Introduction to Retirement Planning

Retirement planning involves creating a strategy and specific steps in order to accomplish goals regarding retirement income. In general, the retirement planning process involves an assessment of current income sources, the creation of a savings plan, taking into account all retirement expenses, and anticipating that unplanned expenses due to unforeseen events will be incurred during retirement.

Retirement planning should start as soon as possible, ideally, at the same time a person starts working. But it is never too late to start. Retirement plans will have to be adjusted as the future retiree goes through different life phases. The three life phases of retirement planning are young adulthood, early midlife, and late mid-life. The approach to the retirement plan is different for these three life stages.

Young adulthood is from 21 years old to 35 years old. Young adults are starting their careers and are looking at a long investment time horizon. The recommended retirement planning strategy during this time is to invest in 401(k) plans and to start an IRA or Roth IRA.

Early midlife is from 36 years old to 50 years old. People in this life stage usually have established careers and higher earning power. Aside from maximizing existing 401(K) and IRA contributions, those in this life stage should acquire both life and disability insurance.

The late midlife stage is from 51 years old to 67 years old. At this stage earning potential peaks and debt would most likely be paid off. It is recommended to be conservative with investments and to take advantage of the higher allowable contributions to both 401(k)s and IRAs. It is also advised to get long-term care insurance.

In order to reach retirement goals there are several investment options, including 401(k) plans, 403(b) plans, IRA plans, pensions, annuities, and social security.

401(k) plans are qualified profit sharing plans that accept a part of paid wages. At the same time, employers may also contribute to the plan. Funds that go into 401(k) plans are protected from taxes until they are withdrawn.

A 403(b) plan is similar to a 401(k) plan and is available from nonprofit organizations and school districts.

IRA plans may be IRA or Roth IRA. IRA stands for individual retirement account. Just like 401(k) plans, contributions to IRA plans are protected from taxes. Contributions to an IRA plan will be taxed upon withdrawal. Contributions to a Roth IRA plan will not be taxed, even upon withdrawal, because they are usually made with after-tax money.

A pension fund is a pool of money that an employer contributes to and is invested on behalf of the employee in preparation for eventual retirement.

Annuities are financial products that individuals can take advantage of in order to provide themselves with a steady stream of income upon retirement.

Social security is a government-administered financial insurance program wherein regular employee contributions translate to monthly benefits during retirement.

An effective retirement plan takes into account life stages and takes advantage of investment tools in order to meet retirement goals. The process evolves over time and every plan is different, but they should be governed by the same key principles. These include the impact of the retirement time horizon to the choice of retirement investment vehicles, along with the importance of an accurate assessment of retirement expenditures.

It is important to understand and accept the time horizon of the plan and to reflect that in the retirement planning investment choices one makes. If a person starts at a young age with a retirement plan, then the time horizon is quite long and riskier investments can be accommodated. The opposite is true the closer a person approaches the late midlife years.

The last step is to accurately determine the expenditures during the retirement years. It must be taken into account that medical expenses become greater during later life stages. The target retirement income is usually expressed as a percentage of current earnings. The percentage estimated is usually 70 percent to 80 percent of current earning power. Some experts believe that 100 percent of earning power is a better target. Inflation, which erodes purchasing power over time, must also be taken into account when identifying a target retirement income.