Once you have accumulated a substantial retirement nest egg, congratulate yourself. For many years you sacrificed spending and invested instead. Now your task is to plan your finances so you and perhaps a significant other can live during retirement without the worry of running out of money. To do so, you carefully manage your retirement account withdrawals, consider purchasing an annuity with a portion of your retirement funds, and/or work part time during your early retirement years.
Figure Out How Many Years Your Money Will Last in Retirement and Make Monthly
Withdrawals Accordingly “How long will my retirement nest egg last?” The answer to this question depends on three factors: (1) the amount of money in the retirement nest egg, (2) the rate of return earned on the funds, and (3) the amount of money withdrawn from the account each year. Appendix Table A.4 provides factors that can be divided into the money in a retirement fund to determine the amount available for spending each year. Consider the example of Kevin and Kelly Neu, 58-year-old retirees from Plano, Texas, who want their $250,000 retirement nest egg to last 20 years, assuming that it will earn a 6 percent annual return in the future. The present value factor in the table in the “20 years” column and the “6 percent” row in Appendix Table A.4 is 11.4699. Dividing $250,000 by 11.4699 reveals that Kevin and Kelly could withdraw $21,796, or $1816.
per month ($21,796 12 months) before taxes, for 20 years before the fund was depleted. But what if they live for 30 more years? The factor for 30 years is 13.7648, and the answer is $18,162, or $1513 per month. Table 17.4 indicates how long retirement money will last given certain withdrawal rates. A slightly higher rate of withdrawal can significantly decrease your years of retirement income. For example, a portfolio of $1 million with a 4 percent annual withdrawal rate could provide 20-plus more years of retirement income than the same portfolio with a 5 percent annual withdrawal rate. People planning for retirement should be cautious and withdraw at a rate, perhaps 31⁄2 to 4 percent, that is not likely to deplete their funds too rapidly. Then they can be more confident that their money will last the desired number of years.
Buy an Annuity and Receive Monthly Checks
Rather than continuing to manage their own investments during retirement and make planned withdrawals over the years, some people take a portion of their retirement nest egg (such as one-third or one-half) to buy an annuity. An annuity is a contract made with an insurance company that provides for a series of payments to be received at stated intervals (usually monthly) for a fixed or variable time period. For retirees who buy an annuity, this means that an insurance company will manage a lump sum of their retirement nest egg and promise to send monthly distribution payments according to an agreed-upon schedule, usually for the life of the person covered by the annuity (the annuitant).
This is best accomplished by purchasing an immediate annuity with a single payment during retirement. The income payments will then begin at the end of the first month after purchase. People who buy an immediate annuity typically do so with a lump sum of money rolled over from an individual retirement account, from an employer’s defined-contribution retirement account, from the cash-value or death benefit of a life insurance policy, or from other savings and investments. Annuities offer several options for drawing down the funds used to purchase the annuity. In the following examples of hypothetical income payments, assume that a 70-year-old retiree has purchased an annuity for $100,000. A straight annuity might provide a lifetime income of perhaps $790 monthly for the rest of the life of the annuitant only. An installment-certain annuity might provide a payment of $680 monthly for the rest of the life of the annuitant with a guarantee that if the person dies before receiving a specific number of payments his or her beneficiary will receive a certain number of payments for a particular time period (such as ten years in this example). A joint-and-survivor annuity might provide $640 monthly for as long as one of the two people-usually a husband and wife-is alive.
The purchase of an annuity can involve a variety of high sales commissions and fees, and, as such, they can substantially reduce the amount of income paid out. The trade-off is between the guaranteed payouts from an annuity that often carry high costs and the high risks of managing one’s retirement investments. Those considering buying an annuity perhaps might begin with the low-fee, AAA-rated industry leader TIAA-CREF.
Another type of annuity is a deferred annuity. Here the person pays premiums during his or her life and income payments start at some future date, such as at retirement. A common type of deferred annuity sold by insurance salespeople is called a variable annuity. This is an annuity whose value rises and falls like mutual funds, and it pays a limited death benefit via an insurance contract. Variable annuities are sold very aggressively because sellers earn commissions of 5 percent or more, and they charge annual fees that often average 3 percent or more. An investor will have to wait 15 to 20 years before an annuity becomes as efficient an investment as a mutual fund. Variable annuities are not a practical investment for 99 percent of investors.
People should absolutely, positively not consider investing in an annuity until all other tax-sheltered vehicles to save and invest for retirement have been maximized. This means that people saving for retirement first contribute the legally permitted maximum amounts to 401(k), traditional IRA, and Roth IRA accounts, perhaps totaling $20,000 each year. The tax-sheltered benefits of these retirement accounts are far better than those offered by a salesperson promoting a deferred annuity. Annuities are replete with numerous restrictions, administrative charges, commissions, purchase fees, withdrawal charges, and penalties. If you need life insurance, buy term life insurance, not an annuity if you need to save for retirement, invest in mutual funds through tax-sheltered retirement accounts.
Consider Working Part Time
For a variety of reasons, including reducing the worry of outliving one’s retirement income, instead of retiring completely, some people choose to work part time for a while during their early retirement years. They either continue working for their last employer or go to work part time for a new employer. Reasons include wanting the extra income, enjoying being with coworkers, and obtaining employer-provided health care benefits. Predictions are that many retirees will work part time if for no other reason than to continue to feel active and be a contributing member of society.
Buy an Annuity and Receive Monthly Checks
Rather than continuing to manage their own investments during retirement and make planned withdrawals over the years, some people take a portion of their retirement nest egg (such as one-third or one-half) to buy an annuity. An annuity is a contract made with an insurance company that provides for a series of payments to be received at stated intervals (usually monthly) for a fixed or variable time period. For retirees who buy an annuity, this means that an insurance company will manage a lump sum of their retirement nest egg and promise to send monthly distribution payments according to an agreed-upon schedule, usually for the life of the person covered by the annuity (the annuitant).
This is best accomplished by purchasing an immediate annuity with a single payment during retirement. The income payments will then begin at the end of the first month after purchase. People who buy an immediate annuity typically do so with a lump sum of money rolled over from an individual retirement account, from an employer’s defined-contribution retirement account, from the cash-value or death benefit of a life insurance policy, or from other savings and investments. Annuities offer several options for drawing down the funds used to purchase the annuity. In the following examples of hypothetical income payments, assume that a 70-year-old retiree has purchased an annuity for $100,000. A straight annuity might provide a lifetime income of perhaps $790 monthly for the rest of the life of the annuitant only. An installment-certain annuity might provide a payment of $680 monthly for the rest of the life of the annuitant with a guarantee that if the person dies before receiving a specific number of payments his or her beneficiary will receive a certain number of payments for a particular time period (such as ten years in this example). A joint-and-survivor annuity might provide $640 monthly for as long as one of the two people-usually a husband and wife-is alive.
The purchase of an annuity can involve a variety of high sales commissions and fees, and, as such, they can substantially reduce the amount of income paid out. The trade-off is between the guaranteed payouts from an annuity that often carry high costs and the high risks of managing one’s retirement investments. Those considering buying an annuity perhaps might begin with the low-fee, AAA-rated industry leader TIAA-CREF.
Another type of annuity is a deferred annuity. Here the person pays premiums during his or her life and income payments start at some future date, such as at retirement. A common type of deferred annuity sold by insurance salespeople is called a variable annuity. This is an annuity whose value rises and falls like mutual funds, and it pays a limited death benefit via an insurance contract. Variable annuities are sold very aggressively because sellers earn commissions of 5 percent or more, and they charge annual fees that often average 3 percent or more. An investor will have to wait 15 to 20 years before an annuity becomes as efficient an investment as a mutual fund. Variable annuities are not a practical investment for 99 percent of investors.
People should absolutely, positively not consider investing in an annuity until all other tax-sheltered vehicles to save and invest for retirement have been maximized. This means that people saving for retirement first contribute the legally permitted maximum amounts to 401(k), traditional IRA, and Roth IRA accounts, perhaps totaling $20,000 each year. The tax-sheltered benefits of these retirement accounts are far better than those offered by a salesperson promoting a deferred annuity. Annuities are replete with numerous restrictions, administrative charges, commissions, purchase fees, withdrawal charges, and penalties. If you need life insurance, buy term life insurance, not an annuity if you need to save for retirement, invest in mutual funds through tax-sheltered retirement accounts.
Consider Working Part Time
For a variety of reasons, including reducing the worry of outliving one’s retirement income, instead of retiring completely, some people choose to work part time for a while during their early retirement years. They either continue working for their last employer or go to work part time for a new employer. Reasons include wanting the extra income, enjoying being with coworkers, and obtaining employer-provided health care benefits. Predictions are that many retirees will work part time if for no other reason than to continue to feel active and be a contributing member of society.
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