Bucket strategy
The bucket strategy is a way to organize your retirement savings into three different pots based on when you’ll need to tap into them. Its main goal is to balance the potential for your investments to grow while ensuring easy access to your money when required.
The first bucket is like your immediate fund. It’s for your emergency needs and expenses you expect to cover within the next couple of years, such as day-to-day living costs or significant purchases. It’s best to keep these funds in a high-yield savings account so that you can access them without worrying about the ups and downs of the financial markets.
The second bucket is for funds you plan to use in the next three to ten years. You should consider placing these funds in safer investments like bonds or certificates of deposit (CDs). When you spend from the first bucket, you can sell assets from the second bucket to replenish it.
The third bucket is for money you don’t anticipate needing for at least a decade. This is where you can invest in assets like stocks, which have the potential for greater long-term growth. From time to time, you might want to sell some of these assets and move the proceeds into the safer investments in your second bucket to maintain the balance
Regular withdrawals
If you’re planning to use the systematic withdrawal strategy in retirement, here’s how it generally works: In your first year of retirement, you’ll withdraw a certain percentage of your savings, and you’ll increase that amount slightly each year to keep up with inflation. You might have heard of the ‘4% rule,’ which suggests that you should limit your yearly withdrawals to 4% of your total savings.
While this rule can be a helpful guideline, it has its limitations. It relies on assumptions about how your investments will perform and how long your retirement will last – and these assumptions may not fit everyone’s situation. If your investments take a significant hit, you might need to reduce your withdrawal rate, or if they perform exceptionally well, you might consider increasing it. The 4% rule is a good starting point, but it’s wise to explore different scenarios and find the withdrawal rate that suits your specific needs.
Annuities
An annuity is like a deal you make with an insurance company. You give them a certain amount of money, and in return, they promise to send you regular monthly checks for the rest of your life.
There are different types of annuities to choose from. Immediate annuities work like this: You give the insurance company a lump sum of money, and they start sending you monthly checks right away. On the other hand, deferred annuities involve making payments to the insurance company, but they won’t start paying you for several years.
Annuities can be an additional source of income during retirement, alongside Social Security. However, they’re not the right choice for everyone. They often come with high fees, and the returns they provide might not be as good as what you could get with other investments. Plus, they can be tricky to get out of if you change your mind later. Make sure to carefully consider all these factors before deciding if an annuity is a good fit for your financial plan.
Maximizing Social Security
Social Security is like a guaranteed paycheck you can count on in retirement, but the amount you get depends on how much you earned during your working years and when you decide to start receiving these benefits. To get the full amount you’re entitled to, which is based on your work history, you generally need to wait until your full retirement age (FRA), which is either 66 or 67, depending on when you were born.
If you decide to start receiving benefits early, let’s say at 62, your monthly checks will be smaller. It’s about 70% of what you would get if your FRA is 67, or 75% if your FRA is 66. On the other hand, if you wait to claim your benefits, you could receive more money over your lifetime, but there’s a catch – this strategy pays off more if you live a longer life. If you delay until, say, age 70, you could potentially get 124% of your scheduled benefit per check if your FRA is 67, or 132% if your FRA is 66.
Generating income during retirement
In retirement, you have the option to work part-time to add extra money to your personal retirement savings. This can be a smart move if you’re concerned about using up your savings too quickly, and it can also keep you engaged and active during retirement. If working doesn’t appeal to you, there are other ways to make money in retirement, such as investing in rental properties or supporting a local business.
However, it’s important to remember that you’ll need to pay taxes on any income you earn. If you don’t have a regular paycheck, you’ll have to set aside money for taxes on your own. One helpful approach is to create a special savings account specifically for taxes to ensure you don’t accidentally spend the money you owe to the taxman.
Tax efficiency
Understanding how the government taxes different types of savings is crucial for keeping more of your money in your pocket. Here’s the breakdown:
When you take money out of your tax-deferred retirement accounts, like traditional IRAs or 401(k)s, you’ll be subject to regular income taxes.
On the other hand, if you withdraw funds from Roth IRAs or Roth 401(k)s and meet certain conditions (having the account for at least five years and being at least 59 1/2 years old), you won’t owe any taxes on those distributions.
If you have investments in a taxable brokerage account, whether you owe long-term capital gains taxes on your earnings depends on your total income.
To minimize your tax bill, it’s wise to keep an eye on your tax bracket each year. When you’re nearing the upper limit of your bracket, consider relying more on your Roth savings. In years when your income is lower, you can even convert some of your tax-deferred savings into Roth savings through a Roth conversion to avoid taxes on future distributions.
Additionally, remember to pay attention to required minimum distributions (RMDs) once you reach the age of 73 (previously 72). Failing to withdraw the required amount each year could result in penalties, so it’s essential to stay on top of this aspect of your retirement accounts.
Health savings account
Health savings accounts (HSAs) are mainly meant for covering your medical costs throughout your life, but they can also serve other purposes. If you’re under 65 and use them for non-medical expenses, you’ll face a penalty. However, once you cross that age milestone, you can treat your HSA funds much like you would with a traditional IRA. This means you’ll pay regular taxes on withdrawals, but you’ll also enjoy the benefits of tax-free withdrawals for medical expenses and won’t have to worry about required minimum distributions (RMDs).
To contribute to an HSA, you need to have a high-deductible health insurance plan. In 2023, this means your insurance plan should have a deductible of at least $1,500 for individuals or $3,000 for families (up from $1,400 for individuals and $2,800 for families in 2022). You can put up to $3,850 into your HSA in 2023 (compared to $3,650 in 2022) if you’re an individual, and if you’re part of a family plan, you can contribute up to $7,750 (up from $7,300 in 2022).
Permanent Life Insurance
Many of us buy life insurance to make sure our loved ones are financially secure when we’re no longer here. But did you know that a permanent life insurance policy can also provide you with a valuable source of income while you’re still alive?
Here’s how it works: A permanent life insurance policy has two parts. First, there’s the “death benefit,” which is the amount of money that will be given to your beneficiaries when you pass away. Second, there’s the “cash value,” which is like a savings account that grows over time. This savings account is funded by a portion of the premiums you pay for your insurance.
With some types of permanent life insurance, like whole life and universal life, the insurance company usually promises to add some interest to your cash value every year, after they deduct insurance costs and expenses. However, with variable life insurance, you get to choose how your cash value is invested, but there’s no guarantee of how it will perform.
The great thing is that you can take out the money you’ve paid in premiums (known as the “basis”) from your cash-value account without paying taxes on it. This can be really helpful if, for example, the stock market takes a hit like it did in 2008, and you want to give your investments some time to recover. Just remember that if you withdraw more than what’s in your cash-value account, you might have to pay taxes on the extra amount. Also, keep in mind that any money you take out will reduce the death benefit your beneficiaries receive.
Another option is to borrow money from your policy, and you don’t need to go through a credit check for this. The interest rates for these loans usually range from 5% to 8%, depending on the market rates and whether the loan has a fixed or variable rate. If you don’t pay back the loan, or only pay back part of it, the remaining balance will be subtracted from your death benefit when you pass away.
When you borrow money from your life insurance policy, it’s not like taking money out of a savings account that you’ll pay back later, as you might with a 401(k) loan. Instead, the insurance company lends you money, using your policy as collateral. If you don’t pay the interest separately, they’ll add it to the loan amount. If this loan amount becomes greater than the cash value of your policy, your policy could be canceled, and you’ll owe taxes on the excess cash value, including the loan amount, over the premiums you’ve paid.
If you need a steady income from your life insurance, one option is to convert it into an income annuity through something called a “1035 exchange.” The downside is that you’ll lose the death benefit, but you’ll secure income for either the rest of your life or a set number of years. The conversion doesn’t trigger taxes, but you will pay taxes on a portion of each payout based on how much you’ve contributed versus your gains. You can explore different providers for these annuities to find the best payouts.
If your insurance policy pays dividends, you can create income without giving up the death benefit. Instead of reinvesting the dividends in the policy to increase its value, you can take them as cash. These dividends are typically tax-free up to the amount you’ve paid into the policy. Anything above that is subject to taxes. Dividends usually range from 5% to 6.7%.
Relocate to a more affordable area
Making your life more affordable by downsizing can stretch your savings further. You have a few options: you can move into a smaller home, relocate to a less expensive area, or do both. If that’s not your cup of tea, you might think about renting out extra space in your current home to offset some costs.
It’s a personal choice, and you also need to think about whether it makes financial sense. For instance, if home prices in your area have gone up a lot since you bought your home, moving might not save you much money.
Not all of these strategies will suit your taste, but using a combination of them can help your retirement savings last a bit longer. Take some time to think about which ones work best for you, and it’ll make your transition into retirement a bit smoother.
Manage Your Pension
In a time when traditional pension plans are becoming as rare as typewriters, count yourself lucky if you have one to manage. However, the choices you make about how you receive your pension payout can greatly affect the income you’ll receive.
One of your initial decisions will likely be whether to get your pension all at once as a lump sum or as a regular payment for life. Opting for a lump sum might be a good idea if you have other assets like life insurance or a significant investment portfolio. It’s also a choice for you if you feel comfortable handling your money yourself or hiring someone to do it for you. This way, you have more flexibility in making withdrawals, and your investments have the potential to grow faster than inflation. Any money you don’t use can be passed on to your heirs.
On the other hand, choosing a lifetime payout provides protection from market downturns, and you won’t need to worry about running out of money during your retirement. Additionally, your former employer will likely offer you a higher payout with a lifetime option compared to taking a lump sum and buying an annuity from an insurance company.
When you’re deciding how to set up your pension payments, it’s important to think about how long you and your spouse might live. For married couples, you generally have two main choices: a single-life payment or a joint-and-survivor payment plan.
If you go with the single-life payment, you’ll get larger monthly payments, but the pension stops when you pass away. Keep in mind that if you’re married, you need your spouse’s permission to choose this option.
On the other hand, the joint-and-survivor option will give you smaller payments, but they’ll keep coming in as long as either you or your spouse is alive.
The amount your surviving spouse will receive depends on the pension participant’s benefit. Plans typically offer a 50% option, which means the survivor gets 50% of the combined benefit. There are also other choices, ranging from 66% to 100% of the joint benefit. In most cases, the survivor benefit decreases when one of you passes away, unless you pick the 100% option.
In most cases, if women want income for life, it’s a good idea to choose the monthly pension payment. Here’s why: pension plans use calculations that don’t consider gender differences, which can make the decision between monthly payments and a lump sum more complex.
Since women tend to live longer than men on average, pension plans often offer higher monthly payouts compared to what women could get if they tried to buy a similar income on their own in the open market. For instance, a 65-year-old man might need around $914,000 to purchase an annuity that pays $60,000 per year for life, while a 65-year-old woman might need about $955,000—roughly $40,000 more—to get the same annual income. However, if you stick with the pension, your payment is determined by your years of service and salary, and your gender doesn’t affect it.
But if you’re thinking about converting the pension payment into a lump sum, the gender-neutral approach might not be as favorable for women. If their longer life expectancy were taken into account, the lump sum would need to be larger to cover the higher expected costs of the monthly payments over their longer lifespan.
