Category Archives: Retirement Planning


Taxation without Complication

Albert Einstein is synonymous with genius. Yet, when talking with his friend and personal tax account, he once said, “The hardest thing in the world to understand is the income tax.” His story reveals two things: First, filing taxes can be difficult. Second, even geniuses consult financial planners.

Because filing taxes can be a complicated process, people are more likely to make small errors that can have costly consequences. But, there are steps you can take to simplify the process, avoid mistakes and save money.

  • Get organized: Start with the basics: save, centralize and organize your important tax-related documents to avoid losing important information. This includes earning statements such as W-2 or 1099-MISC forms; additional income statements like investment earnings; and information on potential tax breaks such as deductible student loan interest documentation and charitable contributions.
  • Collaborate: Two heads are better than one. Discussing these materials with your spouse can help you more accurately organize tax statements, such as deductions and credits. When both partners understand their tax forms, each individual can help prepare for future filings and check for errors.
  • File strategically: How you file a tax return can impact how much you pay. Consider all of your options before completing a tax return, such as head of household, married and filing separately, and having your dependents file separately.
  • Timing matters: Failing to pay larger expenses in the last quarter of the year, such as a mortgage payment or large medical expense, can significantly reduce your potential tax refunds. Instead, plan ahead to reduce the risk of late fees as well as missed refund opportunities.
  • Maximize your IRA contributions: Unless your spouse is covered by an employer-provided retirement plan and your adjusted gross income exceeds IRS limits, maximizing your traditional IRA will reduce your taxable income through relevant deductions. If you use a nondeductible IRA, consider a Roth IRA, which has a higher income limit and the potential to avoid taxation after withdrawing earnings.
  • Be careful: Many Americans wait until the last minute to file their taxes, which often results in basic mistakes, such as using wrong or missing Social Security numbers, incorrect bank numbers, misfiling a return and simple math mistakes. In the event that you make a small error when filing, wait to see if the IRS calls. For more significant errors, you should amend your tax return via a 1040X form as soon as possible. In addition, if you can’t make the April 15thdeadline, file a 4868 form. This will grant you six additional months to file, but will also require you to pay added taxes owed for the year.

There are steps available to avoid mistakes while potentially saving you more money.

We also recommend following Albert Einstein’s example and consult a Pro- A tax professional and a financial advisor. They can help you better understand your options.

From Taxation without Complication Copyright ©2017, Certified Financial Planner Board of Standards, Inc. All rights reserved. Used with permission.


8 Ways to Reduce the Tax Bite During Retirement

It’s one thing to build up your retirement savings so you can retire. But remember, every dollar you save in tax-deferred plans, including 401(k)s and traditional IRAs, will be taxed when you withdraw money after retirement. It’s also important to plan so that you can minimize that tax bite after retirement.

If you haven’t thought about tax planning yet, it’s not too late. Here are eight strategies to consider as you approach and enter retirement:

(1) Know what you spend.  Many people believe their expenses will go down in retirement, but the reality depends on the lifestyle you want. Do you plan to travel? Take classes or start a new hobby? Help out your children and grandchildren? These activities will cost money. And don’t forget about healthcare costs. Understand what Medicare and supplemental health policies will provide and what you’ll be paying out of pocket. Once you have a firm grasp on your expenses, you can strategically plan your withdrawals.

(2) Know your tax bracket.  Staying in a low tax bracket can help retirees minimize the tax they pay on their withdrawals. When your income reaches specified thresholds, you pay gradually higher amounts of tax on the additional income. Check out the tax rate schedules, tax tables and cost-of-living adjustments for certain tax items for 2017. If your withdrawal plan puts you into a higher tax bracket by a hair, you might want to lower the amount you plan to pull out.

(3) Diversify.  Having a variety of accounts that are taxed differently can provide flexibility when it comes to taking withdrawals in retirement. Your retirement savings may include a pension, IRAs, a 401(k) account and stocks, and bonds and mutual funds not held in tax-deferred accounts. Consider drawing from different buckets. Taking funds from already taxed accounts, like Roth IRAs or Roth 401(k)s, may be better than withdrawing from all accounts equally. Leaving your tax-deferred accounts, like traditional IRAs, to grow reduces taxable income. One caveat: If you are 70 ½ or older, you must take minimum distributions.

If you don’t have a Roth IRA or Roth 401(k) you might want to consult an accountant, a CFP® professional, or your human resources department about opening one, or even transferring some of your retirement savings into one. If you have had a Roth IRA for more than five years and are older than 59 ½, you can withdraw money tax-free.

(4) Think about using a Roth IRA, but be careful.  If you don’t have a Roth, and you’re a high earner and therefore precluded from opening a new Roth, you can still establish one by putting $5,500 in a traditional nondeductible IRA and then converting it to a Roth later on. But there’s an important trap to avoid. If you have other IRA accounts that were funded with deductible contributions, the amount converted to the Roth is considered to have come pro-ratably from all your IRAs, and not just from the nondeductible IRA you set up to convert to the Roth.  As a result, some of your conversion may be taxable.

(5) Plan to delay withdrawals. If financial markets are rising, enjoy the ride and wait to withdraw. You’ll pay taxes on the gains later. If you don’t need to pull money from IRAs, 401(k) and other tax-deferred accounts, hold off as long as you can or until you must take distributions at 70 ½. Let those accounts continue to build up on a tax-deferred basis until you need them.

(6) Know the rules for Social Security. The stark reality is it does not generally pay to claim Social Security retirement benefits before full retirement age. That’s age 66 for people born between 1943 and the end of 1954. The retirement age increases in two-month increments until age 67, for those born in 1960 or later.

Here’s why this is important. If you were born in July 1955 (age; 62) and will earn $100,000 for 2017, the Social Security quick benefit calculator displays how your benefit jumps from $1,421 to as much as $2700 per month if you delay social security income.

 

Retirement age Monthly benefit amount1
62 and 6 months in 2017 $1,739.00
63 in 2018 $1,805.00
70 in 2025 $3,126.00
1Assumes no future increases in prices or earnings.

 

If you are married, widowed, or divorced having been married for more than 10 years, your claiming strategy gets a bit more complicated, but making the right choice can be even more profitable. Talk to a CFP® professional or another financial professional about strategies you should consider. Your Social Security income is also taxable, depending how much income you receive from other sources, including withdrawals from retirement accounts.

(7) Decide where to live.  For many, the ideal place to retire is someplace with a warmer climate, more affordable housing, and close to family or friends.  But another important factor to consider is how your income and assets will be taxed. Some states have no income taxes for individuals; others don’t tax Social Security benefits and most income from pensions and retirement accounts.  Check out the 10 Most Tax-Friendly States for Retirees.

(8) It all starts with a plan.  It’s important to have a plan in place before you retire. But even if you’re close to retirement, it’s not too late to take advantage of the benefits of tax planning. A financial planning professional can help you identify your goals and develop a personalized plan that will maximize your income and reduce your taxes in retirement. A financial planning professional will also work hand in hand with your accountant to ensure your plan is executed properly.

But remember, unexpected circumstances can arise and tax laws are constantly changing. Meet with your advisors on a regular basis to make sure you remain on track. Balance your need for income against what you truly in enjoy in life, so that you can avoid paying unnecessary taxes.

By J.J. Burns, CFP® From 8 Ways to Reduce the Tax Bite During Retirement Copyright ©2017, Certified Financial Planner Board of Standards, Inc. All rights reserved. Used with permission.


Retirement for Baby Boomers when there isn’t one

Every generation believes itself unique. Unfortunately for Baby Boomers, this may be especially true about their ability to retire.

Some sociologists argue that the Baby Boomer generation has taken historical uniqueness to the extreme, rewriting the rules on just about everything: sex, marriage, work ethic, consumption, faith, and even death. Now that Baby Boomers are in or entering their 60s, it’s ironic then that many lament they cannot retire as their parents did.

In a recent survey by AARP, 44 percent of Boomers said they believed their standard of living will be worse than that of the previous generation.

Despite this result, the first Baby Boomers are often declining to delay their retirement past the age that Social Security defines as their full retirement age, according to a 2013 MetLife study. Even though these Boomers enjoy approximately five more years of life expectancy than their parents did at age 65, 52 percent of these Boomers have retired at an average age of 59.5.

On the plus side for Boomers is the fact that one of the biggest threats to retiree security — inflation — is mercifully low. Older Americans will recall a time when annual inflation averaged between 6 percent and 10 percent a year, and how cumulative inflation from 1970 to 1989 ran a whopping 162 percent.

So what’s left to retirement for Baby Boomers to figure out?  What rules should they break, and which should they keep?

  • The “4 percent” withdrawal rule:  Developed two decades ago, this rule sets the inflation-adjusted amount that retirees can take annually from their savings in order to avoid running out of money before their deaths. The rule was based on historic asset return data, and focused on the negative returns of the Great Depression and the stagflation of the 1970s as presenting the greatest threats to individuals living on investment income. Four percent was determined to be the maximum rate that would allow a retiree to live through periods like these without exhausting his resources. But while 4 percent was created to work for Boomers’ parents or grandparents, it‘s unclear as to whether it will work going forward. Near-zero real returns to bonds as well as increased global volatility have many financial planners believing the “safe” withdrawal rate will need to be lower for Boomers. At the very least, Boomers will need to be flexible in their retirements, able to dial down their rate of withdrawal in extremely negative return environments, delaying consumption until more positive returns are achieved. BREAK IT
  • No debt in retirement:  Boomers are already carrying much more debt – think mortgages and credit cards – into their golden years than did their forbears. But today’s retirees would do better to honor their elders’ example.  Being debt-free in retirement provides necessary cash-flow flexibility. KEEP IT
  • A care-free retirement depends on smart investing:  While not exactly a “rule,” the many brokerage ads depicting happy couples strolling the beach have a lot of retirement-bound Boomers believing that if they just pick the right investments, they will do fine. The reality is a bit more complex:  Prudent investing is wise, but not a complete solution until combined with expense control, down-sizing, health care and disability management, and even part-time work. A diversified “portfolio” of solutions, not a single hot stock or fund, will be the winning formula for many retirees. BREAK IT
  • A carefree retirement, period: Isn’t this the deal that all generations, not just the aging hippies, subscribe to? Unfortunately, Boomers’ increasing life expectancies – theirs and their parents – have meant that their retirements may include much elderly caretaking. Meanwhile, their children – hard-hit by the economy – are also asking mom and dad for help.  Boomers will need to establish realistic priorities, and to set financial limits for their retirements that they might not have anticipated. They’ll need a multi-generational approach to financial planning that addresses both their needs as well as the needs of their extended families.

Defiant Boomers have always done things their way, and navigating retirement will be no exception.  They are, in fact, the first generation that has to look primarily to their own resources and management – rather than to government or corporations – to invest for retirement and create an income stream from these investments.

Fortunately, financial planning and the certification of competent, ethical professionals have come of age with the Boomers, to help them make the most of this uncharted territory.  Boomers will no doubt continue to “do their own thing” in retirement, but with a CFP, they can do it prudently and successfully.

 

From Retirement for Baby Boomers when there isn’t one Copyright ©2017, Certified Financial Planner Board of Standards, Inc. All rights reserved. Used with permission.


Smile Your Way Through Retirement

Just retired or soon to be?

Here’s a warm-up exercise to get you ready for this important phase of your life.

Stand in front of a mirror, and spend a minute or two thinking about what you will spend in retirement.  Now study your face and body language.

Your demeanor is probably telling one of two stories.  Some of you may be wearing a complete blank, eyebrows raised, palms up, as if to say, “I haven’t got a clue what I’ll spend in retirement.” If you’re in this group, check in at the end of this blog where I recommend getting some professional advice to help you get a grip on your prospects in retirement.

Most of you, however, are looking worried or concerned – frown wrinkles between the eyes or clenched fists, ready to slug your way through the cloud of uncertainty that descends whenever you contemplate retirement.  The fear of spending too much and/or living too long is written clearly on your face.

But is anyone smiling?

Probably not, but maybe you should.  According to a recent article in the Journal of Financial Planning1 which looked at spending patterns of retiree households, there is some good news to smooth out those worry lines. The data show that retirement spending tends to decline by approximately 1 percent annually, in real terms.  But here’s something just as encouraging: over a twenty-five year period from ages 60 to 85, the actual annual changes in spending trace a “retirement smile.”  In other words, retirees tend to begin their retirement years at a higher-than-average level (one corner of the “smile”) and end their retirement period with another higher expenditure level (the other corner).   Between the two is the curve of decreasing, then increasing spending, with the lowest levels coming between the ages of 70 and 75.

What’s the positive message here for retirees?  For one, the study shows it’s normal to spend more liberally in early retirement – the time when healthy retirees travel, remain active and enjoy life.  For another, the study indicates that the worry about having to spend a lot more – generally on medical expenses and personal care – late in retirement is indeed a reality, but does not result in overall overspending.  Those middle years of lower spending still keep the average going down over the entire retirement span.

Of course, averages are one thing; your individual circumstances are quite another.  Does this study of “normal” retirement spending still have any good news applicable to you?

The answer is yes.

It demonstrates that each of us has more control over our spending in retirement than we may think.  It also reinforces the following empowering principles:

  • There’s nothing “fixed” about retirement.  We often think that the last phase of our lives is constrained by having to live on a fixed income. Same for our spending, which is perhaps the source of the popular 80 percent rule as a good estimate of what your expenditures will be relative to your current income.  The reality is far more flexible, and more interesting, for retirees.  There will be years of more and years of less, years of having fun and years of taking care.
  • While planning for retirement is imperative to ensure you have the resources to support your spending, planning in retirement is critical, too.  The ebb and flow of spending, which in turn dictates the amount of taxable income you’ll need from your retirement accounts, creates opportunities for creative tax planning.  For example, keeping your adjusted gross income down in a low spending year may qualify you for certain tax credits and deductions.
  • During years of spending more, spend smart. At the beginning of retirement when you’re still healthy, energetic, and have an overflowing bucket list of things to do and places to see, it’s tempting to live large and enjoy life. That’s okay, provided you plan carefully for that largesse and make smart spending choices. Use the free time afforded by your retirement to budget and price compare before you spend. For example, eliminate all those premiums you paid for convenience while working and time was short. Travel during the off seasons; fly through a connecting city, rather than direct; dine out at that new restaurant at lunchtime rather than dinner; get tickets for the matinee film or play.
  • Just because you’re retired, doesn’t mean you should stop saving. During the lower expense years – that period between ages 70 and 75 – prepare for the higher expenses at the end of retirement. If you can, set aside any “leftover” income at the end of the month in a reserve account to hedge against future medical and personal care expenses not covered by insurance.
  • Real spending is what really matters. The study cited above tracked changes in real spending, which means that inflation was factored out of the analysis.  If nominal spending rather than real spending had been tracked, the “smile” pattern of retirement would have looked instead like a crooked grin, with spending increasing each year.  For many retirees, it’s that rising level of expenditure for the same basket of goods and services that’s most worrisome. If, however, retirees focus instead on maintaining the purchasing power of their sources of income, the rising level of nominal spending can be of less concern.  This means keeping a healthy allocation to equity investments, real estate and commodities in the portfolio, rather locking everything into guaranteed sources of income.  Playing it too safe, investment-wise, can mean retiring sorry.

If, however, you’re still finding it tough to feel happy about retirement, try the warm-up exercise with this difference: step up to the mirror with a financial planning professional at your side.  CFP Board studies have shown that those who do their financial planning, ideally with a trusted, competent professional, feel much more confident and in control of their futures.  And that’s certainly something to smile about!

1David Blanchett, CFP®, CFA, “Exploring the Retirement Consumption Puzzle,” Journal of Financial Planning, May 2014.

From Smile your way through retirement Copyright ©2017, Certified Financial Planner Board of Standards, Inc. All rights reserved. Used with permission.