Capital InsightsRetirement Planning

Income Strategies in Retirement

Retirement is an important milestone in life that you work tirelessly to achieve. While retirement can be exciting. it also introduces a level of uncertainty, making it crucial to have a well-thought-out plan in place. One of the main concerns for retirees is making sure that there is stable and sufficient income to support their desired lifestyle. Whether you are currently retired, nearing retirement, or it is still a distant goal, it is essential to understand the various income strategies available and their potential impacts. Below, we explore some of those different income strategies.

1. Social Security Benefits

Social Security benefits are one of the cornerstones of retirement. These benefits are based on your earnings history and the age you begin to receive them. Understanding the timing of when you can begin receiving your benefits, as well as the implications of taking them early or delaying them, is essential for optimizing your retirement income.

 Maximizing Social Security Benefits

    • Delaying taking Social Security: You can claim Social Security benefits as early as age 62 but because that is before full retirement age (FRA) the benefits will be reduced. If you delay taking Social Security after FRA your benefits will increase approximately 8% annually until you reach the age of 70.
    • Claiming Spousal Benefits: If you are married and have little earned income, another strategy to increase Social Security benefits is to claim spousal benefits. The lower-earning spouse can claim benefits as early as age 62, though the benefit amount will be reduced if claimed before the FRA. At FRA, the benefit is typically 50% of the higher-earning spouse’s benefit. Even if you are divorced or widowed, you may be able to claim benefits based on your ex-spouse or deceased spouse’s earnings record, provided certain conditions are met.

 

2. Defined Benefit Plans

Defined benefit plans or traditional pension plans provide you with a guaranteed income stream for life. The amount received is based on your salary and years of service. You have some options in exactly how the benefits are paid out that should be considered.

Optimizing Pension Income

    • Lump Sum vs. Annuity: Some pension plans offer the ability for you to choose how you receive income from the plan, either as a lump sum or annuity. An annuity allows you to receive a steady income stream in retirement while a lump sum allows you to receive all the benefits at once. If the option presents itself, it is important to weigh the pros and cons of each to see what is best suited for your needs.
    • Survivor Benefits: Your plan may offer survivor benefits, which gives an income stream to your spouse or dependents after your death. While the benefit paid to you will be lower, it can be an important piece in ensuring your loved ones are taken care of if you were to pass away prematurely.

 

3. Defined Contribution Plans

Defined Contribution Plans are your 401(k), 457, and 403(b) plans. The benefits from these plans are based on the contributions you and your employer make during your working years and the investment performance of the account. Typically, your employer will make contributions to the plan as either a matching contribution or profit-sharing contribution. If feasible, it is important to contribute enough to these plans to receive the maximum contribution from your employer. Because benefits from these plans are not guaranteed, it is important to understand how these plans are invested. Retirees can rollover their asset in defined contributions plans into an IRA as they can offer more flexibility in investment options and distributions.

 

4. Traditional IRAs and Roth IRAs

Individual Retirement Accounts (IRAs) are popular retirement savings vehicles that people can make contributions to outside of the plan they have with their employer. You also can rollover your defined contribution plan to an IRA in retirement. Traditional IRAs grow tax-deferred, but generally withdrawals are taxable, unlike a Roth IRA that grows tax-deferred and withdrawals can be tax free. You can begin withdrawals without penalty from these IRAs as early as age 59 ½ or if you meet a qualifying event.

Withdrawals

    • Required Minimum Distributions (RMDs): For traditional IRAs and 401(k)s, you must start taking RMDs at age 73. RMDs are calculated based on your age and the year-end balance of your account. As withdrawals from these plans are taxable, it is important to understand how you take them and how much you take to mitigate the tax impact.
    • Roth IRA Conversions: You are able to covert funds in a traditional IRA to a Roth IRA. The conversion would be taxable but once the assets are in the Roth IRA, withdrawals are tax free if you meet the holding requirements. Roth Conversions can be a great strategy if you anticipate your income being higher in the future.

 

5. Annuities

Types of Annuities:

 Annuities provide an income stream and come in many different forms: fixed, variable, and indexed. Each type of annuity has different degrees of risk compared to their expected return; it is important to understand this when selecting an annuity.

Pros and Cons:

  • Guaranteed Income: One of the largest pros for annuities is the guaranteed income stream they offer. The income the annuity offers is based on the insurer that agrees to pay, regardless of how long the annuitant lives. As the annuity is backed by the insurance company, it is important to make sure you select an issuer with a quality rating.
  • Fees and Associated Charges: One of the cons with annuities is the higher fees they typically charge. Because of the guaranteed income component, annuities are typically more expensive than other investment vehicles. Surrender charges should also be considered. If the annuitant needs to withdraw money before a certain amount of time has lapsed, there may be high surrender charges by the insurer.

 

6. Real Estate Investments

  • Rental Income: Income generated by renting out property can offer a stream of income in retirement. It is important to understand the cost and time it takes to manage a rental property. Whether it be mortgage payments or regular maintenance, these should all be considered.
  • Reverse Mortgage: For homeowners over the age of 62, another strategy to generate income in retirement is a reverse mortgage. A reverse mortgage allows you to convert equity in your home into cash, which can be received as a lump sum, monthly payments, a line of credit, or a combination of these options. You don’t make monthly payments with a reverse mortgage; instead, the interest on the loan is added to your balance each month and is paid off once the home is sold. There is a lot to consider when taking a loan against your home, such as how it aligns with your long-term financial goals, the associated costs, and ensuring that it supports your overall financial well-being throughout retirement.

 

7. Taxable Accounts

  • Many retirees will also have taxable accounts as part of their retirement portfolio to help supplement income in retirement. Some examples of taxable accounts include individual and joint accounts. The benefit of supplementing your retirement income with these accounts is that the taxable income generated from this account can be taxed at a lower rate than what you would pay from another source such as a traditional IRA. This gives you more control over your tax liability, hopefully reducing the amount of tax you’ll pay over your lifetime.

 

8. Part-Time Work

  • Work/Life Balance: Some retirees will choose to work part-time in retirement to help supplement their income. Another motivation is it allows for you to stay active and engaged in retirement. The desire to work part-time in retirement should coincide with your desired retirement lifestyle.
  • Impact on Social Security: If you choose to work part-time in retirement and are claiming Social Security but have not reached full retirement age (FRA) your benefits may be reduced based on your earnings.

 

Tax Implications

Minimizing Taxation: Not all income in retirement is taxed the same, making it important to implement strategies that minimize taxes owed during retirement. Effective tax planning can include determining the optimal sources for withdrawals during higher-income years and fully leveraging available tax credits and deductions. These strategies can significantly impact your net retirement income and help maintain your desired lifestyle. These are only a few of the income strategies available to support your retirement. No matter where you are on your journey toward achieving your desired retirement, having a clear plan and understanding your options is crucial. Consulting with a professional can be extremely beneficial in developing a financial plan that maximizes your retirement income and helps you meet your goals. A well-crafted strategy can provide confidence and ensure that you are on the right track to a financially independent and fulfilling retirement.

 

This material is intended for information/educational purposes only and should not be construed as investment advice, a solicitation, or a recommendation to buy or sell any security or investment product.  Please contact your financial professional for more information specific to your situation.

Guarantees are based on the claims-paying ability of the issuer.

If you are considering rolling over money from an employer-sponsored plan, you often have the following options: leave the money in the current employer-sponsored plan, move it into a new employer sponsored plan, roll it over to an IRA, or cash out the account value. Leaving money in a plan may provide special benefits including access to lower-cost investment options; educational services; potential for penalty-free withdrawals; protection from creditors and legal judgments; and the ability to postpone required minimum distributions. If your plan account holds appreciated employer stock, there may be negative tax implications of transferring the stock to an IRA. Whether to roll over your plan account should be discussed with your financial advisor and your tax professional.

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