Tag Archives: retirement

Retirement decisions timeline

Posted on December 14, 2012 | Leave a comment

Age 49 and under. 401K contributions are limited to $17,500 in 2013. Traditional IRA and Roth IRA contributions limits are $5,500.

The income limit (AGI) for contribution to a Roth IRA in 2013 has a phaseout range from $178,000 to $188,000 for married-filing-jointly taxpayers and $112,000 to $127,000 for single taxpayers.

The income limit to make a tax-deductible contribution to a Traditional IRA in 2013 has a phaseout range from $95,000 to $115,000 for married filing jointly (if covered by an employer retirement plan also) and $59,000 to $69,000 for singles. If you are not covered by an employer retirement plan, tax-deductible contributions can be made up to $178,000 of AGI for married filers.

Age 50 and over. 401K contributions are limited to $23,000 with catch up provision. IRA or Roth IRA contributions levels are $6,500 with catch up provision.

Age 55. If you leave your job after age 55, you can begin to take 401K distributions from your former employer’s plan without paying any penalties. Income tax will still be due on the amount of the distribution.

Age 59½. Distributions from IRAs may be made without penalty. Income tax will still be due.

Age 61. Think about when you want to retire and determine when you want to start receiving Social Security if you will be eligible for it. The most likely reasons to start receiving it are: lack of employment or under-employment, lack of income from investments, or a shorter-than-average life expectancy.

Age 62. Eligibility for Social Security begins. The Social Security Administration no longer sends an annual estimate of your expected benefits. You will have to access the estimate at www.ssa.gov. Your Social Security benefit will be permanently reduced by 25-30% if you begin payments at 62 instead of your Full Retirement Age (FRA). Keep in mind that starting Social Security early may also reduce benefits available to your spouse by as much as 35%. And if you continue to work while you receive Social Security, your benefits will be reduced by one dollar for every two dollars you earn over $15,120 in 2013.If you were born on January 1st, you should refer to the previous year.

  1. If you were born on the 1st of the month, we figure your benefit (and your full retirement age) as if your birthday was in the previous month. If you were born on January 1st, we figure your benefit (and your full retirement age) as if your birthday was in December of the previous year.
  2. You must be at least 62 for the entire month to receive benefits.
  3. Percentages are approximate due to rounding.
  4. The maximum benefit for the spouse is 50% of the benefit the worker would receive at full retirement age. The % reduction for the spouse should be applied after the automatic 50% reduction. Percentages are approximate due to rounding.

Age 65. Medicare eligibility begins. From three months before you turn 65 to three months after you turn 65 you may sign up for Medicare Parts A, B and D. Sign up for Medicare Part D (prescriptions) from October 15 until December 7. If you (or your spouse) are covered by an employer-paid health plan, you have eight months after you retire before you will have to pay a penalty to join Medicare.

Age 66 or 67. Considered Full Retirement Age (FRA) for Social Security recipients. If you were born before 1954, you are eligible at age 66. From 1955 to 1959, your FRA increases from 66 years and 2 months to 66 years and 10 months. If you were born in 1960 or later, the FRA is 67. At FRA you can still continue to work without receiving reduced Social Security benefits.

Age 70. Last year to receive deferral credit for postponing receipt of Social Security benefits. There is no reason not to take Social Security at this point. If you continue to work, and your earnings are higher than previous inflation-adjusted earnings, your Social Security benefit will continue to be increased even if you are already receiving it.

The year you reach 70½. (Or, more precisely, April 1st after the year that you turn age 70 ½). Distributions from IRAs, and other tax-deferred retirement plans like 401K and 457 plans (except Roth IRAs) must be started. The distribution amount will be determined by dividing the total value of all tax-deferred retirement accounts as of the previous December 31 by your life expectancy using IRS tables. If you fail to take this distribution, or your distribution amount is less than the minimum required, the tax penalty is 50% of the amount you failed to remove from the account.

~ Allyn Hughes, CFP, CLU, ChFC — Brooks, Hughes & Jones, Partners in Wealth Management — Tacoma, WA

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Jobs that are kept contribute to the unemployment problem

Posted on August 29, 2012 | Leave a comment

A significant portion of the unemployment problem is driven not by jobs that have been eliminated but by jobs that have been kept by aging workers. Many of these workers in previous generations would have retired by now and passed their jobs to younger workers. Conversely, the exceptionally high unemployment rate among young people is largely a result of jobs not turning over at the top and creating a trickle-down impact.

Here’s some evidence from John Mauldin Frontline Thoughts newsletter on August 25, 2012:

This chart is from the St. Louis Fed FRED database. The blue line is the employment level of those 55 years of age and older (scale on the left), and the red line is the employment level of all workers (scale on the right.

Note that the number of employed 55 and over has risen more or less steadily since before the beginning of the Great Recession, growing by over 4 million, while the number of jobs for all workers has dropped by 8 million and is still down by over 4 million.

Since the end of the recession, the number of jobs has grown by less than 3 million, all of which have been gained by those in the 55 year and older category! And then some: Boomers have taken “market share” from those who are younger.

The “deal” with previous older generations was that they would retire and move on, making way for the next generation. Boomers are breaking that deal. Not only are we working longer, but we intend to keep on working as long as we jolly well feel like it, and then live on to a ripe old age and collect all those retirement benefits.

People are working longer for a variety of reasons:

  1. They enjoy their work, it is their identity and with life expectancy continuing to climb, they see no reason to stop at an artificial finish line
  2. They have not saved enough to have financial security in retirement. Social Security is not meant to replace all income and they haven’t filled the gap with their own savings.
  3. They have not thoroughly evaluated whether or not they can afford to retire. They haven’t planned for retirement and don’t know what it will cost. They carry some fear that they won’t have enough to live the way they would like to.
  4. They are uncertain what health care will cost if they retire before Medicare eligibility. Fewer companies provide health insurance to retirees and the costs of private insurance continues to climb.
  5. Demographics tell part of the story as well. With the Baby Boomer population bulge, there are simply more 55+ people in the population.

This trend, along with the elimination of jobs due to globalization and more efficient technology, means that we may simply need to reset expectations as to the “normal” unemployment rate. Instead of 4-5%, the new expectation may not dip much below the existing 8%. This may be fine with Baby Boomers but don’t be surprised if young people – particularly recent college graduates forced to accept jobs that don’t even require a college degree – start to raise their voice.

If you’re 55+, how do you view your employment situation?

Will you work as long as you are physically and mentally able?

Do you have a target date or a target amount of savings that will act as your retirement trigger?

Are you simply counting the days until you’re eligible for Social Security or Medicare?

What level of planning have you done to understand how much income you can expect in retirement?

~ Gary Brooks, CFP® — Brooks, Hughes & Jones, Partners in Wealth Management, Tacoma, WA

www.BHJadvisors.com

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Retirement spending varies by age band

Posted on March 26, 2012 | Leave a comment

When working with a client on a financial plan, one of the most difficult decisions that we have for a client is “what percentage of your pre-retirement income do you expect to live on in retirement?”

Most financial planners use a fairly well accepted percentage like 70% for folks who are comparatively well off and 80% for folks who have saved more modestly for retirement.  For these folks, Social Security often makes up a larger percentage of their retirement income.

Generally these percentages work but they don’t explain much about the differences in their expenses that most retirees actually face.

A professor from California Lutheran University, Somnath Basu, created an interesting “age banding” framework to try to explain how retirees in different age bands (65-74, 75-84 and 85-94) spend differently in retirement as they move through these age bands.  His analysis had two very useful assumptions:

1) That the basic inflation rate for some expenses during retirement – taxes and basic living needs – is relatively modest, just 3%.

2) That the basic inflation rate for other expense categories like leisure and health care in retirement is higher – approximately 7% each year.

Basu’s research showed that the amount that retirees spend on each of these four sets of expenses (taxes, basic living needs, leisure and health care) often also varies from age band to age band.

For example, retirees from 65-74 are no longer earning paychecks, and they are relatively healthy so they spend more on leisure activities.

Age Range Type of Spending Spending Level Compared to Pre-Retirement Assumed Inflation of Spending
65-74 Taxes 50% 3%
Basic Living Needs 70% 3%
Health Care 115% 7%
Leisure 150% 7%

In the second decade of retirement (ages 75-84) this spending pattern changes and spending on leisure dramatically drops while taxes and health care costs rise:

Age Range Type of Spending Spending Level Compared to Pre-Retirement Assumed Inflation of Spending
75-84 Taxes 100% 3%
Basic Living Needs 80% 3%
Health Care 120% 7%
Leisure 50% 7%

Finally, from age 85-94, this trend continues and leisure costs drop again.  Here is how spending looks during this decade within this framework:

Age Range Type of Spending Spending Level Compared to Pre-Retirement Assumed Inflation of Spending
85-94 Taxes 100% 3%
Basic Living Needs 90% 3%
Health Care 125% 7%
Leisure 25% 7%

The most important point of this analysis is that retirees should understand that their costs will change throughout their retirement years and their personal rates of retirement inflation might be very different from that of a friend or close relative—especially if they have a variety of health-related issues.  Thus, it’s misleading to apply a rule of thumb like 70% or 80% of pre-retirement spending to a retirement that could last decades and have very distinct stages with changing expenses.

~ Brooks, Hughes & Jones, Partners in Wealth Management, Tacoma, WA

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U.S. pension plans underfunded by $450 billion

Posted on January 8, 2012 | Leave a comment

Imagine if you knew you owed a dollar to your friend but you didn’t have to pay it back for 10 years.  Using the time value of money, you could assume an interest rate and then invest some amount (say 60 cents) so you could build up to have that dollar when you needed it.  Now imagine what you would do if you knew that you could only earn half the interest on your 60 cents that you thought that you could. You would have reached 80 cents instead of a dollar. What would you do?

Multiplied to add several zeros, this is the status of the typical U.S. corporate defined benefit pension plan right now according to Bank of New York Mellon.

Corporations contribute assets into the pension plans of their employees each year.  The administrators of these retirement plans use actuarial tables and average investment return scenarios—primarily of high quality bonds—to  project how much they will earn on their pension investments.  They then determine how much they could potentially owe to their pension recipients.  Finally they compare these amounts to determine how much to invest on behalf of each employee to be able to fully fund their expected pension payouts.

At the end of each year, the actuaries review the growth in expected retirement plan payouts and the growth (or loss) of the investments in the plan as well as the new contribution that the company has made to the plan and they determine if the plan is over or under-funded.

Right now, the average corporate defined benefit retirement plan has about 72% of the money that it needs to be fully funded. For companies in the S&P 500 Index that still have pension plans, the funding gap increased from $250 billion to $450 billion in 2011 according to Credit Suisse.

The problem is that most of these pension plan managers expected investment markets, not their contributions, to do the heavy lifting required to fulfill their obligations. Even if they have used a very conservative expected return when making decisions about how much to contribute to their pension plans, the actual rates have been below that.

That means that these plan managers have four basic choices about how to proceed:

  1. Lower their expected market returns for many years and get the leaders of their businesses to approve much higher payments into their retirement plans until these plans are more fully funded. Many publicly-traded U.S. companies are holding record amounts of cash. But investing it in their pension plans prevents them from reinvesting in their business for growth or paying dividends to shareholders.
  2. Hope that market returns increase soon.  At the same time they will also increase the risk that they take with the investments in the plan and hope that their returns will help bring the pension plan liabilities and assets into equilibrium.
  3. Issue bonds to raise money to meet their pension obligations.
  4. Weigh the costs and benefits of continuing to offer a defined benefit plan for employees.  If the costs are too high, they will have to distribute the assets of the underfunded plan to employees so they can be used to fund a defined contribution plan(401k, etc.).

None of these seem very appealing, so our guess is that choice number four will continue to be popular with many companies in the next couple years.

~ Brooks, Hughes & Jones, Partners in Wealth Management, Tacoma, WA

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How much do you need to save to replace your salary in retirement?

Posted on August 25, 2011 | Leave a comment

A prominent debate in the financial advisor industry examines what is a safe withdrawal rate from a retired person’s investment portfolio. It’s not quite consensus, but it is generally considered that you can withdraw 4% of the value of a portfolio annually, adjusting for inflation, and have your money last to fund a 30-year retirement. The topic gets a lot of attention but is meaningless unless the investor has saved enough over their working years.

Before we can focus on how long the money will last once we stop working, it’s important to understand how much will need to be saved while working. Some new research from Wade Pfau, shows just how important it is to start saving early. Waiting until mid-career when you feel like you can really afford to start saving will require you to save significantly more than if you start saving in your 20s. The difference is so large that late starters run a big risk of not being able to save enough.

See the chart below from an August 2011 Financial Advisor magazine article reviewing Pfau’s work.

It focuses on how much you need to save to replace either 50% of your final salary or 70%. The assumption is that Social Security will provide retirement income in addition to your savings.

Source, Financial Advisor magazine, August 2011, page 68.

Clearly, the shorter the accumulation phase – and the longer the expected retirement length – the more you need to save. No surprise there. But most people probably wouldn’t guess that for an investor with expected returns based on a balanced 60% stocks, 40% bonds portfolio, that they would have to save four times as much every year if they started saving at 45 instead of 25, assuming that they retire at 65 and live to 85 and want to replace 70% of their final salary. Imagine trying to save 43.31% of your salary each year if you wait until 45 to build retirement savings.

Even with Social Security income, some people may need to replace more than 70% of their final salary in order to continue the lifestyle they prefer. Reality suggests that it’s not likely possible because it would require saving even more money or taking significantly more risk by investing aggressively with hope of earning big returns.

~ Brooks, Hughes & Jones, Partners in Wealth Management

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Retirement reality: when is not always your choice

Posted on June 29, 2011 | Leave a comment

Interesting chart here from the Employee Benefits Research Institute analyzing the frequency at which people are able to retire on their own terms compared to those who have been forced to retire earlier or later than planned.

Twenty years of survey data suggests that people retire about when they plan to 48% of the time. More than 42% of retirees on average over the past two decades have retired earlier than planned. And only 5% of those retiring early offered positive reasons for their decision, indicating that they could afford to do it. Over half of early retirees were forced to due to health or disability. It’s not always their own health. Many cases include children who retire in order to provide full-time care for a parent who does not have long-term care insurance or adequate retirement income.

MetLife’s Mature Market Institute indicates that the percentage of adults providing care to a parent has tripled since 1994.

“Nearly 10 million adult children over the age of 50 care for their aging parents,” said Sandra Timmermann, Ed.D., director of the MetLife Mature Market Institute. “Assessing the long-term financial impact of caregiving for aging parents on caregivers themselves, especially those who must curtail their working careers to do so, is especially important, since it can jeopardize their future financial security.”

Research suggests that the cost impact on the individual female caregiver in terms of lost wages and Social Security benefits equals $324,044. Leaving the labor force early because of caregiving responsibilities equated to $142,693 of lost wages. The estimated impact of caregiving on lost Social Security benefits is $131,351. A very conservative estimated impact on pensions is approximately $50,000. Men forced to retire early to become caregivers forgo approximately $283,176 of earnings and retirement income.

What financial planning and life planning decisions are you making to increase the probability that you’ll be able to retire on your terms?

~ Brooks, Hughes & Jones, Partners in Wealth Management, Tacoma, WA

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As China ages, will high savings turn into a consumption boom?

Posted on June 3, 2011 | Leave a comment

According to the recent white paper Demographics in Emerging Markets: Hope or Hype by Mirae Asset Management, over the next 40 years or so, China will go through a large change in both the average age and spending habits of its population.

Demographers have created a Life-Cycle Hypothesis to explain earnings and savings rates in a country. This hypothesis says that when people are very young or very old, they don’t work and thus don’t save. During their working years, however, they save at higher rates.

If a country has a large population of either “youth” or “elderly” dependents, compared to its population of working-age people, the savings rate for the country will be relatively low.

In 2010, China had a median age (35.5 years) that was higher than most larger emerging markets countries except Korea (38.4 years) and Russia (38.7 years).

This relatively old average age reflected the fact that a higher percentage of Chinese were working than were underage or retired. It also led to a very high rate of household savings for the Chinese compared to almost all other countries. In fact, during 2010, the Chinese saved nearly 37% of their pay!

Demographers expect that this high rate of savings among the Chinese will continue for at least the next decade.

As we have shown in other blog posts, however, this high savings rate will change over the next 20-30 years. There are a few good reasons for this:

  1. Limitations on the number of children in each Chinese family will reduce the number of “youth” dependents.
  2. As the high number of Chinese workers begin to retire, they will be added to the group of “elderly” dependents. These elderly dependents won’t be savers, they will be consumers.
  3. This will force the overall savings rates of the Chinese down, and they will use this extra spending to increase their consumption of products and services.

Smart global companies will understand this Chinese retirement boom, and will position their products and services toward the huge number of individuals in this group.

~ Brooks, Hughes & Jones, Partners in Wealth Management, Tacoma, Washington

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Dave Ramsey’s misleading expectations

Posted on May 17, 2011 | Leave a comment

Radio host and author Dave Ramsey has developed a big following by delivering basic advice about financial literacy and budget management. He has helped a lot of people take positive steps to get out of debt and invest for their future.

But recently, he’s being called out by many members of the financial advisor community — particularly across social media channels — for suggestions about investment returns that are overly optimistic.

This New York Times blog outlines Ramsey’s problematic assumptions: http://bucks.blogs.nytimes.com/2011/05/13/dave-ramseys-12-solution/?partner=rss&emc=rss

Ramsey has suggested in many formats that investors can expect 12% average annual returns from investing in U.S. large growth stocks. Because a 12% return would compound so nicely that a tremendous nest egg could be grown over a working career, Ramsey also suggests than retirees may afford to withdraw as much as 8% of their savings each year and not worry about running out of money.

The average return of the Russell 1000 Growth Index over the past 15 years has been 5.47%. 10 years, 1.62%. If you stretch the averages back to the 1920s to even out the highs and lows, you still wouldn’t get to a 12% return. And, of course, investing in any one portion of the global markets increases risk.

Ramsey’s withdrawal rate guidance could cause retirees to run out of money well before they run out of time. Most research in the financial industry supports a 4-5% withdrawal rate, adjusted annually for inflation.

As with most financial advice, applying rules of thumb or general statements to your personal situation can be misleading. Take the time to determine what steps are needed to help you build financial security and get a second opinion if you’re not comfortable with the process on your own.

~ Brooks, Hughes & Jones, Partners in Wealth Management, Tacoma, Washington

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