Life Cycle Guide to Retirement Planning

George F. McClure

Career & Workforce Policy Committeeg.mcclure@ieee.org

The Three-Legged Stool

Three elements to retirement security:– Employer retirement plan– Social Security– Personal Savings

Only 58% in medium, large employer plans Less than 20% in defined benefit plans 63% have retirement savings (in 2001), but

– Mean value of all accounts $95,943– Median value of all accounts $27,000

Phases in Retirement Planning

The Graduate – Getting started– Paying debts– Going for the match

Family Responsibilities Children to Educate Goal in Sight Managing Millions

You Need a Plan!

List assets & liabilities Use Web-based retirement calculators Pick your own economic forecast:

– Rate of return?– Rate of inflation?

What retirement income will you need? Answer: Savings rate to use

Retirement Planning Calculators

Smart Money.com - http://www.smartmoney.com/retirement/

Vanguard.com – Vanguard Retirement Center http://www3.troweprice.com/ric/RIC/eprim_TutorialRight.html for

fee, close to retirement Fidelity.com – detailed analysis for customers Others: Bloomberg, CNN.Money,

www.planningtips.com/cgi-bin/retire.pl

The Graduate?

Not “Plastics” – now “401(k) and matching” The secret: Tax-deferred savings and compounding Save as much as you can as early as you can With maximum $15,000 annual 401(k) contribution:

– At 8%: $217K from 10 years’ pay-in; $2,187K after 30 more– Full 40 years at $15K pay-in, 8% yields $3,886K– At 10%: $239K from 10 years pay-in; $4,171K after 30 more– Full 40 years at $15K, 10% yields $6,639K

$3.3 million in 40 years equals $1 million today, at 3%

Internal Revenue Code 401(k)

Available since 1981, now have $2 trillion A defined contribution plan – outcome not

guaranteed; 43 million participate You set the course and speed, steer the ship Try to put in 15% of salary ASAP Anti-discrimination tests limit pre-tax feature Investigate fund choices in your plan – diversify

- don’t be too conservative (CDs won’t do it)

New Trends in 401(k) Plans

More education of employees More choices for investing Daily web updates on asset value Immediate eligibility to contribute Auto. enrollment (but set your own rate) Lifestyle funds – match risk tolerance & time

horizon

2006 401K contribution Limits

401K RELATED LIMITS 401k Elective Deferrals $15,000 Annual Defined Contribution Limit $44,000 Annual Compensation Limit $220,000 Catch-Up Contribution Limit $5,000 Highly Compensated Employees $100,000  Social Security taxable income $94,200

2004 Other Contribution Limits

NON 401K RELATED LIMITS 403(b)/457 Plans Elective Deferrals $15,000 (to 25% of salary) SIMPLE Employee Deferrals $10,000 SIMPLE Catch-Up Deferral $2,500 SEP Minimum Compensation $450 *SEP Annual Compensation Limit $220,000 Social Security Wage Base now $87,900SIMPLE = Savings Incentive Match Plans for Employees

IRAs- Another Opportunity to Save

Individual Retirement Arrangements: save $4K/year ($5K “catch up” if over age 50), BUT

If covered by a retirement plan at work, limited by income level and tax filing status

Traditional IRA pay-in may be tax-deductible, taxable on withdrawal (10% penalty if <59.5)

Roth IRA pay-in not tax-deductible but retirement pay-outs not taxable

Can roll-over 401(k) proceeds from previous employer See IRS Publication 590 for details

Self-Employed? IEEE Benefits

Family dental insurance Professional liability insurance Disability insurance Express delivery discount Discount office supplies Discount computers & software

Benefits for All IEEE Members

Term life and level-premium life insurance Short-term medical insurance Home mortgages, movers, realtors Auto & homeowners insurance Umbrella liability insurance Credit cards (including rewards cards) Out-of-country travel insurance

Borrow from 401(k) Plan?

Don’t! No matching contributions if a loan is out Must pay loan back if leave the firm Can’t pay it back?

– Owe tax due AND 10% penalty

Getting Started

Paying down debts? Go for the 401(k) match to start– Maybe half of your first 6-8% contribution– Found money!

Student loan: almost all interest on repayment after 2001 now tax deductible (IRS Pub 970)

Control use of credit cards Make a budget - try to stick to it Avoid paying for heavy auto depreciation – 3 year old

“pre-owned” off-lease may have rest of maker warranty

Asset Allocation

Need uncorrelated fund choices, such as:– Large capitalization stock fund (S&P 500)– Mid-cap stock fund– Small-cap fund– International stock fund– Fixed income (corp./govt. bond) fund– Self-directed brokerage account may be a choice for

you Watch fund expense ratios (Morningstar)

The Third Leg of the Stool

Set up own tax-deferred savings plan– Get 23.3% more from income tax deferral ($60K salary, single

taxpayer)– No deferral from FICA and Medicare tax

Start early! You’ll get half your nest egg in first decade In 40 years, need $163K to equal $50K today (at 3%

inflation rate); or $240K (at 4%) Will need assets of $2.5M in 40 yrs. to equal today’s

$60K/yr for 25 yrs. at 6%

Social Security Trends

Operates on pay-as-you go basis Current workers pay for retirees Baby boom retirees will stress the system Expect full retirement age to rise from 67 to 70 Proposals to “privatize” part of SS account Payroll tax = 15.3% (you pay half)

– 12.4% SS (FICA), on first $94,200 (for 2006)– 2.9% Medicare tax on all wages (no cap)

Mid-Career Course Correction

Live 20% - 25% below your means Max out on 401(k) ~ 15% (if part after-tax, growth still

tax-deferred) IRA contribution every January 2 (Roth is best – growth

never taxed; inheritable) Tax-deferred variable annuities?? (Watch fees) Build after-tax savings: for education, vacations, kids’

college; avoid high credit costs

Speed Up Paying Off Mortgage?

Pro: Bi-weekly payments– Cut 7 years off 30 year mortgage– Build equity faster for possible loan

Con: Takes one more monthly payment/yr.– May prevent maxing out on 401(k) plan– Mortgage interest still tax-deductible

Refinance first, at record low interest rates Straddle: Make extra principal payments

Changing Jobs?

Whence the old 401(k) assets?– Leave them in old employer’s plan?– Move them to new employer’s plan, when eligible?– Roll over into a IRA?

Depends -investing choices: good or bad?– Rollover: trustee-to-trustee; separate from other

IRAs you may have

Growing After-tax Savings

Tax-efficient mutuals (e.g., index funds) Stocks to buy and hold forever (which?) Income real estate

– Tax return ‘losses’ while building equity– Inflation hedge for retirement income– Tax-free exchanges possible– Part-time business in retirement– Step-up in cost basis at death

Moonlighting?

Any self-employment income on the side?– Qualifies for another retirement plan

Keogh or SEP: 20% of profit up to $44K (2006)

– Your own sideline business? Save up to $10K/yr in SIMPLE + 3% match Can be 100% of the business profit

– More successful sideline? Custom defined benefit plan – Section 415 tests Fund annual benefit over $150K

See IRS Publication 560 (www.irs.gov )

Roth IRA Conversions

Can convert IRA to Roth IRA by paying the tax due (can use separate funds for taxes)

Must have modified AGI <$100K for year No early withdrawal penalty <59-1/2 Further growth of funds forever tax-free; can

pass with estate at death No minimum distributions due during lifetime

Recent: Cash Balance Pension Plan

Credited each year, percent of salary + interest Individual “account” inherently portable Fully vested in 5 years Popular with young workers Insured as defined benefit plan under ERISA Problem in conversion for older workers: CAP benefit

lower than former FAP benefit More information:

http://www.dol.gov/ebsa/faqs/faq_consumer_cashbalanceplans.html

Pension Plan Outlook

Retirees living longer: 21 years now vs. 11.5 years in 1950 – raises plan liabilities

Corporations seeking relief may freeze defined benefit plans – switch to defined contribution plans

Best firms offer both, but no new DB plans Cash balance plan conversions rampant now Some high tech firms offer only stock options

Saving Pension Plans?

Pension Protection Act signed in August 2006 Amends Employment Income Retirement Security Act

of 1974 (ERISA) Major changes: liberalized contributions Opt-out for 401(k) plans, not opt-in Employer match may vest in 3 years vice 5 years Roth 401(k) made permanent Employee education from employer

Paying Off Credit Card Balances

If sizeable balances after graduation:– Consider low-APR cards for fee– www.bankratemonitor.com– Transfer balances from high-APR cards– Pay off credit cards ASAP – and promptly

GAO study: penalties increasing for late payment– 35% pay late fees (two-cycle hazard)– 13% pay over-limit fees

– http://www.gao.gov/cgi-bin/getrpt?GAO-06-929

Senior/Grad Student Loans

Average senior loan debt of $17,140, and Average senior credit card debt of $3,262 $20,402 to pay off* Median credit card debt $2,185 31% of seniors have credit card balances

between $3,000 and $7,000; 9% >$7,000* Nellie Mae, 2001 Graduate school: added $31,700 in loans

Paying Off College Loans

Almost all loan interest on repayment is tax-deductible, depending on MAGI and tax status (see IRS Pub. 970)

Consolidation of your loans okay, but beware of combining with your spouse’s loans

– Each could be liable for the other’s loan if you split Typical: $125/month per $10,000; can revise payment

plans annually Obligation not eliminated in bankruptcy For details, see “Student Loans” at

http://www.nolo.com/lawcenter/ency/index.cfm

Afford to Retire?

Totaling assets, note future value of a $30K pension over 20 years can be $840K @ 7%; a $1.2K/month Soc. Sec. benefit is worth over $200K – more with the COLA

Soc. Sec. for spouse stepped up on death of primary earner

Consider smaller house; could clear $500K tax-free on sale

Keep Working?

You may not want to stop everything; part-time work is stimulating; income could be welcome

30% of retiree-age keep working for pay, at least part-time

70% of pre-retirees say they would like to (EBRI survey)

70% of pre-retirement income not enough for some – 100% more like it

Future not likely to continue present low inflation

Retiree Concerns

Social Security earnings penalty at 65 repealed Cannot contribute to IRAs past age 70-1/2 No age limit to contribute to Roth IRAs with

earned income Mandatory distributions from IRAs start at 70-

1/2 (could be 75 in future)

X, Y Gen., Echo Boomer Concerns

Government entitlement program cutbacks Employer reductions

– Retirement benefits– Health care benefits

Greater self-reliance required

Summary

Start retirement savings early – time is now on your side Save >20% from salary to pay off debts, fund retirement

plans, make down payments for house and cars, and for a rainy-day cushion

Always get the employer’s fund match Read The Millionaire Next Door, Stanley & Danko, Stocks

for the Long Run, Jeremy J. Siegel, and

Ten Tax-Favored Ways to Save for Retirement at http://www.ieeeusa.org/careers/Guidelines/available.html

You have the tools – good luck!

Comparative Purchasing Power

2003 Retirement Confidence Survey

       Three in ten have not saved for retirement       One-third not confident about enough money for retirement       Fewer that 40% have calculated how much money they will need to save by the time they retire       Life expectancies at age 65:o     Women, 19.2 years, on averageo       Men, 16.3 years, on average

Expected Longevity - YearsAge Male Female Joint & Survivor

65 15.0 18.2 22.070 12.1 15.0 18.380 7.5 9.6 11.990 5.2 5.7 7.0

100 2.1 3.1 3.3Source: IRS Publication 939 - Pensions and AnnuitiesNote: U.S. Public Health Service shows higher spans

Lifestyle Effect on Longevity

Long form: www.livingto100.com– Answer questions about family, health, nutrition,

exercise, etc., for estimate and 15-page report on improving the number

Short form: when and where were you born?

http://home.worldonline.dk/eskemj

- Gives a time for your demise, to the second