Hoping for the Best, Planning for the Worst
If you had to retire today, would you be able to live comfortably in your golden years?
For anyone born as early as 1954, the retirement age for full Social Security benefits is age 66. For anyone born in 1960 (or later), that age is 67. With that in mind, the average age of retirement in the United States is 65 for men and 63 for women, meaning many Americans are already taking early retirement.
A whopping 54% of Americans over the age of 55 (the “Boomer” generation) say they are behind where they think they should be when it comes to saving for retirement. Of those with retirement accounts in place, 49% say they’ve dipped into their savings before they reached retirement age due to unexpected circumstances, and a third of all Boomers say they have “no money saved” for retirement at all.
- What is causing setbacks for those over 55?
- How much money should you have saved by now?
- How can you avoid paying half your retirement money to the IRS?
The experts at HCR Wealth Advisors can help shed light on the topic.
Setbacks for Older Americans Nearing Retirement Age
More than half of all workers aged 50 or older say they have lost long-term jobs involuntarily. Job loss at age 50 or older typically means an abrupt end to regular income for several months or longer. Additionally, involuntary job loss is frequently followed by early retirement or a new job that provides only about half the income of the previous job.
Job loss isn’t the only setback seniors can experience. Additional unexpected costs can cause financial hardship and prompt early withdrawals from retirement funds. Common reasons for such early withdrawals can include:
- Debt repayment
- Medical or healthcare expenses
- Home purchase or home improvement
- Higher education (for themselves or family members)
Depending on what kind of account you withdraw from, you can experience stiff penalties, such as income tax, plus an additional 10% tax on most IRAs or other retirement accounts tapped before you are 59 ½. However, loopholes exist for specific withdrawal causes such as unreimbursed medical expenses.
Withdrawals from your IRA, 401(k), or other retirement accounts can leave you short when it comes to your retirement living expenses. Seeking counsel from financial professionals like HCR Wealth Advisors can help you pinpoint where you can take action to safeguard your retirement.
How Much Money Do You Really Need to Retire the Way You Want to?
For the majority of seniors, about 70% to 80% of their former income will enable them to live comfortably in retirement. If you’ve been an average earner, Social Security will only provide around half that amount, assuming you plan to wait until the full retirement age to retire.
How can you figure out if you’re going to have enough to retire comfortably? You can start with a Social Security calculator to figure out what you can expect your monthly income to be based on your lifetime earnings and retirement age. You can input that number into a more comprehensive retirement calculator and tweak settings to estimate your cost of living after retirement.
When you consider your current and projected savings, inflation, and rate of return on investments, you’ll end up with a reasonably good idea of how much additional money you need to save between now and retirement age. You can also ask an HCR Wealth Advisors professional for a customized estimate of your retirement savings needs.
Maximizing Social Security benefits
There are two ways to maximize Social Security benefits.
Maximize Best-Earning Years
Social Security is based on your 35 highest-earning years. People who hit retirement age but are making the most money they’ve ever earned may find it practical to keep working for a few more years to bump lower-earning years off of the calculations.
Delayed Retirement Credits
The monthly amount available for payout goes up the longer you delay claiming benefits. For example, waiting until age 70 can deliver up to an 8% increase for each year past retirement you delay claiming a benefit. Those in good health and with independent savings may see an advantage in waiting to claim.
Saving Between Now and Retirement
There are many different ways to stock extra money away for retirement, and you can diversify your savings to take advantage of high returns balanced with lower risk savings that can be leveraged for quick cash in an emergency. The most common types of retirement savings fall into three categories: 401(k)s, IRAs, and HSAs. An expert at HCR Wealth Advisors can help you decide which combination of retirement accounts makes the most sense for you.
If you are employed and your employer offers a 401(k), you can put money away pre-tax. You also have the opportunity, if you’re over 50, to invest you funded 401(k) for tax-deferred growth.
You pay taxes on your 401(k) money when you start making withdrawals in retirement. When you turn 59 ½, you can make withdrawals penalty-free, just paying your deferred income tax. Alternatively, you can leave it untouched and allow it to continue accumulating. When you turn 72, however, you’ll have to start taking money out in a “required minimum distribution” or RMD. The IRS can tax this as well.
Some companies offer a Roth 401(k), which means your money goes in after taxes instead of before. This means you have to pay the income tax upfront, but your invested savings will grow tax-free. Your withdrawals in retirement also won’t be taxable again and won’t be subject to RMDs.
If you are an educator, nonprofit employee, or employed by a religious institution, you might have a 403(b) instead of a 401(k), but they work the same way. If you’re self-employed or a sole proprietor, you can open a Solo 401(k). A Solo401(k) is essentially a 401(k) that you personally manage, contributing up to 25% of your net business income to a maximum total of $63,500 if you are 50 or older.
If you’re self-employed, don’t work for a company that offers a 401(k) plan, or want to save more than the maximum limits on your 401(k) or 403(b), you can also put your money to work by opening an “individual retirement account,” or IRA. Annual contribution limits are lower, at just $7,000 for those 50 and older, but otherwise, the rules are identical to those of a traditional 401(k). There are also Roth IRAs, which again use after-tax dollars instead of pre-tax contributions.
If you’re self-employed, you can consider funding “simplified employee pension,” IRA, or SEP-IRA. These types of IRAs allow independent workers and small business owners over 50 to contribute up to 25% of their net business earnings up to a maximum of $57,000. However, if you have employees, you have to contribute the same percentage to your employees’ SEP-IRAs as you do your own.
An alternative is a “savings incentive match plan for employees,” or SIMPLE IRA. You can contribute up to $16,500 if you’re 50 or older. You also only need to contribute a fixed 2% of any employees’ compensation, or match worker contributions directly, up to a maximum of 3%.
If your employer offers a High-Deductible Health Plan (HDHP), you meet eligibility for a Health Savings Account (HSA). An HSA acts very much like a personal savings account but can only be used for qualified healthcare expenses.
Contributions to HSAs can be made by you, your employer, and even someone who just wants to help you build savings. The maximum annual contribution for people over age 50 is $4,500/year for individuals and $8,000/year for families.
Your HSA contribution can be made with after-tax dollars and you can deduct the contributions from your gross income. However, most people fund their HSA with pre-tax dollars via a payroll deduction. These contributions are generally not subject to federal income tax and the earnings in your account will grow tax-free.
Another great thing about HSAs is that they aren’t subject to federal (or in most cases, state) taxes, provided you use them for qualified medical expenses. Any unspent money in your HSA will roll over at the end of the year, making it a viable option for investment. Even if you retire, the money you have in your HSA will remain available for future qualified medical expenses.
You will have to keep receipts to prove that your withdrawals were used for qualified health expenses. If you withdraw money for something other qualified health expenses before turning 65, you’ll be on the hook for taxes on the money in addition to a 20% penalty. After age 65, you’ll owe taxes but not the penalty for withdrawals made for non-qualified expenses.
HSAs allow you to “roll over” unspent dollars into the next year. They also offer significant advantages. They accumulate interest, follow you into retirement, don’t incur taxes when used for qualified expenses, and can be used for both long-term care and long-term care insurance premiums.
Minimizing Tax Impact on Retirement Funds
Reducing taxes is a crucial part of any successful retirement plan. Minimizing your tax burden starts with understanding what tax bracket your income falls into and knowing the cutoff points for those brackets according to filing status.
For most people, keeping expenses low allows fewer withdrawals from retirement accounts, and helps keep the bulk of their income in a lower tax bracket. Retirement plan withdrawals can be prioritized based on tax impact. Roth funds are made with after-tax dollars and aren’t subject to additional taxation unless withdrawn early.
Tax-exempt investments, such as municipal bonds, can be attractive to those in high-income tax brackets. The lower rate of return is typically balanced out by the lack of tax liability. Capital gains from the sale of an investment property, gold, or other capital assets that have been held for a minimum of one year are subject to lower tax rates.
Required Minimum Distributions (RMDs)
Once you reach age 72, RMDs must be withdrawn annually from IRA, SEP-IRA, SIMPLE IRA, 401(k), and most other retirement plan accounts funded with pre-tax dollars. HSAs and after-tax funded Roth accounts are exempt from RMDs, and 403(b) plans have a different calculation applied.
There are notable penalties for failing to withdraw your RMDs, including a 50% penalty of the amount that is required to be withdrawn. The calculated RMD amount is arrived at via a formula that takes the balance of each retirement plan account as of the previous December 31 and divides it by your life expectancy factor, which is according to tables maintained by the IRS.
About HCR Wealth Advisors
HCR Wealth Advisors provides targeted financial advice for every stage of life. HCR’s innovative financial management framework, The Clarity Formula™, is designed to help with every facet of your financial outlook:
- Retirement planning: holistic investment strategies and risk management
- Social Security and Medicare guidance: benefits monitoring and distribution advice.
- Pension assistance: ensuring full benefits from all past employers are paid
- Tax strategies: structuring and management of distributions to minimize tax liability
- Estate planning: wealth transfer strategies to maximize inheritances
- Long-term care: health care expenses, assisted living, and other care-related expenses
- Cash management: debt structuring and cash optimization
- Philanthropy: charitable trusts and foundations
No matter what decisions you are currently facing, or where you are in your financial journey, HCR can help. HCR provides a holistic advisory approach that factors in your specific lifestyle and personal considerations while developing strategies and creating a road-map to help you reach your financial goals.
HCR’s personalized service model revolves around delivering exceptional customer service, building strong, trusting relationships, and doing their absolute best to help each client develop a personalized plan to overcome obstacles between them and their ideal financial outcome.
At the heart of HCR is a mission to educate and empower its clients, provide financial understanding, and promote confidence while guiding the development and refinement of their individual investment strategies.
HCR promises an objective, integrity-based stance at all times, with an advisory model that eliminates commissions from mutual fund companies or money managers.
HCR Wealth Advisors is not associated with this website. This article is provided for informational purposes only and should not be interpreted as investment advice.