You may have a very idealistic vision of retirement — doing all of the things that you never seem to have time to do now. But how do you pursue that vision? Social Security may be around when you retire, but the benefit that you get from Uncle Sam may not provide enough income for your retirement years. To make matters worse, few employers today offer a traditional
company pension plan that guarantees you a specific income at retirement. On top of that,
people are living longer and must find ways to fund those additional years of retirement. Such
eye-opening facts mean that today, sound retirement planning is critical.
But there’s good news: Retirement planning is easier than it used to be, thanks to the many
tools and resources available. Here are some basic steps to get you started.
Determine your retirement income needs
It’s common to discuss desired annual retirement income as a percentage of your current
income. Depending on whom you’re talking to, that percentage could be anywhere from 60% to
90%, or even more. The appeal of this approach lies in its simplicity. The problem, however, is
that it doesn’t account for your specific situation. To determine your specific needs, you may
want to estimate your annual retirement expenses.
Use your current expenses as a starting point, but note that your expenses may change
dramatically by the time you retire. If you’re nearing retirement, the gap between your current
expenses and your retirement expenses may be small. If retirement is many years away, the
gap may be significant, and projecting your future expenses may be more difficult.
Remember to take inflation into account, and keep in mind that your annual expenses may
fluctuate throughout retirement. For instance, if you own a home and are paying a mortgage,
your expenses will drop if the mortgage is paid off by the time you retire. Other expenses, such
as health-related expenses, may increase in your later retirement years. A realistic estimate of
your expenses will tell you about how much yearly income you’ll need to live comfortably.
Calculate the gap
Once you have estimated your retirement income needs, take stock of your estimated future
assets and income. These may come from Social Security, a retirement plan at work, a part-time
job, and other sources. If estimates show that your future assets and income will fall short of
what you need, the rest will have to come from additional personal retirement savings.
Figure out how much you’ll need to save
By the time you retire, you’ll need a nest egg that will provide you with enough income to fill the
gap left by your other income sources. But exactly how much is enough? The following
questions may help you find the answer:
● At what age do you plan to retire? The younger you retire, the longer your retirement will
be, and the more money you’ll need to carry you through it.
● What is your life expectancy? The longer you live, the more years of retirement you’ll
have to fund.
● What rate of growth can you expect from your savings now and during retirement? Be
conservative when projecting rates of return.
● Do you expect to dip into your principal? If so, you may deplete your savings faster than
if you just live off investment earnings. Build in a cushion to guard against these risks.
Build your retirement fund: Save, save, save
When you know roughly how much money you’ll need, your next goal is to save that amount.
First, you’ll have to map out a savings plan that works for you. Assume a conservative rate of
return (e.g., 5% to 6%), and then determine approximately how much you’ll need to save every
year between now and your retirement to reach your goal.
The next step is to put your savings plan into action. It’s never too early to get started (ideally,
begin saving in your 20s). To the extent possible, you may want to arrange to have certain
amounts taken directly from your paycheck and automatically invested in accounts of your
choice [e.g., 401(k) plans, payroll deduction savings]. This arrangement reduces the risk of
impulsive or unwise spending that will threaten your savings plan — out of sight, out of mind. If
possible, save more than you think you’ll need to provide a cushion.
Understand your investment options
You need to understand the types of investments that are available, and decide which ones are
right for you. If you don’t have the time, energy, or inclination to do this yourself, hire a financial
professional. He or she will explain the options that are available to you, and will assist you in
selecting investments that are appropriate for your goals, risk tolerance, and time horizon. Note
that many investments may involve the risk of loss of principal.
Use the right savings tools
The following are among the most common retirement savings tools, but others are also
available.
Employer-sponsored retirement plans that allow employee deferrals [like 401(k), 403(b),
SIMPLE, and 457(b) plans] are powerful savings tools. Your contributions come out of your
salary as pre-tax contributions (reducing your current taxable income) and any investment
earnings are tax deferred until withdrawn. These plans often include employer-matching
contributions and should be your first choice when it comes to saving for retirement. 401(k),
403(b) and 457(b) plans can also allow after-tax Roth contributions. While Roth contributions
don’t offer an immediate tax benefit, qualified distributions from your Roth account are free of
federal, and possibly state, income tax.
IRAs, like employer-sponsored retirement plans, feature tax deferral of earnings. If you are
eligible, traditional IRAs may enable you to lower your current taxable income through
deductible contributions. Withdrawals, however, are taxable as ordinary income (unless you’ve
made nondeductible contributions, in which case a portion of the withdrawals will not be
taxable).
Roth IRAs don’t permit tax-deductible contributions but allow you to make completely tax-free
withdrawals under certain conditions. With both types, you can typically choose from a wide
range of investments to fund your IRA.
Annuities are contracts issued by insurance companies. Annuities are generally funded with
after-tax dollars, but their earnings are tax deferred (you pay tax on the portion of distributions
that represents earnings). There is generally no annual limit on contributions to an annuity. A
typical annuity provides income payments beginning at some future time, usually retirement.
The payments may last for your life, for the joint life of you and a beneficiary, or for a specified
number of years (guarantees are subject to the claims-paying ability of the issuing insurance
company). Annuities may be subject to certain charges and expenses, including mortality
charges, surrender charges, administrative fees, and other charges.
Note: In addition to any income taxes owed, a 10% premature distribution penalty tax may apply
to taxable distributions made from employer-sponsored retirement plans, IRAs, and annuities
prior to age 591⁄2, unless an exception applies.
Securities offered through IFP Securities, LLC, dba Independent Financial Partners (IFP), member FINRA/SIPC. Investment advice offered through IFP Advisors, LLC, dba Independent Financial Partners (IFP), a Registered Investment Adviser. IFP and Hitchcock Maddox Financial Partners are
not affiliated. This is for educational and information purposes only and is not research or a recommendation regarding any security or investment strategy. Neither IFP Advisors LLC< IFP Securities LLC, dba Independent Financial Partners (IFP), nor their affiliates offer tax or legal advice. Any potential tax advantages or benefits will depend on your circumstances. Consult your tax professional and/or legal expert about your individual tax situation and visit IRS.gov to learn more. Courtesy of Broadridge – Advisor Solutions.