Children's inheritance raises questions about college savings
Q: My 10-year-old daughter and 14-year-old son both inherited stock worth about $10,000 each from their grandparents. I am the designated trustee. Would it be more beneficial, tax-wise, to cash in the stocks and invest the proceeds in a tax-free college-bound fund that I have started?
R.M., via e-mail
A: The stock that your children inherited from their grandparents would have an income-tax basis equal to its fair market value at date of death, says Dana Sippel, a certified financial planner in McLean, Va.
Inherited property is automatically treated as long-term capital gain property. On the assumption that the stock does not have a large taxable gain, and that this transaction is allowable under terms of the trust, Mr. Sippel recommends selling the stock and adding the funds to a 529 plan, a prepaid college savings plan that every state sponsors.
In most states, deposits into a 529 plan give you a state income-tax deduction. If the funds are then used for qualified higher education costs, you can also save the federal and, in many cases, the state income taxes on the earnings over the next eight to 12 years before your children graduate from college, he says.
Q: I have four major credit cards but only use one. It has a substantial credit limit. I heard that if I cancel the three cards that I do not use, it would hurt my credit score. Is this true? I am in the process of selling my home, and wonder if canceling them might raise the rates that mortgage lenders offer me if I bought a new house.
S.B., Melrose, Mass.
A: Fair Isaac Corp. pioneered the use of credit scoring, so we turned to company public affairs manager Craig Watts for some insight. Here's his take: From Fair Isaac's perspective, closing an unused credit card will not improve a credit score and could hurt it in some situations. This happens primarily because closing credit accounts can increase the person's credit utilization rate. This is one of the factors that Fair Isaac's "FICO score" calculates from the person's credit report information. This rate is calculated by dividing an account's outstanding debt by its credit limit. A low utilization rate means that you are spending relatively little of your available credit. That's good for your score because statistically it means you are less likely to be late in paying creditors in future. But when you remove available credit by closing credit-card accounts, without also paying down outstanding debt owed on other cards, the result is usually an increase in your utilization rate and that can hurt the score, he says.
Whether your home loan will cost more depends on a much wider array of data provided on your credit report. So Mr. Watts says that it's not possible to pinpoint an answer there.
In general, he says the best strategy for improving your score overall is three-fold: pay bills on time, keep revolving balances low, and open new credit accounts only when needed.