the baby comes, so, you can make the adjustments. Here are some small changes couples can make before the baby arrives:i. Evaluate your household financial picture. Sit down together and write down everything you owe and what you spend on every month. If they are using software programs like Quicken, or Mint (a free website for managing finances, www.mint.com) then it should be much easier. How much income is earned and what are the expenses? What household expenses (food, dining out, entertainment, utilities, cell phones, and other services) can you trim? Assess if there are any expenses you can live without and allocate those funds toward your debt that needs to be paid off and the household emergency account.ii. Evaluate what purchases are important to your family’s goals. Is the purchase being done on credit? If so, is it a good debt (potentially increase value like buying a home or getting a higher education) or bad debt (no way of benefitting the parents-to-be)? If you do purchase bad debt, then make sure you can pay it off in less than 6 months.iii. Speak to your CPA if you can increase your withholdings exemptions before the baby is born. You may get less back in your tax return. Although, you will gain a little extra cash to save towards the baby expenses.3. Setting up the right financial structure for your family. Begin prioritizing your savings. Your early 20s you may not be thinking about retirement but that mindset will have to change, especially with a baby on the way. Having investments, college savings, retirement accounts, emergency fund, and a baby account for baby’s expenses are all important. Here’s how a young couple can prioritize: i. Before the baby arrives take advantage of increasing your contributions to your retirement accounts, whether it’s your Roth IRA or 401(k) it doesn’t matter. After the baby arrives you may have to decrease (but never stop) your contributions to allow for a little more money (if you are tight with money) in the household wallet. As you earn more money you will increase those contributions. ii. Secondly, set up an emergency fund for the household. In case of a rainy day comes along, you will better prepare. iii. Third, set up an account just for baby expenses. Decide how much will be contributed per month. This way you will start with some money for the baby before the baby arrives. Here’s an idea: shop around for how much it will cost to support a baby. How much will diapers cost, formulas, baby food, baby persona hygiene, baby furniture, and baby clothes? Have some money stocked away before the baby arrives.iv. Now, the ultimate question: Do I save for my baby’s college expense or my retirement? As the old adage goes, “You can get a loan for college. You can’t get a loan for retirement.” Honestly, after the child graduates, you can always help them pay down their student loan debt. Saving for retirement is first and savings for college is second. Do you want your kids to support you during retirement? There are other ways a child can pay for college.4. Assess your insurance. Evaluate your life, disability and health insurance. a. Life insurance is cheaper in your 20s. The cheapest form of life insurance is “term” insurance. It provides only insurance as oppose to “permanent” insurance policies that offer cash value for potential tax free money later in life. Make sure you can convert your term insurance to a permanent insurance as financial needs will change in the long-term. If a death occurs to one of the parents what financial hardships would result to the dependents? If a stay-at-home parent dies prematurely, you may have to hire for a full time child care. Getting life insurance through your job is not enough. What if you lose your job? It’s not portable. Speak with a life insurance professional to help you meet your insurance needs.b. Disability- Review your short-term disability policy for pregnancy and maternity leave through your employer or if it’s through another insurance company. This is an important step because the mother may want to take some time off after the baby arrives. The maternity leave benefit may greatly exceed the premiums you pay. Typically, you would have to be enrolled before conception. Also, in case you may become disabled do you have disability coverage? What will be your source of income? You are more likely, statistically, to get injured than die while working. c. Health Insurance-Some health insurance policy have a Reimbursement for Qualified Dependent Daycare expenses. A dependent day care account is set up using your pre-tax contributions to cover the day care expenses. In addition, you may be eligible for Dependent tax credit. Generally, the tax credit is designed to become less valuable as your income increases, while the Dependent Day Care Account becomes more valuable as your income increases. You should determine if it is to your advantage to take the tax credit for dependent day care expenses or pay for them through a Dependent Day Care Account. Get assistance from your CPA or Tax Advisor for the best approach for your financial circumstances.5. Work vs. Stay at home. Things to consider: What happens if one of the parents decide to stay at home to raise the child? Will you remain on track towards your financial goals? Will it hurt your financial structure? If one of the parents does decide to stay at home, don’t forget about contributing to your retirement with spousal IRA. The non working spouse can still have a retirement account set up and contributions are made by the working spouse. Another consideration is if one parent does decide to stay at home, what benefits will be lost, if any? Can your family live on one income? 529 plans: Every state sponsors a 529 plan and, typically, one is managed by a brokerage such as Fidelity or Vanguard. For instance, California plan is managed by Fidelity and it’s called ScholarShare College Savings Plan. All 529 plans provide tax free withdrawals if it’s used for college expenses. You can participate in any state plan and it will not affect where your child attend school. Most plans allow for a minimum of $25 a month contribution.Even in this shaky economy 529 plans are still a good choice. Low expenses and plenty of investing options are two things you should focus on when making your choice. The earlier you start (even if they are just in the crib), the better. 529 plans are controlled by the parents and can be shifted to another beneficiary if the child for whom the account is intended for decides not to go to college. Keep in my mind that 529 plans are considered parental financial assets. As parents you may be eligible for state tax deduction if you use your home state 529 plan. You can rollover from one state’s 529plan to another and you will not incur any taxes or penalties.In addition, as a young couple can consider a Coverdell Education Savings Account. No more than $2,000 can be contributed to the account, but the money can be used for any education expenses. The distributions are tax-free as long as they are used for qualified education expenses at the educational institution, such as a private, public, religious schools, college/universities, and vocational school. The Hope and lifetime credits can still be claimed in the same year the tax-free distributions taken. Keep in mind, the distributions can’t exceed the qualified education expenses because that portion will be taxable and subjected to an additional 10% tax. A few more additional information:
Website: www.babycenter.com. Great website for more advice on parenting, child’s health, pregnancy, etc.
Setting up a Will- who will have custody for your child(ren) should both parents pass away. Setting up wills and trusts are not just for large estates. This is something you should keep in mind.
Baby Showers are great. You can set up a baby registry at Target or Walmart. Your friends and family can purchase those gifts for the baby. It’s a good way to get a head start for what your baby will need. Don’t overspend on the baby. Many parents get caught up on spending on the latest baby clothes trends. If you think about, they outgrow their clothes every six months; so it seems to me. So, what’s the point of going overboard on baby clothes. Don’t spend $800 on a baby crib when they will outgrow the crib. Parents too often feel everything needs to be perfect or that their baby has to have this and that. When in reality does a baby really know the difference between hand-me-down clothes vs. designer clothes? The time spent with your baby is more important. Yes, finances are just one piece of the puzzle. But, if you prepare ahead of time, you won’t be so stressed. And there’s no financial product that will give you more time to spend with your baby.