An Overview Of Retirement Planning Options In United States

Planning for retirement is one of the most significant financial decisions that you will make in your life. It comes to your aid when you need it the most – in the last part of your life. Having a secure plan for that time requires you to be aware of what your options are today. You must know what you are planning, why and how, and to be able to do that successfully, it is time to be aware.... specially when you happen to be in the United States.
An Overview of Retirement Planning Options in United States
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Adequate financial planning for post retirement life is one of the biggest challenges being faced by the ageing societies of developed world. Compared to many other developed countries, the United States has a relatively lower median age of 38 years, but that still necessitates good retirement planning. This is provided in the form of a number of options that the employers, employees and the self-employed can opt for, depending upon their preferences and circumstances.

Why do you Need Retirement Planning

As per recent surveys and estimates, an average individual in his thirties today would need roughly two-third of her existing income to

maintain a reasonable life-style after retirement, that she is used to. This requires advanced planning that should begin as early in life as possible, and must not be delayed for too late. In many cases, where adequate savings are not there, aged persons may be forced to work, making life difficult. Inadequate savings can adversely affect your quality of life and prevent access to sufficient healthcare when it is needed most.

Components of Retirement Planning and the Individual Retirement Account

Certain social security benefits are made available to persons who have achieved the full age of retirement, which is 67 years for people born in 1960 or later. One can opt for receiving social security retirement benefits at the age of 62 years, but that would mean permanent reduction of benefits to 80% of what one would receive at full retirement age. These benefits, though precious for those with no other support, are insufficient for maintaining existing lifestyles in case of most working people. This makes it essential that they opt for additional retirement planning. The best option for this, is to go for an individual retirement account, wherein contributions can be made while you are working, and from where benefits can be received afterwards.

An Overview of Various Retirement Plans

The various retirement plans can be classified as ‘defined contribution’ plan and ‘defined benefit’ plan. The Government employees and some very large and growing corporate entities are probably the only one who get the defined benefit pensions, where the amount of retirement pensions are fixed. For most others, the defined benefit options can prove to be too complex, costly, difficult to administer and most importantly, risky.

So, the obvious choice in most cases, are the defined contribution plans, wherein the employee makes a contribution from her compensation, with or without a matching contribution by the employer. Depending upon the rules governing these contributions in the Internal Revenue Code, these contributions are entitled to certain tax benefits for the employee as well as the employer. These contributions are invested in different assets, and separate accounts are maintained of different beneficiaries, known as ‘individual retirement account’ or IRA. One of the biggest advantage of these plans that are ‘qualified’ for tax benefit is that the earnings on the contribution are exempt from taxation. However, there are age limits, before which proceeds can be taken out only with tax and penalty.

Several variants of these plans are available and can be opted for by the people.

The Most Common Retirement Plans

The most commons plans are the Traditional IRA, Roth IRA and the 401(k) Plans. Then there are several variations of these as well as certain more specific plans.

The traditional IRA is probably the simplest of the retirement options, in which any person can enrol, and the process can be completed with online brokerages in a relatively simple manner. These provide a good baseline retirement planning, with some tax benefits. The maximum limit up to which a contribution would be tax exempt in this plan

is $5,500 for the year 2017, though an additional $1000 can be contributed by those over 50 years as ‘catch-up’ contribution. These plans can also be combined with other plans, in which case, the upper limit for tax deduction may get reduced. These limits keep changing from year to year.

In case of a Roth IRA, the contribution is made from after-tax compensation, but the earning on the investment are free from tax, and can be taken out without any tax consequences after the retirement age of 59 and a half years.

Both the traditional IRA as well as the Roth IRA do not necessitate an employer contribution or participation, but both can also be administered by the employer as part of its retirement planning for the employees. Certain variations are also available.

The 401(k) plan is an employer administered retirement plan, which allows significant tax benefits on the employee contributions, as well as the employer contributions. Contributions made by the employees can get tax benefits up to $18,000 for 2017, with an additional ‘catch-up’ contribution of $6000 permitted for those over 50 years. The employer contribution can be made and the upper limit for total contribution is $ 54,000, plus the catch-up of $6000 for over 50. The employer contribution cannot exceed 25% of compensation, for which the maximum amount is $270,000.

The More Specific Plans

In addition to the more common plans, several specific retirement plans are also available, which enable those with special references to choose in accordance with their preferences and priorities. Examples of these specified plans include the 457 Plan, which are tax advantaged retirement plans for governmental and certain non-governmental employers, wherein the compensation is deferred on a pre-tax basis. They are similar to 401 (k), but there is no penalty of 10% for withdrawal before 59 1/2 years. Another specified plan is the 403 (b) Plan, which is a tax advantaged plans available for educational and certain non profit institutes.

How to Choose a Retirement Plan

Generally, the primary consideration, while choosing a retirement plan on the part of the employer, are the obligations imposed on it, including the obligation to make a matching contribution to the employee contributions, and the administrative costs of the plan. The most common plans are the 401(k) plans, which offer the maximum tax benefit to both the employees and the employers, and hence are preferred. In case of smaller employers, especially small businesses or self employed, more options that enable simpler administration and reduce annual return filing obligations are also available.

For the employees, in many plans, the employee contribution is flexible, and the employees get an option to make contributions. In such cases, the employer contribution could either be fixed in respect of compensation, or may be a matching contribution. In some cases, special plans like ‘profit sharing’ plans may be preferred by highly compensated employees. Other specified plans that may sometimes be preferred, include the ‘solo 401(k) plan’, which can be opted by a self-employed without any employee.

The choice for a particular plan need to be made after understanding your preferences and the pros and cons of different planning options.

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