Retirement income planning is one of the most critical ingredients for a stress-free and happy retirement. After all, you have spent decades saving for retirement. Now, it’s time to enjoy it while also making sure that your savings last.
Retirement income planning helps people create a strategy for transforming their retirement savings into retirement income. It takes into account all of your assets, your preferred lifestyle, your estate plan, and your life expectancy to create a roadmap that guides you into and through retirement.
When executed properly, a retirement income plan can mean retirement bliss. Not having a retirement income plan or executing it improperly can spell disaster.
Working with a financial professional can help people make the most of their retirement income, as can avoiding these seven common mistakes:
1. Mistiming the Sale of Assets
When much of your future income is tied to market performance, you may experience a shock when you see a bear market emerging. However, selling shares while the market is dipping can seriously disrupt your return potential, and even dip into your principal.
A good way to avoid the temptation to sell when markets are volatile is to have a well-crafted strategy in place. That’s because a well-crafted strategy can give you the confidence you need to trust that your savings will hold long enough for the markets to bounce back.
2. Not Planning Adequately for Required Minimum Distributions
After age 70½ (or, in some cases, age 72), you are required to withdraw a certain amount from your retirement accounts each year. Ignoring these withdrawals, called required minimum distributions (RMDs), will result in a whopping 50% excise tax on the undistributed amount. So not taking them is not an option. On the other hand, withdrawing as the IRS demands can interfere with how you intend to convert your savings to income.
Here’s what you need to know about RMDs when deciding how to work them into your retirement income plan:
- Each plan’s RMDs must be treated separately – If you have different types of retirement plans (for example, a 401(k) and a traditional IRA), you must calculate the RMD for each plan independently, then withdraw from each plan separately. However, if you have multiple plans of the same type (for example, two IRAs), you can add together the RMDs owed for the same types of plan, then withdraw that amount from just one plan.
- RMDs are not eligible for rollover – Cash generated through an RMD cannot be rolled over into another retirement plan.
- New legislation may affect your RMDs – In March 2020, Congress passed the CARES Act, which waived the RMD for the rest of the calendar year. Stay up to date on new legislation and be ready to rethink your RMD strategy in the event of changes.
3. Not Planning for Taxes
One of the features of RMDs that most irk retirees is the potential for the withdrawals to push them into a higher tax bracket. Working with a financial professional to generate a comprehensive tax plan that takes into account all of your assets can make a tax difference of thousands of dollars.
Being wise about how you invest can also make a big difference in how much you have to fork over to Uncle Sam. Although qualified dividends and long-term capital gains will be taxed, they will not be subject to the higher rates of income tax. Other strategies, like reinvesting dividends, investing in municipal bonds, and using losses to offset capital gains can reduce your tax burden.
4. Collecting Social Security Before You Need to
Social security can be an important part of the retirement income puzzle, particularly given that it lasts until death.
Reduced Social Security benefits are accessible as early as age 62. However, full social security benefits aren’t available until full retirement age, which falls between ages 66 and 67.
Retirees who wait until full retirement age to collect Social Security are going to have a more robust social security income than those who begin collecting the moment they are eligible. Moreover, benefits increase for those who wait until after full retirement age to collect. The benefit increases by a certain percentage (calculated based on year of birth) for each year that you delay collecting social security.
In other words, it often pays to wait. Take our Social Security Master Class to learn more about when to take benefits and how to maximize those benefits.
5. Neglecting to Rollover
In the context of retirement planning, a rollover is essentially the transfer of funds from one retirement plan to another.
A rollover can be used to consolidate disparate retirement plans offered by distinct employers into one uniform plan without sacrificing preferred tax status or subjecting the account holder to early withdrawal penalties.
In retirement, it’s often used to transfer 401(k)s and other employer-sponsored plans to IRAs, which typically have more investment options, fewer fees, and greater flexibility insofar as accessing funds is concerned.
IRAs can also provide greater tax flexibility. An IRA, unlike a 401(k), permits the account holder to specify how much tax to withhold from each distribution. Of course, it’s unwise to opt for no withholdings, since doing so can result in a heavy year-end tax bill. However, the withholding amount can be tweaked to more accurately reflect what the account holder will owe at the end of the year, rather than the standard 20% withholding that comes with a 401(k).
And, if you convert specifically to a Roth IRA, it can mean avoiding those pesky RMDs.
6. Improper spending
Improper spending of retirement income falls into two categories: spending too much and not spending enough.
Transitioning to retirement can be an adjustment for so many reasons, one of which is that it means the end of regular paychecks. There can be a temptation to spend as though you are still earning, particularly as the pace of life slows. The problem is that there are few ways to earn back spent income in retirement. Most of your savings will dwindle over time and the key is making sure they dwindle at the appropriate pace.
On the other side of the coin are individuals who do not spend enough. Some people are so stressed by the idea of running out of money in retirement that they refuse to spend beyond what it takes to cover their most basic expenses. Although this strategy is fiscally sound, it’s not a great life choice. After all, retirement should be the golden years, characterized by comfort, leisure, and quality time with loved ones. Take a trip to Italy with neighbors or cruise along the Alaskan coast with grandkids while you’re able to.
Working with a financial advisor to develop a budget for spending your retirement income can liberate retirees to live more freely, and make sure that retirement income lasts as long as needed.
7. Not Budgeting for Healthcare
Healthcare is one of the fastest-growing costs of living in America.
Currently, Americans don’t qualify for full Medicare benefits until age 65. If you’re retiring before that age, you’ll need to have an insurance plan in place, which could eat into a considerable portion of your retirement income.
Contributing to a Health Savings Account can keep costs manageable with tax-free savings that rollover from one year to the next. Even still, you’ll want to make sure you have enough room in your budget to cover the cost of healthcare if you’ll lose your current plan when you retire.
There are also long-term care costs to consider. Some of us are lucky enough to remain in tip-top shape until we pass away. But many of us will experience chronic illness or disability that necessitate extra medical care. The last thing most people want is to become a burden to their loved ones, so making sure you have sufficient savings or an insurance policy to cover possible healthcare-related costs is an important part of planning.
Retirement Income Planning with Advanced Retirement Strategies
Our team at Advanced Retirement Strategies specializes in helping diligent savers in Utah with $250,000 or more of investment and retirement assets (not counting your primary residence) create and implement income plans to help them prepare for and then transition into retirement. We would love the opportunity to assist you.