5 money mistakes in a bad economy

3. Paying for college without seeking aid

An Aug. 20 Sallie Mae/Gallup survey indicated that one-fourth of families with children in college did not send in the Free Application for Federal Student Aid, or FAFSA, for the 2007-08 school year.

"It's probably the simplest thing you can do to make sure you're not missing out on free money or low-cost money," says Patricia Nash Christel, a Sallie Mae spokeswoman.

The federal government uses the information on the form to determine an applicant's eligibility for Pell grants, subsidized Stafford loans and other financial aid, she says. Private organizations often use the information when awarding scholarships.

The survey also found that only 9% of the 1,404 families questioned reported using a 529 savings plan, a state-sponsored investment account that accumulates tax-free earnings. Those with a 529 plan used up to $8,000 toward last year's education costs, which on the average were $14,628, according to the survey.

Meanwhile, 38% of the families surveyed paid for tuition, room and board, and all other college-related expenses with personal income.

Christel says parents are so committed to sending children to college, seeing it as an investment in their family's future, that they often give little thought to education costs and what happens after graduation, such as paying back loans and what the student's income will be after school ends.

What to do:

• Complete and send in the FAFSA, even if the fall semester has started, to be considered for federal grants and loans for college.

• Families with younger children should investigate college savings options, including 529 plans.

• Find plans administered by each state as well as track loan rates and calculate contributions to the plan at Bankrate.com.

• Sallie Mae's Upromise Web site offers a rewards program that allows consumers to contribute to 529 plans through everyday purchases.

• Other college savings options include custodial trust accounts, in which a child owns the money but the account is controlled by a parent or guardian. Coverdell education savings accounts may be used to pay for elementary and high school expenses as well as college. (See "Your 5-minute guide to paying for college.")

4. Investing inertia

Long-term investing used to be easier: Pop the cash into the mutual funds and annuities, and watch the returns rise like bread in an oven. But even consumers with a little dough are prone to avoiding the complex implications that the volatile stock market may have for their investments.

Lyle Benson, who owns a financial-services firm in Baltimore, says investors can get lulled into complacency when they should be reviewing their asset allocations to make sure they are keeping up with earnings targets.

• Talk back: How has the poor economy affected you?

Though a portfolio should always have some amount of stocks to ensure growth in the long run, keeping too many stocks during a down market can be costly, Benson says. Sheltering cash in Treasury bills or bonds can help a portfolio hold up in a bear market.

Older investors are often attracted to the low risk of certificates of deposit, especially because some analysts are projecting rates will increase in the coming months.

Benson advises investors to avoid locking in large amounts of cash for periods longer than a year. An investor hasn't gained anything if living expenses increase 4% or 5% and the deposit is locked in at 3.5%, he says. Depositing in new CDs every six months to a year will allow for rate changes.

"The idea is to have money coming due each year," Benson says.

What to do:

• Meet with a financial planner at least twice a year to review asset allocations in your portfolio to continue working toward investment targets.

• Investigate investment options in bonds or Treasury bills.

• Deposit in short-term CDs or consider building a CD ladder.

5. Obtaining cash from your home

They don't make home-equity loans like they used to.

Tom Kelly, a spokesman for JPMorgan Chase, says that previously the bank had been originating loans at 95% to 100% of a home's value. But after the subprime-mortgage meltdown, that threshold has dropped to 80% in most housing markets, he says.

"So on a $200,000 home, the most you can expect is $160,000," he says. "Our standards are probably in line with other lenders."

Marks says he hopes people's spending habits would change as a result of the limits on home-equity loans.

But in some cases, tapping into a home's value may be the only option to get cash.

David Certner, AARP's legislative counsel, says he expects people over age 62 to become more interested in reverse mortgages. Living expenses will continue to increase, and seniors on fixed incomes and no assets other than their homes will need to establish cash flow.

A reverse mortgage allows a homeowner to receive nontaxable payments based on the value of a home with a mortgage that has been paid. It is sometimes described as a house paying the homeowner back.

Certner says the U.S. Housing and Economic Recovery Act of 2008 makes reverse mortgages more attractive by:

• Raising the amount of equity homeowners can borrow against.

• Capping origination fees.

• Protecting seniors against inappropriate practices by lenders.

However, a reverse mortgage should remain a "last resort" for seniors because it is still an expensive proposition, Certner says.

The new housing law allows a maximum of $6,000 for an origination fee. The fee is based on the law's new scale of 2% for the first $200,000 of home value and 1% per $100,000 of remaining home value. Previously, homeowners were charged 2% of the home's value.

A reverse mortgage could use up the entire value of a home, and the homeowner is responsible for property taxes and home maintenance, which is why Certner suggests considering all options before using a reverse mortgage.

"It may be more appropriate to sell your home and move," he says.

Previously, seniors had fallen prey to being sold annuities, long-term-care insurance and other inappropriate products by the same agents who sold the reverse mortgages. The new housing law prohibits this practice, but Certner says seniors should remain on their guard.

"Those products are rarely in your interest," he says.

What to know:

• Home-equity loans aren't as viable in the current economy. It's better to find ways to control spending.

• A reverse mortgage may be the only way for some seniors to establish an income. But selling the home may net more cash for the homeowner.

• The new housing law requires homeowners to meet with a mortgage counselor before entering into a reverse mortgage. Use the meeting to review assets to determine if a reverse mortgage is the best option.

Updated June 16, 2009

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