Showing posts with label IRA. Show all posts
Showing posts with label IRA. Show all posts

Thursday, September 26, 2013

Retirement Planning Is a Three-Legged Stool

Shortly before my recent retirement from my long-time job for a local school district, I attended a retirement seminar that was designed to help employees make sure they are financially prepared to stop working.  One of the things the speaker told us was that retirement is a three-legged stool, with Social Security as only one of the legs.  Here is how he explained it:

As mentioned above, the first leg of your retirement stool is Social Security.  This national pension program was never intended to be the only way that retirees supported themselves during their senior years.  Since recipients only receive a median benefit of about $1200 a month, this is not enough for anyone to fully support themselves.  If you had a stool with only one leg, you might be able to balance on it for a short while, but eventually you would fall over.

The second leg of the stool is a pension, annuity or fund.  At one time, many private companies provided their employees with a pension.  Today, only a few private companies still provide this perk, although some public employees, such as non-certificated school employees, still receive a pension.  Pensions are complicated.  For example, I had a job in which I paid into both the state pension plan as well as Social Security.  Therefore, I am able to collect both.  However, many people (such as California teachers) are only able to collect one or the other, in most circumstances.  If you do not have a pension, you may wish to take a portion of the money you have saved in your 401K or IRA and use it to invest in an annuity or investment fund in order to provide additional income.  This is the second leg of your stool.  At this point you have income from Social Security and income from a second source ... a pension, annuity or mutual fund.

The third leg of the stool, as suggested by the speaker at the retirement seminar, is your savings.  This is money that is accessible and not tied up in an investment.  It is money you can use in an emergency.  Everyone should have an emergency fund.  The size should depend on your available assets and your income.

The retirement consultant did not discuss the fact that the majority of Baby Boomers do not have enough savings to invest in an annuity or fund, let alone have enough put aside for emergencies.

However, if he had talked about it, he would probably have suggested that Baby Boomers find a way to earn a little extra money after retirement, as well.  As you will see in the Money section of this blog, I have written several blog posts over the years about ways that retirees can continue to earn money after they retire in order to supplement their income.  (We might think of a retirement job as the fourth leg of your stool.)

I have also written posts about how to save money, including cheap places to retire in both the United States as well as overseas.

In addition, you may want to consider downsizing.  Many people who have a lot of equity in their homes decide to sell the house, downsize and use the money they now have to put in savings and invest in various ways.  This is how they get the other two legs of their "stool."  Some people choose to get a reverse mortgage.  However, as I have mentioned in the past, this can be a dangerous decision and should only be reserved for people who are quite elderly.

If you are hoping to retire and you haven't saved enough money, you may want to check out some of the posts listed in the index articles listed below:

Gifts, Travel and Family Relationships

Great Places for Boomers to Retire Overseas

Great Places to Retire in the United States

Health and Medical Topics for Baby Boomers

Money and Financial Planning for Retirement

You are reading from the blog: http://baby-boomer-retirement.blogspot.com

Public domain photo of money is courtesy of www.morguefile.com




Wednesday, May 1, 2013

Traditional IRA vs Roth IRA

As you save money for retirement, you may be confused about whether you would be better off sticking with a traditional IRA or moving your money to a Roth IRA, instead.  Both are great retirement tools, and there are advantages to each.  Recently, the April, 2013 edition of the AARP Bulletin addressed this very question (pg. 28). While there is no answer that is right for everyone, learning a few important facts about each type of retirement savings plan may help you make the decision that will work best for you. Here is some information that will help you compare the two.

Traditional IRA

The traditional IRA is what most of are are accustomed to using for our retirement savings.  They are a great way to save tax deferred income that you will be able to withdraw when you retire.  Here are some facts you should know about this type of savings:

You can put $5500 a year in an IRA or $6500 if you are age 50 or older.

When you initially invest the money in the IRA, that money is not subject to income taxes.  This reduces the amount of taxes you owe in the current year.  The taxes are deferred until you withdraw the money. This will reduce your tax liability during your working years, which can be a major benefit to families who want to save for retirement and reduce their taxes at the same time.

However, if you make early withdrawals, they may be subject to taxes and penalties (there are some exceptions).  When you die, any remaining money that is passed on to your heirs is also subject to income taxes.

You will not pay income taxes on the money until you begin to withdraw it when, presumably, you will be taxed at a lower tax rate than you currently pay.  On the other hand, once you do begin to withdraw your IRA savings, the additional income could increase the tax rate some people actually do pay on their retirement income.  In other words, if your Social Security income alone is low enough that you would not be required to pay taxes on it, adding annual disbursements from your IRA could mean that more of your income is subject to taxation.  This will not apply to everyone, but it could apply to people who will be withdrawing large amounts from their IRA's.

Mandatory withdrawals are required beginning at age 70 1/2.  You can no longer contribute to a traditional IRA after that time.

Roth IRA

The Roth IRA works quite differently and is an excellent retirement option for people who expect that their tax rate will be about the same after retirement as it is now.  However, the taxes on the money that is invested in a Roth IRA are not deferred.  Savers must be willing to pay income taxes on the money during the year the money is earned.  Here are some additional facts you will want to know about a Roth IRA:

You can invest up to $17,500 this year, and $23,000 if you are age 50 or older.

As mentioned above, when you put the money in your Roth IRA account, you will still include it as part of your earnings on this year's tax return, and you will pay income taxes on it.

The Roth IRA has the advantage that you can make early withdrawals at any time, without penalty, so you can treat your Roth IRA as a savings account.  Since you already paid taxes on the principal, you do not owe taxes or penalties on your initial investment when you withdraw it.  In addition, if you hold the money in your IRA for at least five years and you reach the age of 59 1/2, the dividends and capital gains you earned  on the money over the preceding years will be also be tax free when you withdraw these funds.  

Paying the taxes up front can be a big advantage if you expect to hold the investment for a long time and you believe that your investments could increase substantially in value.  This can potentially give you the income you need in your later years while keeping your tax rate low.  In addition, your heirs can inherit the funds tax free.

You do not have to withdraw your money at age 70 1/2.  In fact, if you are still working at that age, you can continue to contribute to the Roth IRA.  

Can You Change Your IRA Designation?

If you have money in a traditional IRA and you want to put it into a Roth IRA, it is possible to make the change as long as you are willing to pay taxes on the money during the year when you make the transfer. 

If you don't want to pay taxes on all the money you have in your traditional IRA in one year, you can spread the transfer out over several years.  

Which IRA is right for you?  That depends on many factors.  As always, you would be wise to discuss this decision with your CPA and your investment adviser.  No one choice is right for everyone.

If you want to learn more about factors that could affect your retirement planning, you may also be interested in reading the information in the index articles listed below.  Each one contains links to a number of helpful articles on that topic.

Gifts, Travel and Family Relationships

Great Places for Boomers to Retire Overseas

Great Places to Retire in the United States

Health and Medical Topics for Baby Boomers

Money and Financial Planning for Retirement

You are reading from the the blog:  http://baby-boomer-retirement.blogspot.com

Photo courtesy of www.morguefile.com