Bonds Can 'Insure' Your Retirement Plan Against Loss

Q My employer offers 401(k) plans through four funds, one of which is the Kaufmann Fund. Are my contributions insured through something like FDIC? I am 37. Will I be able to count on the money being there when I reach retirement age?

- L.C.

A Investments generally aren't insured the way bank deposits are - with a formal guarantee from the Federal Deposit Insurance Corp. that if your bank fails, you'll still get your money back, up to $100,000.

But a self-directed retirement program, such as your 401(k), may be privately insured against such losses, including theft from your account or the bankruptcy of the investment firm, says Joseph Lizzio, a vice president at Dean Witter Reynolds in New York.

Remember that mutual funds and other investments are not insured against the "market risk" of losing your money if stock prices fall.

Kaufmann, a small-company fund with a top rating from Morningstar and 20 percent average returns for five years, is down this year by about 2.4 percent, for example.

Mr. Lizzio notes one way to provide your own "insurance" against this risk: A contributor to a self-directed account can "marry his retirement plan to a zero-coupon bond." Say you have $100,000 in a plan, and you will retire in 30 years. You could kick $15,000 of your $100,000 into a zero-coupon bond earning 6 percent to 7 percent. When you retire, the bond will be worth $100,000. The other $85,000 can be invested in riskier investments such as stock funds.

Q As a retiree in Florida, do I need an "umbrella" liability insurance policy? All I have been able to determine is that in Florida your house which you "homestead" cannot be taken by litigation. Some other assets are protected. Can a savings account, certificates of deposit, or privately held lots be taken in litigation? My homeowner's liability clause provides $100,000 of coverage.

- H.C., O'Brien, Fla.

A According to a spokesman for State Farm Insurance Company, the home and a car are sometimes protected from seizure. "But that varies from state to state and sometimes within states," he says. You would need to check with a lawyer or your attorney general's office to determine whether other assets, such as CDs and landholdings, are protected.

If you have substantial financial assets, experts typically advise having their full value covered by an umbrella policy. Your homeowner's insurance would cover a $100,000 liability judgement, if the case related to your home. That level can be increased. State Farm will boost standard $100,000 coverage to $500,000 in Florida for about $33 extra a year. An umbrella policy would cover you more broadly, in increments of $1 million. The cost: $200 to $250 for the first $1 million, and less for each additional million.

Q My mother recently passed on. Since she lived alone for many years, she made me the co-owner of a small number of US savings bonds that she acquired with her own money. She lived in another town and kept the bonds in her safe deposit box. After her death I cashed the bonds, worth about $5,000, and turned over half the proceeds to my sister, her only other heir. Do I owe taxes on the interest from the bonds? And if so, do I pay taxes on the interest that accrued from the date she purchased the bonds or from the date she died and I became their sole owner?

- O.P., Chicago

A According to a spokesman for the Internal Revenue Service, you must first determine the accounting and reporting procedure used by your mother.

If she reported the income yearly, the amount of income up to your mother's passing would be included on her final tax return. You would pay taxes only on the amount of interest you earned after you received the bonds.

If, like most bondholders, your mother did not report the earnings annually, you have two choices: First, the surviving spouse or estate representative can include all earnings on your mother's final return up to the day of her passing. You would then pay federal taxes only on the amount of interest received by you after her passing and up until the time you cashed the bonds.

The second option: You can include all of the interest from the time she bought the bonds on your tax form and pay the tax.

See tax instruction form 550: "Investment Income and Expenses, Including Capital Gains and Losses." To get the pamphlet, call 1-800-TAX FORM.

Reminder, interest earnings on savings bonds are exempt from state and local taxes.

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