Retirement Planning July 2023

First, investments in an IRA grow tax deferred. Tax-deferred growth of your money means it can compound at a higher rate than a taxable investment account because the income and realized gains are not being taxed each year. Second, your life expectancy is longer, potentially into your nineties, which means you may need to save more than what your 401(k)-retirement savings plan allows. Thirdly, the cost for living is likely to continue rising in retirement, especially healthcare. Save more for retirement by opening an IRA account that will add to your retirement income. A professionally managed IRA account may minimize risks of not having enough retirement funds to maintain your current standard of living in retirement. Families finished with college expenses or funding it tend to get more serious about saving more for retirement to build up their confidence that someday they can afford to retire once.

Research shows that American’s life expectancy is rising with advances in healthcare. You could potentially live into your nineties, which means you may need to save more than what your 401(k)-retirement savings plan allows. Secondly, think about how much retirement will cost if you have retired for let’s say 35 years! The average inflation rate in the U.S. from 1913-2013 was 3.22%, the last couple of years double that figure. Plan for higher prices in the decades ahead. Healthcare costs are accelerating at double that rate. Expect healthcare costs in retirement to cost you more than you think. Health-care costs, the average couple will need $295,000 in today’s dollars for out-of-pocket medical expenses in retirement, excluding long-term care, according to Fidelity.

Lastly, if you are a conservative investor who prefers the lower volatility of bonds you may need to save even more because bonds historically provide current income and not the kind of capital appreciation stocks have generated that outpaces the cost of living. Even though your bond portfolio may not experience the type of fluctuation in value of stocks, it is more subject to loss of purchasing power than stocks over the long run. Inflation over time reduces the purchasing power of today’s dollar. For example, one dollar today will only buy fifty cents of goods and services in the next eighteen years if inflation averages four percent. If a hypothetical bond portfolio returns five percent for the year with four percent annual inflation, after an assumed annual tax of 25% on the bond interest, the investors real return adjusted return for inflation and taxes is negative 0.25% (5% interest minus 25% tax minus 4% inflation). Your purchasing power gradually declines over time if your return on your investment is not greater than the inflation rate for the period and factoring taxes owed on investment earnings. If your account is not growing over time, you will need to make up the retirement shortfall by adding more money to your retirement funds. You can contact Aspetuck Financial Management if you want to discuss this subject or need help with deciding which portfolio strategy is suitable for you, your goals, and circumstances.

How much do you need to save for retirement?

That depends on your retirement goal and current standard of living. One simple way of estimating and monitoring your retirement savings goal is with an age-based savings factor developed by Fidelity Investments. These are savings amounts expressed as multiples of your current income. For example, aim to save one times your current income by 30, 3x by 40, 6x by 50, 8x by 60, and 10x by 67. These are simplistic estimates; however, retirement experts agree that you will need 60%-80% of your pre-retirement income to live a similar standard of living post working years. Most of it will come from your retirement savings. Plan on the higher end of the range if your post-retirement income was middle to upper income tax bracket.

What are your individual retirement account options?

1. Traditional Individual Retirement Account (Traditional IRA)
The IRA is a tax-advantaged investment account for individuals to use for retirement savings. Your contributions grow tax free and may be tax deductible if you qualify. Your money grows on a tax deferred basis. Tax deferred growth of assets grows faster than money that earns dividends and interest that is taxable each year all other things being equal. You will have to pay tax on the amount you take out of the account, but it is based on your current year’s tax rate. There is usually a 10% penalty for withdrawing funds before you turn 59 1/2 years old. See previous article for rules regarding maximum contributions and income limits for IRAs can change annually. As for how much you can contribute, currently you are allowed to invest $6,500 per year, though those fifty and older can save up to $7,500 a year. Once you turn seventy-two, though, you must start removing money from your IRA. The minimum required distribution will vary based on your account size and life expectancy. If you do not withdraw the required amount, you could get hit with a hefty tax penalty.

2. Roth IRA
Roth IRAs are different than traditional IRAs in two meaningful ways. The first is that contributions are made with after-tax dollars, which means you do not get a tax deduction when you invest. The upside is that when it comes time to withdraw you will not owe the IRS a thing. All your contributions can, therefore, grow tax-free over time. Like the IRA, you can only contribute $6,500 a year or $7,500 if you are over fifty. There is an income limitation with a Roth IRA. In 2023, if you earn more than $138,000 or if you and a spouse earn more than a combined $218,000, your annual contribution room will be reduced. If you earn more than $153,000 individually or $228,000 as a couple, you cannot contribute to a Roth IRA account.

Contact Patrick Byrne at aspetuckfin@optonline.net or 2023-226-5733 for more information on establishing a Schwab/Aspetuck IRA account.

Source: IRS, Fidelity Investments.