It is not too early to begin thinking about your retirement income. Today’s retirees may need to plan not only for their own retirement income but may need to plan for partial support of a dependent parent, child or other relative.
The earlier you begin planning for retirement finances, the more options you will have and the more risk you can afford to take with your investments. If you are 40 years of age it is important to have started a retirement savings plan.
The first step is to find out if your employer has a pension plan and what benefits you can expect to receive from the plan. There are two basic types of pension plans: a defined benefit plan and a defined contribution plan.
A defined benefit plan is paid by you and the employer and provides designated benefits. A defined contribution plan, such as a profit sharing plan, specifies the contributions made by you and your employer. The amount you receive in benefit at retirement is based on the amount in your account at retirement.
If you are covered under a pension plan, find out the answers to these questions:
- What are the eligibility requirements?
- How old do you have to be to receive benefits and how long do you have to be employed by the present employer before you are covered?
- When do your benefits become vested? That is, when do the benefits belong to you whether or not you keep working for the same employer? Five to 10 years is common for being 100 percent vested in a retirement plan.
- What happens to the benefits if you are laid off or fired from your present job?
- How is the amount of your pension calculated?
- When can you start to receive benefits?
- Will these benefits ever increase once they begin?
- Will they be adjusted for inflation? If yes, how will your pension be affected?
- Will social security benefits be affected by your pension?
- Will all or a part of your benefits be taxed by federal, state or local governments?
Answers to these questions will help you decide if additional retirement funds are needed and give you a basis for determining how much additional money will be needed.
The next step is to project your financial needs in retirement. To do this you need to develop a worksheet. On this worksheet estimate your retirement income needs. Itemize your expected expenses. Some expenses will increase and some will decrease. For example work related expenses such as transportation, clothes, and meals will decrease while medical care will increase. Adjust these expenses for inflation using time value of money concepts. There are time values of money tables or computer programs available to assist with these calculations.
The third step is to estimate the total amount of Social Security and other retirement benefits you will receive.
The fourth step is to determine how long you will need these payments. Most 65 year olds today can expect to live from 14 to 20 years after retirement. Calculate the retirement fund you will need to provide the required income.
Fifth determine the amount of the assets you will have at retirement to assist in meeting your identified needs. Do this by listing assets that you plan to liquidate for living expenses. Don’t include in this list any special bequest or any assets you plan to dispose of before retirement. Subtract any debts that will be outstanding on assets at retirement, this will give you total available assets for retirement planning.
In the sixth step determine the future value of assets, by estimating the number of years to retirement and the estimated return after taxes. Then subtract the projected need from the projected income available to meet the need.
If income is greater than projected need, you are lucky and need no other assets or savings to fund retirement given the accuracy of projections made. However, if income is less than need, determine the amount that needs to be saved on a monthly basis to reach your retirement goal.
Prepared by: Dr. Josephine Turner, CFP
Professor, Family, Youth and Consumer Economics
University of Florida
