chapter 17 retirement planning. copyright © houghton mifflin company. all rights reserved.17 | 2...

Chapter 17Retirement Planning

Copyright © Houghton Mifflin Company. All rights reserved. 17 | 2

Learning Objectives

1. Estimate your Social Security retirement income benefit.

2. Calculate the amount you must save for retirement in today’s dollars.

3. Understand why you should save for retirement within tax-sheltered retirement accounts.

4. Distinguish among the types of employer-sponsored tax-sheltered retirement plans.

5. Explain the various types of personally established tax-sheltered retirement accounts

6. Make wise investment choices when deciding on how to invest for retirement.

7. Describe techniques for making your retirement money last.


Retirement PlanningIs Your Responsibility

• Retirement: The time in life when the major sources of income change from earned income to employer-based retirement benefits, private savings and investments, Social Security, etc.


Sourcesof Retirement Income


Understanding Your SocialSecurity Retirement Income Benefits

• FICA Taxes: Social Security taxes withheld from wages. A total of 7.65% withheld for both Medicare (1.45%) and social security (6.2%)

• Your contributions to Social Security and Medicare: taken out of maximum taxable yearly earnings (or MTYE) - $110,100 income limit

• How you can become qualified for Social Security benefits:

– Social Security Credits:

– 1 Credit for every $1,130 Wages/Quarter (4 credits maximum/year)

– Being fully insured requires 40 credits.

– You are currently insured if you have earned 6 credits in the most recent 3 years.


Understanding Your SocialSecurity Retirement Income Benefits

• How you can become qualified for Social Security benefits:

– Transitionally insured: retired workers who reach age 72 without accumulating 40 credits

– Worker younger than 72 who have not accumulated 6 credits are not insured.


How to Estimate Your SocialSecurity Retirement Benefits

• Indexing: adjusting earnings to account for changes in wages since the year the earnings were received. It is the average of the highest 35 years of earnings during the working years.

• Basic Retirement Benefit (or Primary Insurance Amount) is the average monthly benefit paid and based upon the 35 years of earnings at full retirement.

• Full-benefit retirement age: 67 for those born after 1960


Length-of-Work Requirements for Social Security Benefits

<<Insert Table 17.1 (p. 492) here>>


How to Calculate Your Estimated Retirement Needs in Today’s Dollars

• Use the online Social Security Calculator that the Social Security Administration makes available to all workers, which includes earnings history, Social Security taxes paid, and an estimated benefit amount. http://www.ssa.gov/estimator/

• Projecting your annual retirement expenses and income.

– Expenses

– Current nest egg or savings

– Do you have greater current deposits than expenses?

– Determine Additional deposits needed

http://www.ssa.gov/estimator/




Why Invest in Tax-Sheltered Retirement Accounts?

• Funds put into regular investment accounts are after-tax money.

• A tax-sheltered retirement accounts is one for which contributions are not subject to income taxes.

• Your contributions may be tax deductible,i.e. pretax money.

• Your earnings are tax deferred.

• You can accumulate more money.• You have ownership and portability.• You withdrawals might be tax free, i.e. withdrawals are

never taxed. This is the case for “Roth” type accounts.


The Smart “Net-Pay” Numbers of 401k Contribution

• Deferring $3,600 in 401(k) reduces Net Income only $2,500


Employer-SponsoredRetirement Plans

• Employer-sponsored retirement plan(or Qualified Plan) – An IRS approved retirement plan offered to employees

• Employee retirement income security act(or ERISA) – Regulates employer sponsored plans by calling for proper plan reporting and disclosure to participants in defined-contribution, defined-benefit and cash-balance plans. ERISA requires portability of these benefits.



• Defined-contribution retirement plan: today’s standard – A retirement plan which provides a lump-sum at retirement based upon contributions made to each employee’s account.

• It is a self-directed contributory plan that accepts both employee and employer contributions.

• Can potentially be an automatic enrollment plan. (Ex: 3% automatically withheld for new hires)



• Names of defied-contribution retirement plans:

– 401(k) Plan – Private Corporation Plans

– 403(b) Plan – Non-Profit Organizations

– 457 Plan – State & Local Governments

– Savings Incentive Match Planfor Employees IRA (SIMPLE IRA) – less than 100 employees

• Matching contributions: employers fully or partially match employee contributions

• Limits on contributions: $17,000 for 401(k), 403(b), and 457; $11,500 for SIMPLE IRAs



• Catch-up provision: Workers over the age of 50 can contribute and extra $5,500 to 401(k) and $2,500 for Simple IRA retirement plan.

• Vesting gives you rights to your benefits.

– Cliff vesting, graduated vesting

• Defined Benefit Retirement Plan – Employer sponsored retirement plan that pays lifetime monthly annuity payments to retirees. (Traditional Pension Plan)

• Retirement Savings Contributions tax credit for low-income and moderate-income savers. Provides $1 to $1 tax credit up to $2,000 Max. Contribution each year (married filing jointly).

• Applies to singles with adjusted gross incomes of less the $27,750 and joint filers with adjusted gross incomes less than $55,500.


Reach Your Goals Through Employer-Sponsored Retirement Plans

• Important Considerations Include:– Normal or early retirement? The earlier one

retires, the smaller the monthly pension for a defined-benefit plan.

– Disability and survivors benefits (a.k.a. joint and survivor benefits) Substantially reduced benefits paid to employees who become disabled prior to retirement. A reduced annuity benefit may be paid to a surviving spouse after participant’s death equal to at least 50% of the participant’s benefit.


Additional Employer-Sponsored Plans• Cash-balance plan is a hybrid plan with

features of a defined-benefit plan and aspects of a defined-contribution plan. Employer contributes 5% - 10% cash monthly into interest-earning account based upon employee earnings.

• Employee stock-ownership plan (or ESOP) – A benefit plan where employers make tax-deductible gifts of company stock into trusts, which are then allocated into employee accounts and may be sold upon separation. It is stock ownership in the company


Additional Employer-Sponsored Plans

• Profit-sharing plans – An employer-sponsored plan that shares some of the profits with employees in the form of end-of-year cash or common stock contributions to employees’ 401(k) accounts. Contributions may be fixed such as 10% of profits or discretionary and vary year to year.


You Can Also Contribute toPersonal Retirement Accounts

• Individual Retirement Account (or IRA) – Pension retirement account that allows $5,000 Max contribution (tax-deferred) and can hold stocks, bonds or mutual funds.

• Traditional (or regular) IRA – Allows all contributions to be both tax-deferred and tax deductible if current employer does not offer retirement plan at work.

• Roth IRAs – IRA funded with after-tax contributions that grows on a tax-deferred basis. Withdrawals are not subject to tax.

• Keoghs and Simplified Employee Pension-Individual Retirement Account (SEP-IRAs) – Self Employed Retirement Plan that is tax-deferred allows up to 25% or $49K earned income as max contribution limit per year.


Avoid Withdrawal Penalties and Outliving Your Retirement Money

– Certain expenses for medical (above 7.5% of AGI), college or home buying are allowed from IRA accounts.

– Account loans up to $50K maximum are available from certain employer-based accounts but must repaid when leaving employment to avoid penalties.

– The IRS has a 20 Percent Withholding Rule to Ensure Prepayment of Income Taxes

– Taxes must be paid (except for Roth accounts)– Penalties may be assessed; 10 percent.– Your investments stop growing.


Living in Retirement WithoutRunning Out of Money

• Figure out how many years your money will last in retirement and make monthly withdrawals accordingly.

• Buy an annuity (or immediate annuity) and receive monthly checks.

– There are immediate, deferred, and variable annuities.

• Immediate Lump sum, single payment occurs one month after purchase

• Deferred payment begins at retirement after several years of premium payments

• Variable changes value up and down like a mutual fund

– Often offered by employers

• Suggest Contribute to 401(k) or IRA before Annuity


The Top 3 Financial MisstepsIn Retirement Planning

People experience challenges in investing in retirement planning when they do the following:

1. Never start to save for retirement.

2. Put away too little money.

3. Use high-expense (1.5% fees) mutual funds for your 401(k) or IRA accounts.


Good Money Habitsin Retirement Planning

• Save early and often by beginning early in life to invest in mutual funds through tax-sheltered retirement accounts and continuing to invest every year.

• Take enough risk to increase the likelihood that you will have enough money in retirement.

• Save within an employer-sponsored retirement plan at least the amount required to obtain the full matching contribution from your employer.

• Diversify your investments and limit company stock to no more than 10 percent of your portfolio.

• Keep your hands off your retirement money. Do not borrow it. Do not withdraw it. When changing employers, roll over the funds into the new employer’s plan or a rollover IRA.

chapter 17 retirement planning. copyright © houghton mifflin company. all rights reserved.17 | 2...

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