3 Financial Lessons For Pre-retirees

Do you feel like you know enough about money to get by? A newly released survey by the TIAA Institute shows that people of all ages and experience levels could answer only 50% of financial literacy questions correctly.1 Your level of knowledge in the financial world can have ripple effects, especially when preparing for retirement.

As financial professionals, we advise clients from a wide range of financial levels. Here are critical tips that pre-retirees needed to help improve their financial literacy and better plan for their golden years.

Plan ahead to maintain your standard of living

As you begin to consider retirement, take a thorough review of your monthly expense needs. When many people retire, they want to maintain the same standard of living or even increase it. This is why retirees need a plan.

A retirement plan is a written income plan that includes income and tax planning, Social Security strategies, and long-term care and estate plans. Start saving early to help ensure you have enough money in your accounts to sustain your lifestyle in retirement.  The U.S. Department of Labor reports if you save $6,000 each year and earn a 7% return on your investment, you will have $150,774 after just 15 years. If you add an additional 10 years of savings, that number jumps up to $379,494, proving why starting early can set you up for success.2

You should also plan for shifts in the market and inflation to help avoid getting caught off guard. For years, many financial advisors suggested retirees add a 3% annual inflation rate to their plan, but it might not be a bad idea to raise that rate.

Paying income taxes

One of the most common mistakes that some people make is assuming they will be in a lower tax bracket in retirement, but some retirees find themselves in a higher tax bracket. Distributions from retirement accounts like traditional IRAs or 401(k)s are considered taxable income. Depending on how much you plan to withdraw, you could be bumped into a higher bracket.

There are tax strategies that will help minimize taxes in retirement. One way is to consider a Roth conversion. This method will shift money from a traditional retirement to a Roth IRA, which allows your money to grow tax-free. The one drawback is that you will need to pay taxes on that money at the time of the conversion.

Paying taxes on Social Security

Social Security is a steady source of income for many retirees in their golden years. These benefits can replace 40% of pre-retirement income on average for retirees who qualify – but many people don’t realize that those benefits are subject to income taxes.3

If you are planning to work in retirement or your income is above certain income thresholds, some Social Security beneficiaries could pay federal taxes on up to 50% or 85% of their benefits.4 Some states also take additional state taxes out of your benefits.

You can try to avoid larger taxation on your benefits by keeping your income under the tax thresholds the IRS lays out. An effective way to do this is by using a Roth IRA or Roth 401(k). This retirement account isn’t subject to taxes because the funds were taxed when you contributed. As long as you wait until you are 59 ½ years old, these payments won’t affect your taxable income.

Education is key to preparing for life outside of the workforce and reaching your retirement goals. Don’t be afraid to ask your financial advisor questions or even get a second opinion. This is your retirement plan, and you should feel like you have every resource available to make informed decisions.

  1. https://public-www-at.tiaainstitute.org/publication/2022-tiaa-institute-gflec-personal-finance-index
  2. https://www.dol.gov/sites/dolgov/files/ebsa/about-ebsa/our-activities/resource-center/publications/top-10-ways-to-prepare-for-retirement.pdf
  3. https://www.dol.gov/sites/dolgov/files/ebsa/about-ebsa/our-activities/resource-center/publications/top-10-ways-to-prepare-for-retirement.pdf
  4. https://www.ssa.gov/benefits/retirement/planner/taxes.html

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