Human beings, it is said, are distinguished from other species by our ability to think ahead and to plan ahead. That may be true. It is also true, though, that most of us have great trouble thinking about the long term and preparing for it. We're too caught up in the daily "thick of thin things." In this way we carry with us the immediacy of our animal cousins (no slur against the in-laws intended). Heck, it's difficult enough to plan something just six months ahead, like a summer vacation. How on earth are we supposed to be able to think about something in the distant future -- like retirement?
Thinking in advance, though, and acting on those thoughts, are keys to being ready for the future when it turns inexorably into the present. The younger you are, the more distant is retirement -- and the more power you have at your fingertips in the form of compound returns over time. It's a paradox that you can work to your advantage.
In this collection we draw on the expertise of David Braze (TMF Pixy), a specialist in retirement planning, to help us answer the important questions. How much will I need for my retirement in order to live comfortably? What are my goals? When should I start? What should I do? How much can I count on from Social Security? What costs might I run into once I've actually retired?
These are the questions that we all need to ask; questions that we often wait too long to ask; questions that surface dimly on occasion, in a remote and dusty corner of the mind, a mind that is otherwise occupied with this minute's conversation, today's project, tonight's movie, and tomorrow's meeting.
We place humbly at your feet these 13 Steps, along with a bevy of tools for running the numbers, so that you may see in stark and pixilated black-and-white the realities that will make your golden years truly golden.
Make them golden, Foolishly.
1. Step 1: Shall We Quit?
Sure you like your job. But if you had the chance to retire early, say at age 50, would you sniff at it? "Pshaw. I love it here in my comfy Naugahyde chair." (Never mind the duct tape sticking to your pantyhose.) "I have a window!" (Facing a brick wall.) "My work is important." (So much so that you have to do it on an '89 Intel 386 that generates enough heat for a two-bedroom apartment?) "And look here in my top drawer -- a deluxe hole-puncher and all the paperclips I could ever use!" (No comment.)
For most people, a 30-year career is quite enough, thank you very much. But is early retirement realistic for you, Fool? Let's take a look.
At age 50, the government says you've got about another 33 years to live. Good grief! That's longer than your entire working career. With life expectancy increasing by leaps and bounds, you may want to think in terms of a 40-year retirement. Besides travel, golf, fishing, and classes in paperclip art, what else is on the agenda? How much will it cost? If you're at a loss, take a look at our post-retirement expense calculator on the Web that will help you figure out just how much it might cost. Will you have enough to do it all? How much has to come out of each paycheck to raise that stash? Good question! You might want to take a look at our planning-for-retirement calculator as well.
Have you thought about inflation? After all, peering out 20 years into the future you know that the $50K that looks like a good annual income now will certainly have to be larger to buy the same things then as it does today. But what's inflation going to be through the years? And that's just to get you to the first year of retirement. What impact will it have over the 40 years after that?
Where will you live? With luck, the mortgage will be paid off so all you have to worry about is property taxes. Maybe you'll even sell out and move into a smaller place in a sunnier clime. Sure beats having to shovel snow at age 70, even if it is further away from kith and kin. Besides, the kids can always come down for a visit.
You should think about insurance, too. You're probably insured under group policies through work for disability, life, and health coverage right now. In fact, your employer probably kicks in some part of or maybe even the entire premium for that insurance. Retire, though, and you will most likely lose that coverage. What happens to your spouse if you're inconsiderate enough to die early or (heaven forbid) become permanently disabled? If required to do so, how will you pay for a major illness or hospitalization and all of the attendant physician's bills? Forget about Social Security or Medicare. You're way too young for either of those to apply. And even if you did qualify, will the assistance be enough for a survivor and/or all the medical bills? If not, what alternatives do you have? And what about long-term care costs?
About now you may be thinking: "Hmmm, perhaps I should have a few more children to support me in my old age." Don't worry, Fool. You needn't sire enough offspring for a soccer team. Our advice? Never leave your job.
We're just kidding, of course. We're confident you can retire at a reasonably young age without having to populate the Dakotas or remain shackled to your desk. The trick is careful, Foolish planning. We'll take you step-by-step through the retirement planning process.
Retirement planning entails far more than just picking an age to do so and a beachfront property to do it upon. It requires a hard look at your lifestyle, your resources, and a whole host of factors that we tend to take for granted while we're working. Most, but not all, deal with money issues. As Fools, we face them head on.
Now, let's figure out how much you'll need to spoil yourself and your grandkids rotten in Step 2.
2. Step 2: What Will It Cost?
"Bartender, a refreshing beverage and a dry cocktail napkin for a few calculations, please."
Pundits say you will need 60% to 85% of your gross household income today to sustain the same lifestyle after you retire. In theory, the higher your income today, the closer you are to the lower end of that scale. Fair enough, but Fools should look at this issue in a slightly different fashion.
Sure, we could sit down to a long, drawn-out process in which we look at our expenses and try to anticipate what they would be in retirement. But why bother? After all, retirement is a long way off, and we have no real idea of what those expenses will be then. You do, though, know that you live comfortably today (we hope) and that it's unlikely you'll be saving money or paying FICA (unless you choose to work) after you retire. Therefore, excluding those items from your gross income, you can come up with a number that's fairly close to what it would take to sustain your current lifestyle.
Simply put: Fools want a retirement income that equals our gross income today less all savings and all FICA taxes.
But you still have to decide what income you will need in retirement to live the way you want. Some folks can get by on much less than they use now, while others may decide they want more. It's a personal choice for all of us. So, Fool, pick a number.
Now, let's talk about inflation. How much does our retirement savings have to be in the year we retire after it has been adjusted for inflation over the years between now and then? What should that inflation rate be anyway? (Use one of our Fool calculators on the Web to see how much your savings will be worth years from now.) For how many years will we draw that income? Should it keep pace with inflation throughout those years? Will we draw down our starting retirement portfolio to support our income needs or just live off the earnings while never touching the principal? If we can answer those questions, then we can determine the starting portfolio we need at retirement to support us for the rest of our lives.
"Bartender! Another cocktail here! And don't scrimp on the napkins!"
We're getting into the realm of some pretty sophisticated calculations based on several assumptions that, if changed, could radically alter our results. What we need is a quick-and-dirty way to give us an idea of what we need to do to get started. We'll save the more esoteric efforts for later.
So forget about inflation for the moment. Ignore Social Security and any company pension you may get. Pretend your money gets no return now or after retirement. But do count whatever you have saved for retirement as of today. Let's say that amounts to $20,000. Further, let's say you want an annual income of $30,000 in today's dollars after you retire, that you will retire in 25 years, that you will live 20 years after you retire, and that you expect to meet your maker waving your last dollar bill.
How much do you need to amass by the start of your retirement to support yourself in your golden years, and how much do you have to save each year between now and then to get there?
Let's see. You need $30,000 a year for 20 years, so that comes to $600,000 needed in the first year of retirement. You already have $20,000 of that, so that means you're only $580,000 short. Divide the shortage by the 25 years you have to save it up, and you discover you only have to cough up $23,200 annually between now and the time you retire to a life of leisure.
"Twenty three grand and change annually from now until I retire? Bartender!"
Too much is omitted from this simple approach to provide a meaningful answer to the question at hand. Worse, the answer we do get makes the whole idea of saving for retirement seem to be an impossible task, but this is far from true.
To do things right, we must take a cold, hard, objective look at our desired income, subject it to a rational choice of assumptions, and make some detailed calculations. The best way to do the calculations is with one of the readily available software packages available commercially, such as Quicken Financial Planner or one of our Foolish Retirement calculators. Before you use any of these tools, you need some preliminary information. At a minimum, you want to:
1. Decide on the annual income you desire in today's dollars. >
2. Pick a retirement date.
3. Determine your lifetime average inflation rate.
4. Determine the average rate of return you expect on your investments before and after retirement.
5. Determine the current market value of all your investments to include regular accounts, IRAs, and company tax-deferred savings plans like 401(k) plans.
6. Obtain an estimate of any company-provided pension benefit.
7. Obtain an estimate of future Social Security benefits (see Step 6).
Armed with this data, you can determine the annual savings required for you to enjoy the good life. You will also be able to play "what if" games and see the results quickly should you decide to vary things like inflation, rates of return, date of retirement, and desired income. We'll leave you with one last thought. The earlier you start, the easier it will be for you to amass the dollars you will need on the day you retire. Say you put $1,000 per year for 25 years into an investment earning 10% annually, you would have $108,182. Wait just five years before starting that process, and on the same date in the future you would end up with $63,002. That $5,000 you "saved" by waiting just cost you $45,180 in tropical drinks. Now on to Step 3, where we'll show you where to get some free retirement money. 3. Step 3: Free Money. You've done your Foolish homework and now you know how much you have to accumulate to be able to retire and live comfortably. What now? The next Foolish step is to milk your employer for everything you can. No, we don't mean that you should confiscate post-its for at-home use or try to create a black market for hole punchers. We're talking about retirement plans. Most mid-size and large employers have a retirement plan in place for their employees. Many have two, and some three or more. These plans come in a wide variety of flavors, some good and some not so good. All of these, though, can help you achieve your retirement desires if you understand them fully and integrate them into your planning. Remember that employee handbook you received on the day you were hired -- the drab document you tucked away under some papers next to the half-eaten Snickers bar? Dig it out, dust it off, and read it. Buried in those pages you will find a summary plan description of the retirement plan(s) available to you as an employee. Those pages will tell you what kind of plan you have, when you become eligible to participate, and the ultimate benefit you will receive. Is it boring reading? Dreadfully so. But what you'll find in those pages, Fool, is your FREE MONEY. What will that free money look like? It might be called a "defined benefit plan" or a "company pension" -- phrases used to describe one type of plan commonly offered by employers. In this vehicle, employers typically do all the funding with no contributions by employees. The final benefit is determined by a formula often based on years of service, an average wage, and a percent of pay. For instance, the plan could say your final benefit will be a "joint and 50% annuity calculated as 1.5% times your years of credited service times the average of your last three years' base annual wage." What does that mumbo-jumbo mean to you? To a Fool, it means that with 30 years of service, at retirement your pension will replace 45% of your average annual wage for the last three years of work. It means it's less money you have to save each year between now and retirement because your employer is relieving you of part of that burden. And that means more of your resources can be devoted to other goals that are also important, like maybe putting the kids through college. The summary plan description will also tell you your options at retirement. You may be able to receive a lump sum payment instead of a lifetime annuity. That way, if the plan has no automatic cost of living adjustment to the annuity payment, you can invest the money to achieve that growth. Maybe you can take an annuity that will give a surviving spouse more than half your benefit after you die, something like two-thirds or 100% instead. And the summary plan description will tell you how long you have to be on the job until the money is 100% yours (the vesting schedule); it will tell you what happens if you leave your job before retirement, and what happens should you leave this world earlier than you anticipate. This is all valuable information because it helps to refine the assumptions we must make in the calculation of our retirement needs. Say your company offers a 401(k) plan. Take out your 401(k) summary plan description and look for: a. When you may participate;
b. The types and perhaps the risks of the investment options you have within the plan
c. How often you may switch between those options
d. Whether early withdrawals for hardships or personal loans are permitted
e. What distribution options are available when you separate or retire
f. And finally -- get out a sparkler for this one -- how much your employer will contribute to the plan on your behalf, and when you will vest in those contributions. This, as our Head Fools the Gardner brothers say, is the FREE MONEY. Why is it free? For one, your contributions to a 401(k) plan help reduce your tax bill because they don't count against your taxable income for the year. (Read: Tax-free money towards your retirement savings.) Of far more importance, though, is an employer's contribution on your behalf. While these contributions will vary from employer to employer, typically employers match your contribution from 50 cents on the dollar up to 6% of your pay. That means if you put in 6% of your paycheck, your employer will match that by contributing 3%. (That's 3% of your paycheck in free money.) Fools jump at this opportunity. Rarely, if ever, will we turn it down. We know there is no risk-free, untaxed way to get an immediate 50% return on our money in any alternative investment we can make. Sure, most 401(k) plans use high-cost, mediocre performing mutual funds as their investment of choice. Yet, even there, the immediate return of 50% on our money in every year we contribute would take years to top in anything else. Spurn this offer by an employer, and you exchange needless risk and taxes to leave found money on the table. When it comes to 401(k) plans, you should follow our Foolish path by grabbing all the free money your employer offers. What better way to lessen your savings burden? Now let's take at Step Four, Foolish look at taxes. 4. Step 4: What About Taxes? Conventional wisdom holds that it's almost always better to invest in a tax-deferred vehicle like a 401(k) plan or IRA than in an after-tax investment. This gospel holds that even if the initial investment itself is made with money that's already been taxed, the earnings accumulate untaxed, and this adds immeasurably to the positive power of compounding. Because your earnings (and often the contribution) are untaxed until you begin withdrawing money in retirement, the government is in effect providing you leverage in the investment. This boost thus allows you to amass far more money for retirement than you could in a taxable alternative. Additionally, you control when it gets taxed, and at what rate, by deciding on the amount of the withdrawal and when to take it. By contrast, in conventional investments, you are taxed on all money going in and on all dividends and gains in the year they are received. All things being equal, that general idea is true. But Fools know that all things are not equal. When should Fools elect to invest in a tax-deferred vehicle as opposed to a taxable alternative? We gave you a clue when in Step 3 we talked about 401(k) or 403(b) plans. In case you were snoozing, we said: Use the plan at least up to the level where you obtain the maximum matching contribution from your employer. Don't turn down that free money. Let's say your employer matches any contribution up to 6% of your salary. Fools would contribute that 6%, but beyond that they would compare the returns available in the plan investments to those outside of the plan. Here's a simple comparison between a tax-deferred investment like a 401(k) plan and an ordinary taxable investment. Let's assume that ultimately you'll withdraw all your money from the tax-deferred account, and you'll be taxed on that amount at today's marginal tax rates. (It's not quite that simple because, in reality, you'll decide how that money eventually comes out -- maybe all at once, maybe piecemeal, leaving the rest to compound. But for this simplistic analysis, as they say in tuning a guitar, "It's close enough for blues.") Let's also agree that all gains in the taxable account will be taxed at ordinary rates, even though we know that at least half would be taxed at the lesser capital gains rate. For our example: TR = your marginal tax rate
Ra = the return you expect in the after-tax investment
Rp = the return you expect in the tax-deferred investment Any earnings in the after-tax account will be taxed. Therefore, the equivalent rates of return in a tax-deferred or after-tax account can be expressed as (1-TR) * Ra = Rp, which can be restated as Ra = Rp / (1-TR). All right now, uncross those eyes. This formula gives you the rate of return you need in an after-tax account to equal the return you would get in a tax-deferred account after it, too, had been taxed at some point in the future. Let's take an example. Let's say I'm in a 28% federal tax bracket, that I get no matching contribution from my employer (or have already reached the maximum match), and that I deposit $100 into my tax-deferred account. I expect to earn 10% on that deposit. What rate of return do I have to get in an after-tax investment to equal what I'm getting in that plan? Well, by using the formula, I get: Ra = Rp / (1 - TR)
Ra = 0.10 / (1 - 0.28)
Ra = 0.10 / 0.72 = 0.138888 = ~13.89% Therefore, if I deposited $72 in an after-tax investment (the equivalent of $100 deposited in a tax-deferred account) and I earned at least 13.89% on that investment, I would do just as well after taxes as I would in a tax-deferred investment earning a 10% return. If I could get more than 13.89%, I would do better. Proof? In the tax-deferred account a $100 deposit would earn $10 at a 10% return, giving a total of $110. Withdrawing that $110 and paying taxes at 28% would leave $79.20. $72 in an after-tax account would earn $10 at 13.89% or $7.20 after taxes, leaving $79.20 total in that account after taxes. Conclusion: Use a 401(k) or similar plan to get the maximum employer matching contribution available. Beyond that level, compare your before-tax and after-tax investment options and select the one that provides the highest after-tax return. But remember this: If you choose an alternative to the 401(k), then you must be just as dedicated and disciplined within that investment as you would have been within the 401(k). That means you must make your deposits in that investment each and every payday without fail. It also means your deposit must increase at the same time and at the same rate as your pay does. Fail to adhere to that regimen, and you will neither equal nor beat the 401(k). The 401(k) demands these contributions and increases via automatic payroll deduction, so to keep pace with or to better that vehicle you must apply the same technique in any alternative. The Taxpayer Relief Act of 1997 provides a unique opportunity to those of us who have reached the maximum contribution we wish to make to our employer plans. It's called a Roth IRA and may be established anytime after January 1, 1998. With a Roth IRA, you may make a nondeductible deposit of up to $2,000 per year, allow the earnings to accumulate tax-free through the years, and ultimately withdraw all of the proceeds tax-free. This is an excellent vehicle for monies to be invested outside of an employer-provided plan. Now on to Step 5, where we chant the Foolish Mantra that will help you pick the best retirement vehicle for your needs. 5. Step 5: Take Stock We start this discussion with a quote from James Bryant Conant, American diplomat: Behold the turtle. He makes progress only when he sticks his neck out. Pretty Foolish, James. He knew that cracks along the sidewalk would trip up the turtle from time to time. But the one who finds a comfortable pace and keeps his eye on the horizon will go places. In our investing analogy, those cracks represent market risk. And in our Foolish Steps to Retirement Planning we recognize that we're going to have to cross them to get anywhere. Market risk (the chance you will lose money) and reward (the chance that your investments will head skyward) travel hand-in-hand in the daily marketplace. The greater the risk, the greater will be the potential return for taking that risk. Equally true is the potential for loss, which quite handily explains why taking that risk should pay a greater reward. By and large, however, risk is pretty much a short-term phenomenon. That's particularly true in the stock market, which many regard as a quite risky investment. Let's take a look at what various investments have returned over time. Since 1926, U.S. Treasury Bills, which serve as a pretty efficient proxy for money market accounts, have yielded roughly 3.8% annually on average as of December 31, 2000, according to Ibbotson Associates. While this may not seem like a lot today, remember that for much of this century, inflation was nonexistent, making a 3.8% average return very attractive until the 1960s. Had you put one dollar into T-Bills in 1926, you would have amassed $16.40 as of December 31, 2000. Long-term government bonds have returned around 5.3% per year since 1926. The best 10-year holding period for bonds since then was that ending on December 31, 1991, when bonds returned 15.56% annually. The worst was that ending on December 31, 1959, when bonds had a negative return of 0.07% per year. Had you invested one dollar in long-term bonds in 1926, you would have $48.10 as of December 31, 2000. Stocks have also been very good to investors. The Standard & Poor's 500, composed of 500 international corporations, has returned an average of 11.1% per year since 1926 -- quite a bit higher than bonds. Surprisingly, the range of the returns for stocks is not that much larger than the range for bonds over the same period. The worst 10-year holding period was that ending on December 31, 1938 when stocks declined 0.89% per year, including dividends. The best 10-year holding period for stocks since 1926 was that ending on December 31, 1958, when stocks increased by 20.06% annually. Had you put one dollar into stocks in 1926, you would have seen it rise to $2,682.59 as of December 31, 2000. Fools recognize that the long-term odds are overwhelmingly in our favor. We know the market shifts everyday, sometimes sharply downward. That can be absolutely gut wrenching when it occurs, but history shows us that the inexorable pressure on the stock market is upward. The biggest bang for our buck will be found in stocks. Fools opt for stocks above all else as our vehicle of choice for growth over the long term. Think now about your retirement. When will it occur -- 20 years from now, five years, tomorrow? If you're close to it, or are already retired, how long must the money last? Now think about your retirement investments. Is the bulk of your money positioned for long-term growth (read: stocks) or short-term stability and income (read: bonds and bills)? The mix you have in these instruments is something you must decide for yourself. After all, you're the one that has to sleep at night. Recognize, though, that investing for retirement is a long-term goal. Hence, you truly want to shoot for the best growth in your investments that you can get. That won't be found in bonds or bills over the long haul. If you elect to keep most of your money there, almost assuredly in retirement you will be eating franks and beans for dinner because you have to, not because you want to. Recognize, too, that you probably still have many years of productive life ahead of you after you finally do retire. While bonds and bills may appear appealing for the income and safety they provide, half or more of your portfolio must still be invested for growth to ensure you can maintain purchasing power. Average inflation for the 10-year period ending December 31, 2000, has been 2.71% per year. At that rate, the cost of all we buy doubles every 26 years. To a retiree living on a fixed income, that can be nothing short of devastating. Hence the need for growth in a retiree's portfolio. The lesson of this step, then, is to avoid overly conservative investing, both now and after you retire. Too much safety can be costly to your financial health in retirement. If you are a mutual fund investor (and most 401(k) or 403(b) plan participants are), focus your attention on stock funds. Compare their records over time to that of the S&P 500 index and each other. For 5- and 10-year periods, most funds will be below the market. In a company plan, though, you won't have much choice. Use the fund that comes closest to the S&P 500 average. If your plan offers a stock index fund, that will probably be your best choice. Outside of a company plan, an S&P 500 index fund invariably is better than a managed stock fund for the long haul. If your company plan allows you to purchase your own securities or if you are investing outside of a plan, you have many more options. Other Foolish investment strategies are covered in the Fool's School. All are worth your investigation and time. Next up: A look at what your contribution to Social Security means to you in Step 6. 6. Step 6: Social Security "Social security? Fahgeddaboutit! There'll be no Social Security by the time we need it. The system is broke, and it ain't gonna be fixed. It'll be all used up before you and I ever get there." Do you really believe that? Many of those under the age of 50 do, and the younger the age, the more prevalent that belief. We Fools don't think so -- we know who votes and that our fearless leaders can count. We accept the fact that Social Security is here to stay, but we also recognize that the system will almost assuredly give future recipients less than it does today. Therefore, because it will continue to play an important part in how we plan for retirement, we seek to understand today's system and will closely watch how it evolves in the future. By doing so, we know we can plan for retirement with more precision than we could by ignoring it. With few exceptions, wage earners today see a payroll deduction for FICA (Federal Insurance Contributions Act) that reduces each paycheck by 7.65%. Those who are self-employed see twice that shrinkage from their gross pay. These involuntary "contributions" are really taxes that go toward Social Security (6.2%) and Medicare (1.45%). We'll look at Medicare in Step 12. For now, let's concentrate on that part of your earnings that goes to Social Security. What does this "contribution" get you? Basically, the taxes you pay for Social Security buy you three things: income in retirement, income for survivors, and income in case you become disabled before you are eligible to retire. You must work and pay into the system to be eligible to receive these benefits. Generally, to qualify for full benefits you need to work at least ten years. The size of the benefit is based on your earnings and the number of years you have paid into the system. You may receive retirement benefits on or after age 62, and the longer you wait to do so, the higher that income will be. Your spouse and, in some cases, your dependent children may also receive a benefit when you retire. If you die before or after retirement, a survivor's benefit may provide income to your spouse and dependent children depending on their age and work status. Become disabled and you, your spouse, and your dependent children may receive disability income based on your work record up to the point of disability. In and of themselves, each of these benefits is a valuable asset to us all. They provide income protection to the family during and after our working careers. But do you know how much protection? Not unless you ask. And you should do so at least every three years. If you do, you will receive something called a Social Security Statement (SSS), which is a great tool in helping you determine how much you need to set aside today to supplement Social Security in retirement. Remember, the system was designed to provide for minimum income needs in retirement, not all. Your own savings must add to that income so you can retire with the living standard you desire. If you don't know how much you can expect from Social Security, you may devote more than you need to retirement savings, thus needlessly decreasing amounts available for other areas of your life today. The SSS will show you how much you can expect to receive if you elect to retire at age 62, your normal retirement age (65 or older depending on birth date), or 70. Additionally, it will show you the earnings credited to your Social Security account for each year you have paid into the system; how much you would receive if you became disabled; and how much survivors would receive if you died. All that information is very Foolish data indeed on which to base your plans. How do you get this data? Call the Social Security Administration at (800) 772-1213 and ask for Form SSA-7004, Request for Social Security Statement. When you get it in the mail, fill it out and return it. In about four weeks, you will have your SSS for review. In a hurry, you say? Then visit The Social Security Administration and make your request online. Either way, just do it. Then, when it arrives, look at the statement closely. See an error in your reported earnings? It happens, and it could affect your benefit. If there is an error, contact the SSA immediately to see how it can be corrected. Often, all that's required is for you to send in a copy of the Form W-2 you received for the year in question to get the error fixed. Sometimes it takes more effort to fix the mistake. Regardless, you want to ensure all data is correct, and the only way to do so is to take action now. So remember: Smart Fools request SSS. Why not you, too? Now head to our Seventh Step of Foolish retirement planning. 7. Step 7: A Second Career So now you've done it. You've retired from the rat race, and you're enjoying the good life. You're sipping on your Mai Tai and contemplating the mysteries of your navel. You're on the verge of developing that One True Theory of Lint. Working again is the farthest thing from your mind. Who needs that routine when there's so much more to do? Suddenly, a wild thought intrudes on your meditations. Is it possible that you could (gasp!) reenter the workforce? But why would you want to? You might -- particularly if you retired before you became eligible for Social Security payments. As you recall, that check can't come until you are at least age 62. Even if you're already drawing Social Security, you may decide to resume work simply because you enjoy the personal contact with others. Maybe you want to feel more productive, desire some "mad" money, or just want to have time away from your life's partner. Many retirees do. Further, they work because they want to, not because they have to. They just enjoy it. But what does it mean financially when they return to work? The financial impact of a second career depends largely on the age at which you resume work. For those younger than age 62, a job serves to increase the ultimate benefit they will receive when they take Social Security. In computing that benefit, the system looks at a person's entire working life. The computations are complicated, and use the best 35 of the 40 highest years' earnings. If you have a lot of zero-income years, that will lessen your ultimate benefit. Retire early, and you're bound to have a lot of those zero-income years. They will cause your Social Security check to be smaller than it could be. Resume work, and you'll pay into the Social Security system again, thus offsetting those zero-income years and increasing your benefit. Is that a reason to go back to work? It might be. Then again, it might not. It's entirely up to you. If you've done a Foolish job in planning for retirement, increasing your ultimate Social Security payment may not be an important factor to you. But be aware that an early retirement may come at a higher cost than you might have otherwise thought. For those who do go back to work, at ages 65 and older there is no worry. Younger retirees, though, may see a reduction in their Social Security checks, depending on how much they earn in wages during the year. From ages 62 through 64, if you receive a Social Security check, you must forfeit one dollar of that check for every two dollars you earn above a certain maximum earnings limit. That limit moves upward each year with inflation. In 2001, the limit is $10,680. Thus, a Social Security recipient who was age 63 and who receives $11,680 in wages in 2001 will be over the maximum earnings limit by $1,000. That excess will cause a $500 reduction in the Social Security benefits that person receives in 2001. If you are under age 65 and return to work after you begin receiving your Social Security benefit, estimate what you will earn for the year and compare that amount to that year's maximum earnings limit. If you see you will exceed that limit, tell Social Security immediately. The agency will reduce your monthly check accordingly. Fail to do so, and those earnings will be reported to Social Security anyway when you file your income tax return for the year. The Social Security Administration (SSA) will then notify you of an overpayment because of excess earnings. It will recoup that overpayment from the following year's checks. You might not be working that year and may need your full Social Security payment. What if your estimate was wrong and you didn't earn as much as you thought you would? In that instance, the SSA will restore the previously withheld benefit. You won't have lost a penny, but you will have avoided an overpayment. Working after retirement has its good points and its bad points. Each of us must evaluate both. The Foolish point to remember here is to recognize the impact such work has on our Social Security benefits. Our endeavors may increase what we get from the system and -- possibly at the same time -- reduce the check we currently receive. To close, consider the words of Oscar Wilde: Work is the curse of the drinking classes. Fool on, and have a Mai Tai for me. Now, what to do with one of your biggest assets -- your home. 8. Step 8: Your House Your home is more than four walls and a roof. (Yes! We forgot the floor!) For owners, it's much more than that. Your house is a money tree. Shake it, and the cash will rain down. For Fools, the trick is in deciding whether, when, and how to tap into that honey pot. Do we do it early in retirement, later, or never? As you'll recognize by now, that, too, is a personal decision. The home, especially when it's paid for, represents security. It's also one of the biggest investments we make. As such, it represents an asset from which we may obtain needed capital if and when that becomes necessary. In retirement, we still have to reside somewhere. Wherever that somewhere is, we will either rent or own. At retirement, most folks own their homes. Many of them have either totally paid off or are close to paying off their mortgages. Some will sell out and trade down to a smaller home. Some will sell out, keep the sale's proceeds and rent. Some will stay right where they are and enjoy the benefits of not having to pay a mortgage or rent. And a few will sell to buy a larger, more costly home. Each of these decisions may be Foolish. Conversely, unless we know how our decision affects our own retirement life, each may also just be foolish (small "f"). That means we need to look at the issues and plan accordingly. Long-time homeowners know that their homes have increased in value since their original purchase. Often, that equity represents a princely sum that, if accessed, could yield an even greater return invested elsewhere. One way to get at that cash is to sell. With the Taxpayer Relief Act of 1997, Congress has made that an even more attractive option than it once was. Now, we can sell our homes and receive gains of up to $250,000 ($500,000 for a couple) totally tax-free. That may be a very Foolish way to free up capital that can be better employed in retirement. One scenario would be to sell and purchase a new, smaller home by making a minimum down payment on a 30-year mortgage. (Yes, Virginia, lenders love to carry retiree mortgages because they have a very low default rate.) Then we could Foolishly invest the cash left from the sale. As long as that investment throws off what we need for the mortgage, we'll be sitting in clover. We've freed the cash tied up in our present home so it can work much harder for us. Will it work for you? The only way to tell for sure is to run the numbers and see. Maybe you don't want the hassle of home ownership again. Instead, you plan to sell, invest the cash, and rent. Will that work? It could. It depends on how much rent you will pay in retirement. A home mortgage tends to be relatively stable through the years. Rent, though, has a nasty habit of increasing every twelve months. If you can invest your money to pay for those ever-increasing rent payments, then a lease may be an option worth considering. Many retirees want the security of not having to pay rent or a mortgage. There is nothing wrong with that. Instead of the scenarios outlined above, you could just stay where you are. Alternatively, you could sell and pay all cash for a cheaper home. Cash left over from the sale could then be invested to throw off additional retirement income for your use. In either event, when needed you can still get at the equity tied up in your home through one of two ways in most states. The first method is through a home equity loan (HEL) line of credit, and the other is through a reverse mortgage. A HEL is nothing more than a loan secured by using your home as collateral. Because it's a loan, it must be repaid with interest. Repayment starts immediately, usually in the form of a monthly payment based on a 15-year amortization schedule. For emergency cash, a HEL is a good vehicle. As a means of regular income, it is not the route to take. If you need the loan as income, then chances are you can't repay it. Failure to repay the debt will result in a foreclosure on your home. A reverse mortgage is a means of receiving a regular, untaxed income as a loan against the equity you have in your home. The total loan amount is usually fixed, and may be paid as a lump sum or in monthly installments over a fixed period or for life. Unlike the HEL, though, this loan doesn't have to be repaid until you die or sell your home. Then you or your estate repays all loan proceeds with interest. The beauty of this loan is that it doesn't have to be repaid until the house is sold and your legal obligation for repayment is limited to the value of the home at that time. If the home declines in value, you will never owe more than your equity in the home on its sale. For elderly people living alone who are in need of cash, a reverse mortgage is definitely an option to consider. Whether you own or rent, sell or stay, recognize that your house is more than a home. A home is a place of heartwarming memories, love, dreams, and good feelings. Fools cherish the thoughts it invokes. But "home" is a mental concept, and we can have a home virtually anywhere. (And hey, who knows? Maybe soon in the future you'll just have a home in cyberspace!) A house is a structure of sticks and bricks, of walls and beams. As such, it has a monetary value. That value can and should be used when needed. As Fools, our task is to determine if and when it is appropriate to do so. Next up: The myth of lower taxes. 9. Step 9: What Uncle Sam Taketh "I have always paid income tax. I object only when I am threatened with having nothing left for my old age -- which is due to start next Tuesday or Wednesday."
--Noel Coward "Retirees enjoy a lesser tax burden than those who work," goes the old saw. That may have been true in the grey and distant past, but it certainly isn't true now. Today, many retirees end up in exactly the same marginal income tax bracket after retirement as before. That situation will definitely be true for those who follow a Foolish path in their retirement planning. Nevertheless, retirees as a group do tend to pay the taxman less in absolute dollars than they did before. Common sense should tell us why: they have less taxable income. The money they live on usually comes from savings (taxable), pensions (taxable), and Social Security (potentially taxable in part). The addition of Social Security, which is never fully taxed, reduces the actual taxable income. Thus, a retiree could draw exactly the same annual income as she did when she worked, but pay less total dollars in taxes because part -- if not all -- of the Social Security income is received tax-free. Despite paying less dollars, though, that same retiree will still be in the same marginal tax bracket, albeit at the lower end of that range. Throw some work in the mix and the plot thickens. Wages from work get taxed as usual. And, as we saw in Step 7, Social Security is trimmed as the retiree exceeds the maximum earnings limit for the year. In extreme cases, work could cause a confiscatory tax of over 80% on those wages when ordinary income taxes are added to the Social Security forfeiture. Kinda makes one wonder why a Fool would want to work under that scenario, doesn't it? If you're looking for a greatly reduced tax burden in retirement, well, umm... forget it. The best you will achieve is a lower average tax rate on all the money flowing into the household for the year. Compute that rate by dividing your total taxes by all of your income, both taxable and nontaxable. For many retirees, the significant proportion of that income represented by untaxed Social Security payments does indeed cause the average tax rate to drop. When and how does Social Security get taxed, you ask? The computation, like all Infernal [sic] Revenue Service requirements, is a tad complicated. In fact, they have a special worksheet just for that purpose. The math starts with your Adjusted Gross Income. To that you add one-half of all Social Security benefits and all unearned income received during the year. The latter almost always comes from tax-exempt interest received from municipal bonds (a favorite retiree investment). If the computed total is larger than $25,000 (single) or $32,000 (married filing jointly), then up to 50% of the Social Security benefit will be taxed. If the amount is larger than $34,000 (single) or $44,000 (married filing jointly), then up to 85% of the Social Security benefit will be taxed. To determine the exact amount that will be taxed, you must complete the handy-dandy worksheet supplied by the IRS for that purpose. Doesn't that sound like fun? OK! Now we know retirees have to pay taxes, too. But don't they get any breaks? What happened to the senior citizen discounts? Surely the government can't be that cruel. What is this, the Spanish Inquisition? Heck, I remember Gram and Gramps each getting an extra personal exemption because they were older than age 65. That's just gotta be there for today's retirees, too, right? Uh... well... actually, no it's not. It's true that exception did exist at one time, but it got wiped out during one of the efforts by Congress to "simplify" our tax laws. Our leaders left something in return, though. Currently, those over age 65 who do not itemize deductions on their income tax return get a higher standard deduction than a similar filer who is younger. The amount varies each year just as the regular standard deduction does. Hey... it ain't much, but at least it's something. Provided, that is, you don't itemize on your tax return after you retire. Retirees who itemize get zilch. There is one more situation in which retirees possibly can lessen their tax burden, and that's in the area of real estate taxes. Many states will grant real estate tax exceptions to homeowners of a specified age, usually age 60 or older. These exceptions vary and may take the form of a partial exemption, a waiver, a freeze on assessment rates, or a suspension of payment until death. For those pressed for income, investigation in this area is definitely warranted to determine what the state of residence will permit. While it's highly unlikely the tax can be avoided completely, it's equally true that when cash is tight, every dollar counts. In financial situations like that, every dollar not given to the taxman is a dollar earned. As my daddy says, "There was a time when you saved up for your old age; now you save up for April 15th." I guess he's telling the truth. He's been retired for over 20 years now, and he still screams when he pays Uncle Sam. Let's wind up with another old saw, "Only two things are certain: death and taxes." So you pay some taxes. It's better than the alternative, no? In Step 10 we'll look at The Big Day (your last one at work), and how you should handle one of the more important retirement decisions. 10. Step 10: The Lump Sum You're there. The magic day has arrived. The desk has been cleared, all personal mementos have been carted home, and you have received the proverbial gold watch. All that's left is to get with Catbert, the Evil Personnel Director, to tie up some remaining loose ends, and then you're out the door forever. Goodbye, drudgery! Aloha, Mai Tais. (No, we don't mean to paint quite such a disturbing picture of the Hades of job hatred followed by the Nirvana of fruity alcohol, but what the heck.) Here you come! Congratulations, Fool. You're about to grab the brass ring! Catbert smiles sardonically as you enter his office and says, "We just need you to fill out a few forms, Josh, and you'll be on your way. Tell us how you want to take your money, sign this irrevocable option form, and you're outta here. You've got to make the choice on your own, though. I can't advise you at all. You know why: liability issues, fiduciary responsibilities, lawyers, etc. But you're a bright guy. After all, you managed to last a whole career here, didn't you? You'll figure it out. Just tell me how you want to handle your distribution in the next five minutes, though, okay? I'm a busy guy and can't spend all day chewing the fat with ex-employees." Making that choice is a piece of cake isn't it, Josh? Just grab the money and run, right? It isn't often that you see six-or-seven figure sums staring you in the face, and it's all yours, Fool. Snatch that check, deposit it in your bank, and board that cruise liner to luxury land. You can work out the nitty-gritty with your tax advisor at the end of the year. Right now your better half is waiting with luggage in hand and the camera slung over her shoulder. Get a move on, guy, 'cause time's a-wasting! Uh, Josh? Don't be too hasty, or you may be in for a very rude awakening. This choice is a one-time decision. Go the wrong way now, and you could very well lose about half of the money you've accumulated through your working career. The taxman would steal it away while you weren't looking. This decision is not one that can be ignored or left to the last minute. You must know all of your options, and you must know the tax impact of each choice. Without that knowledge, it's too easy to make a mistake that could haunt you for the rest of your life. For most of us, the sums that become available at retirement are the largest amounts of money that we will control in our entire lives. The decision on how we handle that money is probably the most important one we will make, as well. Knowing that, Fools believe this is one of the times in our lives when it makes sense to consult the experts. In this case, about six months prior to retirement we would see a skilled tax practitioner who's experienced in retirement plan distributions. We would have that expert run the various scenarios for us to see the potential results. Then, armed with that knowledge, we would choose the option that best fits our personal situation. How much would that cost? Anywhere from $200 to $750 is a good guess. Measure that against a possibly huge loss from your retirement stash, and most Fools would agree the advice is well worth the cost. Generally, normally, usually (truly! madly! deeply!), the best choice for a retirement plan distribution is to transfer that money to an Individual Retirement Account. By doing so, the tax-deferred status of that sum continues and we reduce our current tax burden. Be aware, though, an IRA is not always the right choice, which is another reason to seek expert tax advice regarding these distributions. Once the money is in the IRA, it is subject to IRA rules. That's no problem when a person is older than 59 ½. We're free to withdraw as much money as we want at any time, and we will only pay ordinary income taxes on that sum. But what if you retire at a younger age? Retire at age 55 or older, but younger than age 59 ½, and two factors come into play. At age 55, you may retire and receive qualified retirement plan proceeds without penalty. You will pay ordinary income taxes on any sum you keep. Put that money in an IRA, though, and now you must play by those rules. Take money out of the IRA, and you'll pay ordinary taxes plus a 10% early withdrawal penalty because you are under age 59 ½. Bummer! You don't want to pay taxes all at once on your retirement plan money. You want the tax deferral of the IRA. You don't want to pay that lousy 10% penalty on IRA withdrawals. And you still need money to live on each year until you can get at the IRA. What do you do? Add another reason to go see the tax consultant, Fool. You have several options, but to choose one of them you need to know their ramifications. The expert can outline them for you. You could keep just enough money from your retirement plan to live on until you reach age 59 ½, and transfer the rest to the IRA. You'd have to pay taxes on the sum you keep, though. You could transfer all the money to the IRA and then make withdrawals under Section 72(t) of the Internal Revenue Code. That's an exception that allows you to avoid the 10% penalty. But do that and you have to live with the income the computations produce, which may not be enough cash. Further, you have to take that income for the longer of five years or until you reach age 59 ½. Therefore, once started, you can't stop at will. What's the best choice? Ask your tax consultant. Alrighty! You've seen the consultant, and you've made your choices. What's next? Step 11, How to leave the leftovers to your heirs. 11. Step 11: Keep It in the Family (AP) Honolulu, Nov. 26 - Josh A. Fool, 61, died tragically today in an attempt to set a world record for the consumption of Mai Tai-soaked pineapple chunks while reclining inside a roasting pig. Witnesses report a barbecue spit collapsed, sending Fool and pig into the fire. Alcohol fumes from the pineapple chunks contacted open flames, which caused an explosion that hurled Fool and pig into the lobby of an adjacent hotel. Neither survived the blast. Fool, a retired executive, left an estate estimated at $1.75 million. He is survived by his spouse, Lucky, and two adult children, Millicent and Porky. It's unfortunate, but accidents do happen. One moment we're enjoying life to the fullest, and the next we're in another world. We never know when that mysterious moment will arrive, but as a Fool, you have prepared for that eventuality. You've seen an experienced estate-planning attorney to ensure all your affairs are in order. The will is done and necessary trusts have been established. You've anticipated everything to include potential estate and/or inheritance taxes, so the family should have no problem. They will get to keep the bulk of what you leave behind and the taxman gets nothing. That's right, isn't it, Josh? Josh? Hey, c'mon back here! Let's face it, Fools. There are certain things we must do to protect our family and our wealth. We don't like thinking about it very often, but think about it we must. We will die. When we do, unless we have prepared for that inevitable result, we may create needless heartache and loss for those we leave behind. Estate planning is appropriate at any stage of life. It's particularly appropriate as we prepare for retirement. Therefore, let's take a quick look at things we must consider. It's no secret that every adult needs a will. Die without one, and the state decides what happens to your property. Rarely will the state's mandate follow what you would do if you had the opportunity to act. You have that opportunity through a will. Use it. Be a Fool and see an attorney to complete one. It isn't that expensive to prepare and it ensures your property will be distributed in accordance with your wishes. Don't use a preprinted, fill-in-the-blanks form will bought from a stationery shop or created through some of the software programs available for this purpose. These are often out-of-date and may not conform to the laws of your state. That penny saved may be thousands of dollars wasted after you die. Do see an attorney. After you complete the will, ensure you review it every five years, at a minimum, to verify its validity and conformance with state law. Be aware of what counts as an estate asset for tax purposes when you die. Basically, that's everything you own, including the face value of life insurance policies and the current value of all your retirement plans. You may pass an estate of unlimited value to your spouse at death with no unfavorable tax consequences. When that spouse dies, though, there may be some heavy taxes that cause your children to receive far less than they should. Know that is possible and prepare for it. Today, you may leave up to $675,000 tax-free to heirs who are not your spouse. If you leave those heirs anything above that amount, the excess will be taxed. Those rates start at 37% and quickly escalate to 55% from there. The exemption on the first $675,000 of estate assets is scheduled to increase annually until 2006, when it will be $1,000,000. Sounds like a lot, doesn't it? But count the value of your retirement plans, your home, the face value of life insurance you own, and everything else, and that amount is readily reachable by many. Couples must begin to worry about the possibility of estate tax when their combined assets approach this figure. In today's world, with two workers in the family, this level can and will be reached with some frequency. Is it time to see the lawyer? If you want to protect the kids from Uncle Sam, the answer must be a resounding yes! What if you become incapacitated, either mentally or physically? You might want to look into a durable power of attorney granted to someone you trust, such as your spouse or an adult child. You may also want to add a medical power of attorney. Both will allow the person you select to make decisions on your behalf. Without those documents, your family will be forced to hire an attorney, go to court, and have someone appointed as your conservator and/or guardian to make decisions and conduct business on your behalf. That's a needless, time-consuming, and costly process that can be avoided with one or two inexpensive documents that an attorney can prepare today. Lastly, you may want to execute a living will. It's a silly name for a document that really says you want the right to die a natural death free of all costly, extraordinary efforts to maintain your life when that life can only be sustained by artificial means. This document is free in virtually every hospital in the nation. It makes such decisions easier on the doctor, the hospital, and your family. Used in conjunction with a medical power of attorney, this tool can spare your family a painful, drawn-out, and costly process. If you agree with this concept, then visit your local hospital, pick up the form, complete it, and let your loved ones know where it can be found. Estate planning encompasses much more than a will. It may be true that you can't live with lawyers, but you certainly can't die without them. Use their talents to ensure things work the way you want. Estate planning ain't a barrel of fun, but it sure is necessary. And it's definitely a heck of a lot better than a poke in the eye with a sharp stick. Now let's take a stab at the next step -- in shoor/ ans. 12. Step 12: What About Insurance? in-sur-ance (in shoor/ ans), n. 1. The act, system, or business of insuring property, life, one's person, etc., against loss or harm, in consideration of a payment proportionate to the risk involved.
-- The Random House College Dictionary
Step 2. Determine what it takes and how to get there.
Step 3. Know how your job contributes to your retirement needs.
Step 4. Recognize when to use and not to use tax-deferred savings.
Step 5. Invest like a turtle -- now and in retirement.
Step 6. Determine how Social Security fits into your plans.
Step 7. Be aware of the impact of working in retirement.
Step 8. Recognize that your home is an asset.
Step 9. Remember that taxes do continue after you retire.
Step 10. Determine how you will receive retirement plan distributions.
Step 11. Ensure your hard-earned wealth stays in the family.
Step 12. Examine your insurance needs, particularly medical coverage.
So here it is, the one we've all been waiting for, the step of utmost importance, the one that, if forgotten, condemns us to a life of never-ending work. Without further ado and to the blare of trumpets we present for your reading pleasure: Step 13. When all else fails, repeat Steps 1 through 12. What?! Those are the final Foolish words? What a rip-off! Know what I think? I think some bozo ran out of important things to say. Where's the complaint board? I want to protest! Before you e-mail the FTC, the FBI, or the AARP, let us explain why we're ending our retirement primer with a note to repeat Steps 1 through 12. We live in an age of blinking LED displays on VCRs all around the country, as harried, over-stressed people refuse to take the time to read the instruction manuals. Constantly flashing VCR lights, while annoying, harm no one. But flashing lights in retirement plans may. Plans are just that -- plans. As such, outside influences, over which we have absolutely no control, can cause them to go astray. When that happens, we must go back to the operating instructions and repeat the steps to get those blasted lights to stop flashing, or else things just won't work the way we want them to. Some, though, may still object to the obvious and demand more. Because the Motley Fool believes in customer service, let's bifurcate this step. Ain't that the neatest word you've seen today? It's a term most often used by lawyers -- surprise, surprise -- that means to divide or fork into two branches. We just discussed the first fork of Step 13, so let's turn to the second. Your plan might not fail. In fact, it may work gloriously. Are you then home free? The surprising answer is no. The first 12 steps deal primarily with money issues. They really fail to address those facets of retired life that have little to do with finances. Thus, the second fork of this step becomes: Step 13. Reflect on the personal issues of retirement. Think about it. You know what the personal issues are. When you no longer work, you have loads of time to fill. When the golf game or fishing gets boring, what takes its place? We have many social contacts during our working lives with our co-workers. Who takes their place to fill our basic human needs for companionship and social interaction? One thing's certain: a couple, no matter how devoted to each other, cannot spend 24 hours per day, day in and day out, in the exclusive company of one another. Both need outside interests and companions. There are other quality-of-life issues, such as housing and its location, physical health maintenance, availability of community services, work (volunteer as well as compensated), educational interests, and leisure pursuits. These issues will define our life and our happiness in retirement. Money is the tool that keeps us comfortable, but these are the factors that make us who we are. They determine how we live and react during our existence. One-third or more of our lives will be spent in retirement. Therefore, to enjoy those years, we must give these "touchy-feely," largely non-financial factors more than passing consideration. That's only Foolish. Retirement, Fool, is that time of life at which we have gained sufficient experience to lose our jobs. Or, put another way, we want to amass enough resources so that in retirement we may say, "I wake in the morning with nothing to do, and by bedtime I only have it half done." These 13 steps are the path to help get us there as comfortably as possible. Use them Foolishly.
>What role do you think insurance will play in your life after you retire? We all know its purpose. After all, we carry coverage on our homes, our cars, and on our bodies. We use it to safeguard our assets and our family's income. On more than one occasion we've had to make claims on our policies, and they have saved us from paying large out-of-pocket expenses. While working, we usually carry policies for life, disability, medical, home, and car. Here's the big question: Do any requirements for insurance disappear in retirement? Here's the big answer: Possibly. So it might be Foolish to see what we can expect. We'll still drive and we'll still live somewhere after we retire, so automobile and home insurance policies are a given. We pay the premiums now, and we must continue paying them after we retire. They stay. Life insurance is a different matter. At retirement, life insurance needs are usually far less important than they were while we were working full-time. At this stage of life, the kids are grown and gone. Now the only person to worry about is a spouse. A spouse certainly should enjoy the same standard of living after we're gone as when we're alive. Will insurance be needed to secure that standard? For Fools, probably not. That's because we have already provided for that spouse in our planning. In retirement, the departure of either spouse should have no effect on the ability of the other to survive comfortably for the remainder of that person's life. If that is the case, then perhaps all that's needed in retirement is enough life insurance coverage to pay for all final expenses and funeral costs. Coverage beyond that amount is unnecessary unless we're planning on leaving someone a large sum to remember us by. If needed, we could carry more insurance so the family could pay any estate taxes due, but that's a matter for discussion with an attorney. In most cases we shouldn't need large amounts of coverage. At retirement, then, we definitely want to look at our life insurance needs so we only carry the minimum coverage needed. While working, most of us carry disability insurance to supplement our income in case we lose work because of sickness or injury. Sometimes we pay for that coverage, sometimes our employers pay for it. It protects our family income. But when we retire, we have no job income to protect. Therefore, we cannot find private disability insurance protection. All that's left for that purpose is Social Security. If we retire at age 62 or older, we are already receiving a Social Security payment, so a disability is moot. But if we retire younger than age 62, the disability coverage provided by the system may be important. That's because under Social Security we can retire for disability at any age. We can, that is, provided we have worked and received 10 years (40 quarters) of credit and have been covered under the system for at least 20 quarters (five years) out of the last 40 quarters (ten years) ending with the quarter in which the disability occurred. What's the importance of that? Say I retire at age 50. I become disabled at exactly age 54. Looking backwards ten years, I see I have been covered under the system for six years, so I can begin drawing Social Security right now, without having to wait until age 62. Take the same situation but change the disability age (the age at which I become disabled) to 56. Now I only have four years of credit in the last ten. This means that I was covered for only 16 quarters, not 20, quarters out of the last 40. Therefore I am not eligible for Social Security disability. Worse, I must wait another six years before I reach age 62, at which time my Social Security retirement benefits may begin. Is that important? This Fool thinks so. If disabled, my living costs go up, so that extra cash could make a big difference in my ability to survive comfortably. While working, we typically enjoy medical and health insurance coverage through a group policy available from our employer. Leave that job, and by law we can continue that coverage for 18 months. After that, we're on our own. Absent retirement for disability under Social Security, Medicare coverage does not begin until age 65. If we retire earlier than that, we'll still need that medical coverage, but an individual policy will be enormously expensive. That drain on the pocketbook requires extensive research and investigation to ensure both the availability and affordability of health insurance when we retire. Some employers allow retirees to retain group medical coverage in retirement. A group policy available through an employer will almost certainly be the cheapest and most comprehensive insurance available, but employers do not have to provide this coverage beyond the 18 months specified in the law. Health insurance for younger retirees is a huge problem that must be addressed. In some cases, it could very well dictate a longer working career than initially desired. Be Foolish and examine this issue closely prior to making a final decision. When we reach age 65, Medicare coverage becomes available. While valuable insurance, it will not pay for everything. Thus, we must supplement that with additional insurance. These policies vary in cost and specifics, but they all conform to uniform coverage provisions dictated by the National Association of Insurance Commissioners. When we need that Medicare supplemental coverage, we must comparison-shop for policies to select the one that best fits our medical needs and pocketbooks. Some Fools may want to consider long-term care insurance. These policies come in many forms, but all have one thing in common: they are not cheap. But neither is nursing home care in old age -- the average cost is $37,000 per year. Long-term care coverage is another area that must be examined closely before purchase. Remember: the younger you are at first purchase, the lower the cost. Of all the insurance issues we've covered, those dealing with medical and health insurance in retirement are the most important. Be sure and give these issues careful attention as you plan for retirement. And now, The Final Act. Dum dum duuuuuum. 13. Step 13: Step into the Future You're at the end, Fool! This is it, the final step. You're about to receive the Foolish capstone that ensures a comfortable retirement. In preparation for its unveiling, let's review the lessons of the 12 steps before this one: Step 1. Recognize that retirement is more than choosing a date to do so.
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