Retirement Plans

Happy #FinanceFriday ! Last week was hectic for me so I didn’t make time to post, but I’m back to discuss retirement plans.

I talk to my mother about retirement every time she makes a big purchase. It’s something I consider when I’m dipping into my savings account. Retirement is in the back of every working person’s mind.

There are 2 main types of retirement plans that are available through your employer:

  1. Defined Benefit Plan: These include pension plans; a very rare option for many employees today. Your benefit package is calculated by using our average income and length of time worked. The risk is ALL on the employer to provide a guaranteed monthly payout during your retirement. Many state employees still have this as an option for retirement.
  2. Defined Contribution Plan: The more common option for retirement now. This includes 401(k), 403(b), etc. There is NO guaranteed monthly income during your retirement and the risk is ALL on the employee to save and invest appropriately. This is why it is so important to know how to save and to learn about investing so you can choose the right investments for your retirement plans.
    • 401(k) and 403(b) Plans: Your employer may match employee contributions, but they are not required. There are annual limits to what you can contribute to your plan: if you are under 50, the limit is $17,500 and if you are 50 and over, $23,000. The investments in the portfolio of these plans are chosen from alternatives determined by your employer (plan menu, set of mutual funds, etc.); however, it is up to the employee to understand the investment choices.

Smaller companies may not be able to offer these type of plans. There are 2 main retirement plans smaller companies may offer:

  1. SEP IRA: This is a Simplified Employee Pension Plan or Individual Retirement Account. This option is good for single employee businesses that sets aside a percentage each year for each employee.
  2. Simple IRA: This is a Savings Incentive Match Plan for Employees for businesses with up to 50 employees. Employees can choose to participate or not.

There are 2 types of individual retirement plans that are well known IRAs (Individual Retirement Accounts):

  1. Traditional IRA: You can receive a tax deduction that is dependent on your income for contributing to this retirement plan. Tax payment is deferred until you take money out of this IRA.
  2. Roth IRA: You don’t receive a tax deduction for contributing to this IRA, but it is TAX FREE when you start taking funds out of the IRA. This is becoming the most popular IRA option.
    • Roth IRAs have higher limits than Traditional IRAs, but it is dependent on your income. The common contribution limits for each are $5,500 per year if you are under 50 and $6,500 if you are 50 or over. Click here for the comparison between Traditional and Roth IRAs.

Individual Retirement Plans (IRAs) can be invested through banks, a brokerage, or Mutual Fund House. With these plans, you can invest in any publicly traded security and alternative investments. There are penalties for withdrawing funds out of these plans before retirement: 10% penalty charge if you are under 59.5 years old. However, there are some exceptions for these penalties such as if you withdraw funds for education or for up to $10,000 for your first home purchase.

Target Retirement Funds or Lifecycle Funds are a great option for anyone not willing to keep up with their portfolio. These funds adjust the allocation of your portfolio as you age; the younger you are, the more risky you can invest and the older you, the more you should invest in low risk securities. These funds adjust automatically so you don’t have to think about it. These options are considered “no brainer choices”.

Insurance salesman may offer you Tax-deferred Annuities, which is a contract for a series of future payments. It is recommended that you AVOID THESE at all costs! Tax-deferred Annuities include expensive commissions, have a long period of surrender penalties, are NOT designed for low income taxpayers, and have many hidden strings attached to their so-called “guarantees”.

If you have any questions, don’t hesitate to comment below, email me, or tweet me.

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