Monday, May 9, 2016

Planning for retirement income

Retirement looms large for many people when they are considering their financial situations. Questions around when to retire, what kind of lifestyle is possible in retirement and how to pay for it are common for people working through a financial plan, whether on their own or with a professional.
I want to look at a few of the possible sources of money to support a well-designed retirement plan. People and their families have vastly different resources and circumstances, so a well-designed financial plan for any goal, and especially retirement, should seek to tailor an approach to the specific situation.
Social Security retirement income benefitsSetting aside for the moment the perennial question of future solvency of the system, the retirement income benefits offered by the Social Security Administration are for many people a major component of their expected financial support in their retirement years. The general idea here is that as people work over their lifetime, they (and their employer) pay a tax on their earnings into the Social Security fund and will have the opportunity to draw income from that fund during retirement. Some significant benefits of Social Security income include occasional adjustments for inflation, income for life, and some flexibility around when and how to claim the income benefit.
Planning for Social Security can also be complex. Choosing an age to start claiming benefits, whether to consider a spouse’s benefits and gauging the impact to Social Security on other retirement-age income sources are all issues that need to be carefully considered before committing to a course of action. For people coming up on retirement, it may be worth checking out their range of potential benefits through the Social Security Administration’s calculators; the average benefit is about $1,200 per month.
Employee pension benefitsPension plans used to be fairly common but have been increasingly displaced by plans like the 401(k). For employees still covered by pensions, the benefits can be exciting. Similar to Social Security payments, employees will often have the choice to take payments for life, among other options. For purposes of planning, the employer’s human resources department will generally provide a periodic statement with an expected range of pension payments for a given retirement date; in some cases, there may also be a lump sum amount that could be taken out of the pension at one time or rolled into a tax-deferred account like an IRA.
401(k)s, IRAs and other retirement plansMany people save for their own retirement by carving out a chunk of their paycheck each month to contribute to a 401(k) plan at work or set up and fund an IRA privately. These types of accounts may carry potential benefits for retirement savers by deferring income tax on contributions and investment growth until the money is taken out in retirement. They also impose penalties on early withdrawals, so a retirement plan should seek to balance the value of that tax deferral against the lack of access.
These types of accounts also involve investment choices and therefore some amount of investment risk, both during the accumulation years before retirement and in the maintenance or distribution phase during retirement. The expenses and investment returns experienced within a retirement savings account can have a huge impact on the eventual amount of money available to spend in retirement, so those investment choices should be made carefully.
Taxable savingsThe retirement plans mentioned above generally offer one or more tax advantages in exchange for locking the money up until retirement; people may also save money in checking and savings accounts at the bank, in taxable brokerage accounts in investments, or in cash and gold stuck in a safe somewhere. While money saved or invested in these ways does not enjoy the tax advantages of retirement accounts, it does offer tremendous flexibility to address any number of financial goals over a lifetime, including retirement spending. A plan for retirement income should include a consideration of what money is available at the bank or in investment accounts and give thought to how that money could be best-positioned or invested to support the retirement income need, as necessary.
Home equityIn many cases, the value held in a paid-off home should probably be a last line of budgetary defense, and only accessed with a clear understanding of the financial and practical considerations involved. A situation where an older person has no need or intention to leave their home to an heir, but does need another source of stable cash flow to support their retirement income needs, may look at reverse mortgage options.
A good plan will take stock of what resources are available to address a specific retirement income need, and choose carefully among those for the best experience of risk, reward, tax exposure and fit.