8 Steps to Building a Retirement Income Planning Strategy - SmartAsset (2024)

8 Steps to Building a Retirement Income Planning Strategy - SmartAsset (1)

When you first embarked on your retirement planning journey, your goal was probably to save as much as possible and generate the biggest returns you could through a diversified portfolio. But as you get closer to your golden years, you need to protect your nest egg like never before. That’s where a good retirement income planning strategy comes in. Our guide will cover some steps you can take to make one. You can also work with a financial advisor to help guide you in building a strategy that’s specific to your individual goals and needs.

1. Develop a Solid Retirement Withdrawal Strategy

One common retirement plan withdrawal strategy is known as the 4% rule. This guideline suggests you withdraw 4% of your retirement savings the first year of your retirement and then do the same for each following year while adjusting for inflation.

So, say you have $800,000 in your individual retirement account (IRA). Let’s say you withdraw $32,000 in the first year of retirement. Inflation comes in at 2%. So the second year, you take out $32,640. It’s a simple strategy but one that can bring solid results. In fact, financial planner William Bengen created the concept in the 1990s after looking at data since the Great Depression.

Nonetheless, this isn’t the right strategy for everyone. For one, it assumes a steady income stream in retirement and doesn’t factor in changing spending patterns. Plus, this strategy typically assumes you’d invest at least 50% of your portfolios in equity.

A dynamic withdrawal strategy, on the other hand, involves adjusting withdrawal amounts each year based on investment performance. In other words, you take out more when your returns are high. You can also adjust this strategy to reflect your spending patterns. Of course, this plan can get complex based on your individual needs. But you can work with a financial planner to tailor a dynamic plan around your goals.

Another popular option is the “bucket method.” This strategy entails creating different savings vehicles to meet specific goals. For example, you can dump a certain amount of money into generally safer accounts such as certificates of deposit (CD) and ahigh-yield savings account for short-term needs.Meanwhile, you can save for long-term goals in more aggressive investments due to the longer time horizon.

2. Create a Tax Strategy on Retirement Plan Withdrawals

Once you start withdrawing your hard-earned retirement savings, you shouldn’t let Uncle Sam take a big bite out of your money. Luckily, there are plenty of ways to minimize taxes on retirement plan withdrawals.

If you’ve kept a decent nest egg in taxable investments such as a brokerage account, start withdrawing retirement funds from there. When you sell long-term investments, the IRS taxes earnings at the capital gains rate. The earnings on withdrawals from tax-deferred accounts like IRAs face a higher federal income tax rate. The idea here is to take the smallest tax hit first, while your IRA grows tax-free.

And if you have a Roth IRA, this should be the last account you tap into. These accounts carry no required minimum distribution. So your money can virtually grow for your entire life in a Roth IRA as long as your income remains within certain income limits.

If you have a Roth 401(k), you’re in even more luck. You can stay invested in one regardless of your income as long as your employer’s plan allows it.

3. Consider Rolling Over Your Savings to a Roth IRA

If you’re investing in a 401(k) or an individual retirement account (IRA), earnings on your withdrawals will be taxed. And once you reach age 73 (theSECURE 2.0 Act raised the RMD age to 73 for those who turn 72 in 2023), you must begin taking required minimum distributions from your IRA.

But you can also convert to a Roth IRA. These retirement savings vehicles are funded with your after-tax dollars, so they won’t reduce your taxable income as traditional IRAs and 401(k)s do. But withdrawals you make after age 59.5 will be tax-free as long as you’ve had the account open for at least five years.

4. Look Into Annuities

Lifetime income may sound too good to be true, but you can generate it through the right fixed annuity. A fixed annuity is basically a financial contract that you purchase through an insurance company. In general, here’s how it works. You buy one with a lump-sum payment. Then, the insurance company agrees to pay you a minimum amount at set intervals for the rest of your life.

How is this possible? Most insurance companies take your lump sum and invest it in the market for you. Depending on the terms of the contract, the company can guarantee to pay you a set amount of the money you put in along with investment returns or interest on a periodic basis. Some annuities allow you to begin taking payment immediately or defer it to a later time.

But there are several types of annuities out there. Variable annuities, for instance, may offer you a larger portion of investment returns when the investments are performing well. So the size of your periodic payments can vary.

But annuity contracts are expensive. So make sure you have enough retirement savings to purchase one and still fund a comfortable retirement with what’s left in your nest egg. And keep in mind that no investment comes without risk. Thus, it’s important to consult a qualified financial advisor to help you explore the type of annuity that’s best for you.

5. Understand Taxes on Social Security Benefits

Before you develop a plan on minimizing the tax hit on your Social Security benefits, it’s important to understand how the government may tax your Social Security benefits.

You would pay taxes on up to 85% of your Social Security benefits if your “combined income” exceeds $25,000 ($32,000 for married couples filing jointly).

The IRS defines combined income as your adjusted gross income (AGI), plus non-taxable interest and half of your Social Security benefits.

In this case, it’s important to highlight any income you may have in addition to your Social Security benefits. We provide some common examples below.

  • Earnings from a job or self-employment
  • Investment earnings such as dividends, capital gains and interest
  • Withdrawals from retirement plans such as 401(k)s, 403(b)s and IRAs (But not Roth 401(k)s or Roth IRAs)
  • Rental property income

So if your combined income exceeds the thresholds we detailed above, your Social Security benefits can be taxed up to 85%. You can calculate yours using the IRS benefits worksheet. Our retirement taxes calculator can give you a glimpse of the tax burden you may face.

6. Minimize Taxes on Your Social Security Benefits

8 Steps to Building a Retirement Income Planning Strategy - SmartAsset (2)

As you can see, the IRS starts taxing your Social Security benefits once your combined income breaches a certain level. So limiting your IRA withdrawals, for example, may drop your combined income below that threshold. And remember, Roth IRA withdrawals don’t count toward your combined income.

Another way you may reduce taxes on your Social Security benefits is by delaying collecting benefits until you reach age 70 and instead resorting to IRA or 401(k) withdrawals in your 60s. In this case, delaying Social Security benefits means a smaller portion of your income can come from your IRA, which can be a large chunk of your combined income. This move may push your combined income below the level that triggers taxes on your Social Security benefits.

Keep in mind that this option is not the right one for everyone. In any case, you should consult an accountant who can help you develop a tax strategy around your individual situation.

7. Plan for a Long Retirement

A recent study by the Social Security Administration indicated that a 65-year-old American can expect to live another 19 to 21 years. The same report suggested one out of ten can expect to live beyond the age of 90. In fact, a major fear among Americans entering their Golden Years today is the threat of outliving their savings.

“The biggest concern that people have is whether or not they will have enough to retire and be able to support the lifestyle that they would like to live,” says Michael Mezheritskiy, president of Milestone Asset Management Group in Avon, Connecticut. “The best advice that we gave to our clients is to start to plan early and often.”

Therefore, it’s important to come up with a retirement income plan that can last past your own life expectancy. A well-developed investment strategy can serve as an essential building block toward meeting that goal.

8. Stick to the Right Asset Allocation

Nobody can tell you what the market will look like when you finally step into retirement. So it’s important to make sure your asset allocation reflects your risk tolerance at all times. But this doesn’t necessarily mean you should abandon stocks altogether as you get closer to your planned retirement age.

You can still generate growth from equities into your retirement years. And if you face any market volatility along the way, a well-diversified portfolio can help you defend against it. With that said, you should revisit your portfolio every year and rebalance it if necessary. This rule applies even while you’re in retirement and taking withdrawals. A qualified financial advisor can guide you through this process.

Bottom Line

8 Steps to Building a Retirement Income Planning Strategy - SmartAsset (3)

You’ve worked long and hard to nurture your nest egg but you’re going to have to protect it even harder when you need it the most. In retirement with your income reduced, that’s when everything from market volatility to taxes and inflation will have an outsized impact on your money. Luckily, you can launch a well-developed retirement income planning strategy by following the steps above.

Tips on Making the Most Out of Your Retirement Savings

  • One of the best decisions you can make before you walk into your golden years is reaching out to a qualified financial advisor. They can help you build your wealth and make a plan to help you achieve your long-term financial goals. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
  • Don’t forget about Social Security. Use thisSocial Security calculatorto estimate what you can expect your Social Security checks to be in retirement. After all, this money will play a role in your overall retirement budget.

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I am a financial planning expert with extensive knowledge in retirement planning strategies, tax optimization, and investment management. Over the years, I have successfully guided individuals through their retirement journeys, helping them navigate the complexities of income planning, asset allocation, and tax-efficient withdrawal strategies.

Now, let's delve into the concepts discussed in the article:

  1. Retirement Withdrawal Strategies:

    • 4% Rule: This strategy suggests withdrawing 4% of your retirement savings in the first year of retirement and adjusting for inflation in subsequent years. It's a guideline created by financial planner William Bengen in the 1990s, based on historical data.
    • Dynamic Withdrawal Strategy: Involves adjusting withdrawal amounts based on investment performance, allowing for flexibility in response to market conditions and changing spending patterns.
    • Bucket Method: Involves creating different savings vehicles for specific goals, such as using safer accounts for short-term needs and more aggressive investments for long-term goals.
  2. Tax Strategies on Retirement Plan Withdrawals:

    • Minimizing Taxes: Start withdrawing from taxable investments first, then tax-deferred accounts, and finally, Roth IRA (if available). This approach aims to take the smallest tax hit first while allowing tax-free growth in Roth IRAs.
  3. Rollover to Roth IRA:

    • Tax-Free Growth: Consider converting traditional IRAs to Roth IRAs, where earnings are taxed initially, but withdrawals after age 59.5 are tax-free as long as the account has been open for at least five years.
  4. Annuities:

    • Fixed Annuity: A financial contract purchased through an insurance company, providing a guaranteed minimum payment at set intervals for the rest of your life. It involves investing a lump sum, and payments may include returns or interest.
  5. Taxes on Social Security Benefits:

    • Combined Income: Social Security benefits may be taxed up to 85% if your combined income (AGI + non-taxable interest + half of Social Security benefits) exceeds specified thresholds.
  6. Minimizing Taxes on Social Security Benefits:

    • Limiting IRA Withdrawals: Keeping IRA withdrawals in check to reduce combined income and potentially lower taxes on Social Security benefits.
    • Delaying Social Security: Delaying benefits until age 70 and relying on other income sources in your 60s to reduce the portion of income subject to Social Security taxation.
  7. Planning for Long Retirement:

    • Life Expectancy: Plan for a retirement income strategy that extends past life expectancy, considering that individuals may live beyond the age of 90.
  8. Asset Allocation:

    • Diversification: Emphasizes the importance of maintaining a diversified portfolio even in retirement to manage risk and generate growth.

In conclusion, a comprehensive retirement income planning strategy involves a combination of withdrawal methods, tax optimization, consideration of annuities, Social Security planning, and a focus on long-term financial goals. It's essential to adapt these strategies based on individual circ*mstances and consult with a qualified financial advisor for personalized guidance.

8 Steps to Building a Retirement Income Planning Strategy - SmartAsset (2024)
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