Help a Reader: Investing Cash

Here's an email I recently received from a reader:

I have saved money for my children's college education ($60,000) and sadly my oldest son is unable to go to school full time due to some health challenges.  He went very part-time last year and may be unable to go next year.  My second son will be going to college hopefully in another year.

I also have a tax fund of $128,000 which I will need to pay to IRS in April 2012.  It is due to the IRS from my husband's self-employment.  We are paying our quarterly estimates based upon last year's income tax return and are holding onto this money until we have to pay.

We are wondering where to invest both the $60k and the $128k for complete safety (the principal cannot be lost) and still get a good return.  I am estimating that I would need some portion of the college fund by next August 2012 and tax money by April 2012.

I was thinking of VPAIX which is a PA tax free municipal bond fund. Should I invest here or elsewhere?

What's your advice for her?

Comments

[Old Limey]

"We are wondering where to invest both the $60k and the $128k for complete safety (the principal cannot be lost) and still get a good return."

There is no attractive short term investment available that will be 100% safe and yet still provide a good return. The best short term FDIC insured CDs on Fidelity's website in the 6 mo. to 1 yr. range yield in the vicinity of 0.2% to 0.3% per annum.

All mutual funds fluctuate, municipal bond funds included. Your best bet is a credit union savings account, mine is yielding 1%, there are others yielding more but they have various strings attached.

[Roy]

I keep may cash that I need liquid and insured at Discoverbank.com with 1.15 APY. Cash that I can risk, but may need access to is at Lendingclub.com.

[Texas Wahoo]

"I was thinking of VPAIX which is a PA tax free municipal bond fund."

Municipal bond funds are certainly not completely safe. The underlying bond values and fluctuate and some bonds may be defaulted on - causing the bond fund value to fluctuate.

[Brent]

Ally Bank-5year high yield CD with interest rate 2.34%.

They only charge you first 60 days interests when you do early withdrawal. Plus, you can open multiple CDs at the same time(no minimum required), and only withdraw one at a time.

When you log in to your account, it shows you how much interests you've accrued, and the current redemption amount.

[Brent]

Ally 5 year high hield CD @2.34%:

$188,000*2.34%=$4,399.2(1 year interests)
July2011-March 2012 (9 months total)

(4,399.2/12)*(9-2months penalty interests)=$2,566.2 (9 months total interets earning)
(2,566.2/188000)/(9/12)=1.82% (9 months interest rates)

If you don't feel right to break CD, here's another option
Ally 11 month NO PENALTY CD @1.12%:
($188,000*1.12%)/12*9=$1,579.2 (Total interests earning)

[Bob]

I Bonds for 20,000 (assuming 2 people), with Ally Savings account for the balance. You will have zero risk to the principle and net more than most CDs while avoiding state and local taxes on the 20k in I Bonds.

Also you could consider a rewards checking, sometimes these have short term teaser rates that would fit into your time frame and would be FDIC insured. I would check local credit unions first for ease of access.

Another option would be to buy Treasury Bills and work it as a reverse ladder having them all pay out on the date you need money. Would use I Bonds for the first 20K with this also.

[Bill]

I'm in a very similar situation, I underpay my taxes just enough to avoid a penalty and then pay off the shortfall in the spring. I think you need to quantify exactly how much risk you are willing to take. I can't imagine you are under paying your taxes by 128k in one year and would be really effected if you lost 1k on the money you were setting aside. That said you're right to avoid most risk for that short of a time frame. An ultra short muni fund might be appropriate but the VPAIX you listed is a long duration fund, long duration means more risk, it's not a good option.

As others have mentioned there isn't anything very interesting that is very short term investment. Treasury bills would be a very bad idea, one year bills are pricing at .19% this morning. You could search for an ultra short muni fund but I'm not sure that its worth the effort. You're talking about $500-$1000 total extra return if you do this perfectly. The 5yr callable CD Brent listed above requires no work and no thought, I'd go with that for simplicity's sake.

[Jim]

I like Brents idea to go with the Ally CD.

[V]

This is a little off topic, but wow $128k in more taxes compared to last year? That is huge, congrats!

If you aren't already doing so, I think you should focus much more on your husband's tax bill and if there is anything you could do or have the time to help him in any way to grow or maintain his business. You can greatly reduce your self employment taxes by using retirement accounts and setting up corporations. If you aren't already doing this, I think you should definitely go talk to a professional about it, it could save huge huge amounts of money.

If it were me, I would just put the 60k + 128k in a normal savings account so you have easy access to it, and focus on the huge tax bill and your husband's biz. Even really really small changes to that kind of huge tax bill and income level will save/earn loads more than a few extra tenths of a percent on 190k.

[No Debt MBA]

A Solo 401k if you don't have one, is a huge tool in reducing taxes for self employed people (off topic here). You can defer up to $49,500 if I remember correctly depending on your SE earnings. Both Fidelity and Vanguard offer them.

[Bill]

I have an SEP (simplified employee pension) with Fidelity, it took about 15 minutes to set up. They are designed for small businesses to provide to employees but a self employed person counts too, you are employing only yourself. You can fund it up approximately 20% of your income or $49,000 whichever is lower. You can put in money up until April 15th of the following year.

[Jonathan Goldstein]

I assume you're in PA since you're considering a PA mutual fund. Consider a Go Green checking account at East River Bank in Philadelphia:

https://www.eastriverbank.com/home/home

It pays 1.40% and has a $100 minimum balance.