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Retirement Planning: Not All Pain and Suffering March 17, 2009

Posted by retirementwithaplan in retirement, social security and pensions.
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031709_2009bd04959_There is an ongoing narrative played out on the evening news and any number of news organizations that report on the state of the economy. Things are bad and possibly getting worse. Even if they are not necessarily bad for you – you are able to make your monthly payments, your job has survived much of the downsizing your business requires to stay competitive and your retirement plans, while having taken a market hit just like everyone else, are still able to provide you with a modicum of relief.

As long as they are bad for some, we empathize. We wonder if it could happen to us and if so, what would we do. The root of a plan is the preparation for disaster or worst-case-scenario. When it comes to retirement, we often overlook numerous pitfalls and potholes. With so much bad news, we no longer do. But now, we seem to be ignoring the scenery looking for potential problems.

How should you look at your plan?
Probably the most important thing is to gather together all of your potential income sources. Many of us still have pensions. Some of us were smart enough to fund IRAs alongside those pensions. Still more of us availed themselves of the 401(k) plans at work. And a surprisingly number of us have had the ability to possess all three in some form or another.

Your pension’s health is mostly out of your control. The company you work for or the union you might belong to (often in conjunction with the employer[s]) control many of the investment decisions. The law requires a minimum funding in many instances and this is where these plans are having difficulty. Less than a third of them are fully funded with many in such serious shape, they have been forced to comply with the Pension Protection Act of 2006 and the modified law enacted shortly before the new administration took office.

These modifications require a pledge to fully fund the plan, a plan outlining how they plan to do so and notification to the plan’s participants on what changes they can expect. Expect the worst. Once you get this information, attempt to figure out what would happen if the Pension Benefit Guaranty Corporation, the arm of the federal government that insures pensioned workers get something for their years of service, will pay should the pension not be able to meet those obligations and possibly even fail. (Find out here.)

You now have a more realistic idea of what that pension will pay and more importantly, when. next up is retirement investments you may have made outside of this plan. Do not count your house among you assets. In many cases, it should be counted as a liability. Some of us will enter retirement with house payments and all of us will have insurance, taxes and upkeep expenses associated with the home long after we retire.

Plans outside of pensions
401(k) plans and their counterparts, the IRA have all seen dramatic decreases in the total available funds. You may now look at this as a baseline. The best possible withdrawal number from these accounts is still 4%. This number will keep your money from disappearing entirely in your lifetime although the worry that four percent will not be enough, and as a stand alone number probably falls short of your expectations, it is still a calculable amount to consider.

How and when you decide to take this payout is key to the overall plan’s longevity. Could you survive until age seventy and 1/2 without tapping those funds? Another problem face those with these types of plans when they retire: how to receive them.

Often, these plans offer you a lump sum payment or the ability to take the money in those plans and roll it over into an annuity. This option comes with numerous choices. You could chose a life only payment plan which pays you a certain amount until your death. Keep in mind, the insurer – in almost all cases, the annuity is held by an insurance company with actuaries making educated guesses as to how long you will live and the economic viability of their payouts over time. You can beat this type of payout if you live well past when they think you will.

If you are worried about how you spouse will fair after you die, you might opt for the joint and survivor payment plan (this is also part of how a pension plan works, giving you a lower monthly payment but a guarantee that your spouse will not lose what you had coming should you meet an early demise). Annuity providers will also dangle a third option in many instances called the life and period certain. This option pays a certain amount for your life or a specific time period, whichever is longer.

(Keep in mind, all of these tax-deferred pans are treated as ordinary income when you receive them. The thinking is that you will be in a lower tax bracket when you retire. Always consider how any retirement payment will impact your taxes and that bracket by consulting a tax professional prior to making any concrete decisions.)Your payments are generally taxed as ordinary income when received.

Because annuity payments are typically fixed, the impact of inflation on those payments must be considered. Inflation can erode this income over time making what you receive seem less valuable as time marches on.

You could consider taking the payout as a lump-sum distribution. This gives you a unique opportunity to invest your retirement funds but also the daunting task of finding somewhere worthwhile for those funds. If you are investment savvy, those funds could be something your heirs could look forward to or, if you are not, the lump sum could fall victim to poor decisions and be worth far less over the long-term.

The taxes you pay on a lump-sum distribution depends on how you handle it. Rolling it over into a qualified plan such as an IRA will allow you to defer any taxes until you reach the legal withdrawal limit (59 1/2) while taking the lump sum and doing nothing will subject it to your current taxable rate, possibly even penalties.

If you are calculating Social Security int the mix, also taxable but often readjusted for the cost of living, consider waiting as long as possible to apply. One method that is gaining in popularity is taking the SSA payment as soon as possible, saving the payment and reapplying when you reach full retirement age. Some paperwork is required but if you can pay back what you have already received, you can get the new higher payment.

Each of these options require you to paint a less-than-rosy outlook and learn to cope. Should you find that the markets recover, your health is good or some other unforeseen good fortune comes your way, you will at least know what your baseline retirement income will be and build your post-work plans around it.

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