Retirement Income Planning


Retirement Income planning is very different to retirement planning. Retirement income planning is what happens when you retire. Where does the income come from and how much you can spend. It is post-retirement planning. Retirement planning is about saving enough to retire in the future.

 

While planning to retire, the biggest decision to be made is how much to save and then making sure to save that amount. When it comes to retirement income planning you now have a finite bucket of money that needs to last as long as you live. Ensuring that you don't outlive your money is complicated by the fact that we can't see into the future.

  • How long will you live?
  • What will your health be like?
  • How will the stock market perform?
  • What will inflation be?
  • What will taxes be in the future?
  • What unseen events could derail your plan?

If we could answer the above questions retirement income planning would be easy. Instead we start with a whole lot of unknown and we don't have the ability to come back and do it again. Specialized retirement income planning covers many important topics.

Which account should you withdraw from first?

Conventional wisdom used to say that you withdraw from the taxable account first, then the tax-deferred (such as an IRA), then the ROTH. With the change in tax laws that is probably not the best decision for everyone anymore. If you are a married couple and you leave the IRA for after the first to die, the single spouse will now be in a much higher tax bracket as they are filing as a single person rather than married and will pay a lot more in taxes. They call this the widows' tax.

If you are single and leave your IRA to your kids they will probably inherit the IRA during their highest earning years. They are now required to take out the balance of the IRA within 10 years and therefore they will be paying a high tax rate on those withdrawals.

Starting with the IRA is often the best decision, but many plans would be best when income is taken from different accounts at the same time allowing you ‘to stuff the tax bracket'.

 

When should you start your social security benefits?

Again this is different for everyone and comes down to life expectancy in many cases. Social security assumes a life expectancy around the mid-80s. If you have a family history of living longer, then delaying social security to age 70 makes a lot of sense. If you are a married couple in your 60s then there is a good chance that one of you is getting to your 90s. Delaying the larger social security check until age 70 will mean that the surviving spouse will benefit from the higher income for life.

 

Where should your charitable contributions come from?

This is one area where is pays to be a little older. When you get to 70.5 years old then you can make qualified charitable distributions (QCD) from your IRA. As long as the money goes straight from your IRA to your charity of choice there is no tax payable and when you get to the age of RMDs it counts towards your RMD. There is no tax due on the distribution and the charity gets the full amount. The only person who does not benefit is Uncle Sam.

 

Are you reducing your lifetime taxes?

There is a difference between tax preparation and tax planning.

Tax preparation is done when you file your taxes and looks back at the past year to calculate the taxes due. Tax planning is forward looking to plan your retirement income to minimize your and your family's lifetime taxes.

Tax preparation advice is about reducing taxes now. The advice will be to withdraw from your taxable account first as there are only capital gains taxes due at the moment and your taxes will be low. It does not take into the account the widows' tax in the future or future IRMAA surcharges. It does not take into account beneficiaries tax position. Tax preparation advice wants you to spend as little as possible to reduce your taxes.

Tax planning looks into the future and works to minimize lifetime taxes. It is often better to pay some taxes now so that lifetime taxes are lower. It looks at ROTH conversions, is there a potential benefit of converting your IRA to a ROTH. It looks at Medicare premiums at different income levels and IRMAA surcharges that you could be subject to.

 

Reliability of Income

When saving for retirement ROI means 'return on investment'. Whereas in retirement ROI becomes known as 'reliability of income'.  Reliable income is what allows you to sleep at night and not worry as much about the market. Reliable income is income that is guaranteed for life and adjusts with inflation. We are increasingly being forced to rely upon our own retirement savings to create the retirement income we will need. With longevity increasing creating reliable streams of retirement income can be challenging. The degree to which guaranteed income streams are needed will depend on your particular financial picture and your degree of risk tolerance. Some people sleep easier knowing their retirement income is guaranteed whereas others enjoy the flexibility and risk of the market.