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“Retirement is wonderful if you have two essentials: much to live on and much to live for.”
-Unknown
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Retirement!
Retirement is one of only a few words in the English dictionary that simultaneously create joy, excitement, happiness, fear, anxiety, and apprehension.
Emotions peak during the period approaching retirement because workers leave the stability, friendships, and steady income that work provides. But, there is also joy and happiness from realizing that the retirement period signals the beginning of a period of new possibilities and activities.
Fear, anxiety, and apprehension surrounding retirement spring from the prospect of funding retirement through available income sources after losing work-related income. The ease, security, and stability of a periodic income stream are replaced by the uncertainty of how retirement income will be funded.
These insecurities flow from the fact that many people feel they are not adequately prepared or educated for the task of preparing a retirement income plan. Long-standing accounts that have grown and matured over many years must now be accessed for retirement income needs (It’s difficult for most long-term savers to flip the switch from saving to spending in accounts that have appreciated over a lifetime of saving.) And, most people facing retirement realize that they own several different types of accounts with varying balances and are confused about the proper way to utilize all these different accounts.
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My retirement journey started approximately eight years ago when I went from a being full-time dental practitioner to a part-time dental provider doing Locum Tenens dental treatment in area dental offices.
As I transitioned to a limited work schedule I immediately lost the safety, stability, and income that a full-time practice provided. My reduced practice income meant that the majority of my income would now have to be provided by additional income sources.
All the advanced planning didn’t adequately prepare me for the reality of generating retirement income. I had multiple questions and multiple concerns. Did I have enough money saved? How could I verify that I was financially OK? How would I create a “retirement paycheck”? What accounts should I access, and in what order should I access these accounts?
Most retirees have several available sources of retirement income. The two main considerations for those attempting to determine retirement income funding are:
- What income sources are personally available? Not all income sources are available to all retirees. One of the most important tasks before retirement is identifying, locating, and listing potential sources of retirement income, and listing balances of all available personal (and spousal) accounts.
- How will those sources be accessed and utilized; and what is the proper sequence for accessing these funding sources? In most cases, there is a best-use sequence for utilizing different accounts. For example: accessing after-tax (portfolio) accounts first, then pre-tax accounts, then tax-free accounts (This is a very simplistic example and optimal solutions are normally not as clear cut or easy.)
This blog will address different income sources for retirees, while my next blog will address the strategies surrounding the best use and sequencing of available income sources. If the amount of income needed has already been established (See: QUITTING WORK- WHAT’S YOUR NUMBER?, ANNUAL SPENDING- DID I SPEND THAT MUCH ?), then the next step is to identify where the needed dollars will come from.
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Income Sources for Retirement Income
The following is a listing of both traditional and non-traditional sources of income that can be utilized to fund retirement:
- Social Security– social security is probably the most utilized and recognized retirement income source for most Americans. Social Security payments are guaranteed to keep up with inflation, and retirees receive the new inflation-adjusted cost of living adjustment (COLA) payments each January. The vast majority of American workers contribute to the United States Social Security program while working, and then begin to access those social security savings during retirement. Each person’s PIA (Primary Insurance Amount) is a function of dollars contributed, quarters worked, and full retirement age. To be eligible for Social Security benefits as a worker you must be: Age 62 or older, disabled or blind; and “Insured” by having enough work credits. For applications filed December 1, 1996, or later, you must either be a U.S. citizen or lawfully present alien to receive monthly Social Security benefits. The Social Security Administration defines PIA as The benefit (before rounding down to the next lower whole dollar) a person would receive if he/she elects to begin receiving retirement benefits at his/her normal retirement age. At this age, the benefit is neither reduced for early retirement nor increased for delayed retirement. Although many sources recommend delaying benefits until age seventy very few people wait until age seventy. According to The Street: Only 5% of U.S. male retirees and 7% of female retirees start taking Social Security at age 70 when benefits are at their highest, the SSA reported. The SSA also notes that about half of all retirees take Social security benefits before full retirement age and a quarter (25%) take their benefits at the trigger date of age 62 when withdrawal amounts are significantly less than at age 67 or 70.
- Government, military, or organizations providing retirement funding– Many older Federal, State, and Municipal employees are covered by separate retirement plans that are now coordinated with and integrated into the social security benefits program.
- Pensions– (also termed Defined Benefit Plans) are a retirement arrangement in which an employer promises a regular payment from the day of retirement until death (if the lump sum option is declined.) With a defined benefit pension plan you know exactly how much you’ll receive each year in retirement. Pension funds are normally not indexed for inflation and can usually be taken as a lump sum or annuitized to provide a stream of lifetime income. The pension amount depends on the length of employment and salary during employment.
- Company-sponsored (non-pension) retirement accounts– company-sponsored retirement plans (also known as Defined Contribution Plans) are plans without a defined benefit amount where employers and employees normally contribute money into tax-deferred accounts.
- Individual retirement accounts– IRAs (technically termed Individual Retirement Arrangements) are tax-deferred retirement accounts for individuals. IRAs allow account holders to defer taxes on principal and investment earnings until those dollars are distributed. As of the date of this writing (1/20/2023), the current age for initiation of RMDs is age 73.
- Brokerage/ Savings accounts– brokerage accounts, bank savings accounts, CDs, individual stocks and bonds, and all other accounts derived from capital previously taxed. A bond or CD ladder can create a stable annual income. Periodic withdrawals of a percentage of the principal each year can also generate retirement cash. A retiree may also be able to live off earnings from dividend income and capital gains from stock investments.
- Annuities– according to Investopedia: An annuity is a contract between you and an insurance company in which you make a lump-sum payment or series of payments and, in return, receive regular disbursements, beginning either immediately or in the future. The income you receive from an annuity is typically taxed at regular income tax rates, not long-term capital gains rates, which are usually lower.
- Part-time job– Income derived from continuing to work in your chosen field on a limited basis, working part-time in another field, or income derived from independent contracting services. Part-time work is health dependent. Health can deteriorate over time and associated income will decline or cease with declining health.
- Small business– income derived from the profit, distributions, or sale of an individual or family-owned business. According to a survey by the Guardian Insurance and Annuity Company, over 35% of small business owners are depending on the sale of their businesses to help finance their retirement.
- Home equity– income may be generated from the sale of a personal home, or income from a reverse mortgage. According to Clark asset management, nearly 18 percent of retirees are using the equity they’ve built up in their homes to help pay for retirement. The only reverse mortgage insured by the U.S. Federal Government is called a Home Equity Conversion Mortgage (HECM) and is only available through an FHA-approved lender. The HECM is FHA’s reverse mortgage program that enables you to withdraw a portion of your home’s equity. The amount that will be available for withdrawal varies by borrower and depends on the age of the youngest borrower or eligible non-borrowing spouse, the current interest rate, the lesser of the appraised value, the HECM FHA mortgage limit, or the sales price.
- Real estate– income from other real estate holdings not including a personal residence. (This may include the sale of investment real estate or income from rent or leases.)
- Side hustle– similar to a part-time job. Most “side hustles” are individual enterprises and don’t involve outside employers. As such, there is more freedom and less guaranteed income. Some side hustles grow into full-time and lucrative businesses.
- Inheritance– inherited money may or may not occur, and may or may not be significant. (Money dedicated to heirs may instead be used before the death of the grantor to pay for health care, living and housing expenses, or emergencies.)
- HSA distributions– available HSA funds can provide an income stream through distributions in retirement (THE MISUNDERSTOOD HSA (HEALTH SAVINGS ACCOUNT.) (once Medicare coverage is initiated people can no longer fund an HSA. But, available funds can be distributed as needed for reimbursement of past qualifying medical expenses, or as reimbursement for Medicare premiums.)
- Cash value life insurance– unneeded life insurance policies can potentially become a valuable income source as embedded cash values in whole life policies have normally increased significantly, and policies may no longer be needed to protect the income earning potential (Generally, total premiums paid into the policy are not taxable as those dollars are considered a return of premiums paid with after-tax dollars. Gains on the policy (e.g., dividends) that are withdrawn are normally taxed as ordinary income.) This can change if the money used to pay premiums has not been previously taxed.
- Roth accounts– Roth accounts are funded with after-tax dollars. Since both principal and earnings can be distributed tax-free after age 59 1/2 and a five-year holding period, Roth accounts are one of the most valuable retirement income sources. Qualified distributions are not taxed, nor do these distributions increase taxable income.
- Hobbies– hobbies that also generate income can be an additional source of income. Getting paid to do something you like is a win-win situation. Any skill or talent that others are willing to pay for can add to retirement income.
- Alimony from divorce– Alimony is a sum awarded to a spouse or former spouse following a separation or divorce, and is awarded to ex-spouses of long-term marriages and stops upon death, remarriage, or court order.
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The strategy here is to assess and identify all potential income sources before retirement. They ultimately may or may not be used or needed, but Identifying sources and available amounts of money are vitally necessary for retirement Planning.
As seen above, there are at least eighteen potential sources of retirement funding. Not all eighteen sources will be applicable or relevant to everyone, but it’s important to evaluate each source for potential retirement funding opportunities. Not everyone will have all of the retirement accounts listed above, or have a profitable hobby, side, gig, or work part-time. But, someone may have cash value life insurance that’s not been considered or untapped accounts that may be forgotten or misplaced.
The overriding idea here is to identify and list all potential sources of retirement funding.
my next blog will discuss how these different funding sources can work in concert to provide the best mix of retirement funding accounts and sources.
Final thoughts
- The time approaching retirement can be joyful, or fearful. Planning before retirement is crucial in decreasing negative emotions, fear, and apprehension at the beginning of retirement.
- Providing a stream of retirement income can be stressful and confusing. The first step in mediating stress and confusion is to locate and list all potential sources of retirement funding.
- There are many sources of retirement funding. not all sources will be relevant or applicable to every person.
- The first step is to locate and list every applicable source of potential retirement funding.
- Once sources are identified, then the process of developing a retirement funding plan can begin.
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