Revisiting Mutual Funds

'2006 was a good year' was an update on how things have changed for me in a year. It wasn't really advice, so much as it was reinforcement that following my own advice paid off - at least last year.

Somewhere underneath all that explanation, you might have gathered that 'changing jobs' was some good advice. See, I was impacted by the dot-com boom / bust cycle in such a way that I had to crawl back out. Changing jobs twice last year was a strategy. For the most part, I sat still, and didn't make too many risky financial moves.

So, now I'm sitting here looking at how my investments paid off. The best seems to have been one of my 2 mutual funds. It's one that you would consider risky for a mutual fund, because it's an international fund. The other mutual fund I have is less risky, and didn't perform nearly as well.

Combined, these 2 mutual funds returned 17.4% between 1/1/06 and 1/1/07.

Aside from any dividends, I never have to pay any tax on these gains until I sell. I consider them a line of defense that I haven't had to cross. In fact my diversification is a set of buffers, where cash is on the outside, and the retirement accounts are on the inside.

At the beginning of the year, I had about $47,500 in my money market account, and throughout the year it has accrued and lost and accrued again, cash. The reason it lost cash at some point is that I pay an extra lump sum payment against my mortgage every year. The balance is now about $83,000. Last month, it drew about 4.75% interest. I earned $2,700 in interest from this account last year.

It seemed so sudden, how much cash I wound up with. And when you have what seems to be a lot, if you're like me, you are more afraid of taking risks that could mean losing large chunks of capital.

If in 2007 the interest rate remains constant at 4.75% and I start off with $83,000 and make no withdrawals or deposits (purely theoretical), then at the end of the year, the account will be worth just over $87,000. That sounds nice, and I'm not used to making so much money in interest every month. It's $330-$340 per month. If I follow this strategy, in 2008 I'll pay about $1,000 in taxes on the $4,000 I made. Right now isn't the best time for me to have to adjust my salary up before paying taxes.

What if I take $25,000 of that and buy into a (not super-duper risky) mutual fund like the ones I have - and haven't been afraid of holding on to? If it earns 15%, then its market value would be roughly $28,800 at the end of 12 months. And I don't have to cash it out.

If I lose my job sometime in the future, or retire, and am unemployed for several months. I wouldn't have to pay as much tax on that $3800:

In addition to the roughly $12,000 I'd make from unemplyment benefits, or whatever piddling amount I'd be getting from social security, I'd hardly be in a top tier tax bracket, but the $3,800 would sure help out. Remember that that the $3,800 is about $800 more than what I would walk away with, after paying taxes on the interest I would draw off my money market account.

Also, while neither is exactly chump change, recall that I stand to benefit less with $83,000 than with $25,000.