Transcript Chapter 16

Chapter 16
Retirement Planning
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Introduction
• Today, you’ve got to come up with
retirements funds by yourself.
• Despite Social Security reform proposals,
there might not be Social Security when you
retire.
• Need to know about Social Security,
employer-funded pensions, and current
retirement plans.
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Financing Social Security
• FICA taxes paid today are providing benefits
for today’s retirees.
• The money you pay is not being saved up
and invested in an account for you.
• Changes will be necessary, possibly
increasing the retirement age or limiting
benefits for the wealthy.
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Retirement Benefits
• Benefits formula—replace 42% of average
earnings based on number of earnings
years, average level of earnings,
adjustments for inflation, income brackets.
• Full benefits at the “full” retirement age.
• Reduced benefits at 62
• Increased benefits if you delay retirement.
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Table 16.1 Estimated Monthly Social
Security Benefit for Retiree Born in 1990
(2012 Dollars)
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Disability and Survivor Benefits
• Provided through mandatory Social
Security insurance program.
• Protection for those with impairment that
keeps them from work for at least 1 year.
• Monthly survivor benefits when
breadwinner dies.
• One-time death benefit for funeral costs.
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Defined-Benefit Plans
• Traditional pension plan where you receive
“defined” pension payout at retirement
• Noncontributory retirement plan
• Contributory retirement plan
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Defined-Benefit Plans
• Portability
• Vested
• Funded pension plan
• Unfunded pension plan
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Cash-Balance Plans: The Latest
Twist in Defined-Benefit Plans
• Workers are credited with a percentage of
their pay each year, plus a predetermined
rate of interest.
• Employers contribute a percentage of your
salary each year into an account which
grows at 30-year Treasury bond rate.
• Benefits easier to track and portable.
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Plan Now, Retire Later
• Step 1: Set Goals
– How costly a lifestyle will you lead?
– Do you want to live like a king?
– Do you have costly medical conditions?
– Will you relocate or travel?
– Do you want to live in your own home or
retirement community.
– Decide on the time frame for achieving your
goals.
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Plan Now, Retire Later
• Step 2: Estimate How Much You Will Need
– Turn your goals into dollars by estimating how
much you will need.
– Begin with 70-80% of current living expenses to
calculate the cost to support yourself in
retirement.
– Don’t forget about paying taxes.
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Plan Now, Retire Later
• Step 3: Estimate Income at Retirement
– Once you know how much you need, figure out
how much you’ll have.
– Estimate Social Security benefits and determine
what your pension will pay.
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Plan Now, Retire Later
• Step 4: Calculate the (Annual) InflationAdjusted Shortfall
– Compare the retirement income needed with the
retirement income you’ll have.
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Plan Now, Retire Later
• Step 5: Calculate How Much You
Need to Cover This Shortfall
– Know your annual shortfall in your retirement
funding.
– Know how much must be saved by retirement to
fund this shortfall.
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Plan Now, Retire Later
• Step 6: Determine How Much You Must
Save Annually Between Now and Retirement
– Put money away little by little, year by year.
– Use online retirement planning websites
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Defined-Contribution Plan
• You and employer or your employer alone
contributes directly to a retirement account
set aside for you.
• A savings account for retirement.
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Defined-Contribution Plans
• Profit-Sharing Plans
• Money Purchase Plan
• Thrift and Savings Plan
• Employee Stock Ownership Plan (ESOP)
• 401 (k) Plan
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Retirement Plans for the Self-Employed
and Small Business Employees
• Keogh Plan or Self-Employed Retirement
Plan
• Simplified Employee Pension Plan (SEP-IRA)
• Savings Incentive Match Plan for Employees
or SIMPLE plan
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Individual Retirement
Arrangements (IRAs)
• Traditional IRA
• Roth IRA
• Coverdell Education Savings Account
(known as Education IRA)
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Traditional IRAs
• Tax advantaged—contribution may or may
not be tax-deductible depending on
individual’s level of income and whether
he/she, or spouse, is covered by a company
retirement plan.
• Restrictions on timing and amount of
withdrawals but can rollover a distribution.
• Saver’s tax credit
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The Roth IRA
• Contributions are not tax deductible but
made out of after-tax income.
• Money grows tax free and withdrawals are
tax free.
• No withdrawal restrictions or tax penalty like
traditional IRA but can also rollover.
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Traditional Versus Roth IRA:
Which is Best for You?
• You end up with the same amount to spend
at retirement, if both are taxed at the same
rate.
• Choose the Roth IRA if you can pay your
taxes ahead of time.
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Saving for College: 529 Plans
• Tax-advantaged savings plan used for
college and graduate school.
• Contribute up to $250,000, grows tax-free.
• Plans are sponsored by individual states,
open to all applicants regardless of where
they reside.
• Invest directly or through financial advisor.
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Facing Retirement—The Payout
• Plan ahead before you decide how you
receive a payout.
• Look at all your retirement plan payouts
together—may want some in lump sum,
others as annuity.
• Use diversification and time dimension of
risk when deciding what to do with funds.
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