There are several strategies to consider when you retire. You may want to maximize your after tax income in retirement, you may want to minimize the taxes you pay in retirement, or you may want to draw certain pools of money first in order to preserve others. Each of these strategies have their merits, and it will depend on your particular situation to determine what would be “best” for you.
So which bucket of money should you use first? That depends (it always does!) While today’s workers have 401k plans and personal investments as retirement plans, more than 50% of the boomer generation have traditional pensions that were provided as part of their employee benefits that will provide some of their income in retirement. For the most part, this is all taxable income, and it will make a larger percentage of your social security benefits taxable as well.
When you have a pension and need income
Given you need income during retirement and you have some amount of taxable pension income, the first strategy that may work is to take your pension as early as possible so that you receive full benefits, and tap other funds such that you can delay taking social security. In order to keep your taxable income in the lower brackets, you should of course take any required distributions, and any taxable distribution from retirement accounts to the limit of the tax bracket. After this point, taking tax free distributions such as Roth IRAs and insurance annuities.
The idea is to delay taking social security so that you make the 7% a year on this money, which when you start collecting at age 70 will have a cost of living adjustment (COLA) built in. This is the best strategy to use if your nest egg is smaller. This will feel very uncomfortable using your lump sum, but the assumption is you are looking primarily for month-to-month income and the earnings plus a draw down in your retirement only accounts is insufficient.
So at the end of the day you’ve “invested” your lump sum retirement savings in order to get some guaranteed return from the government.
When you have only retirement savings and need income
Producing income can be done in a couple of ways. You could actually use your savings to buy an annuity product that would provide income. Coupled with social security this could be all you need. Other options include a variety of income-producing bonds, real estate, dividend stocks if you want more risk, or other alternatives such as person-to-person lending or private business investment.
When you have a pension that covers your expenses
If you’re in this category, you’re basically set. If you have an income stream that covers your expenses, that really is the definition of wealthy. Anything extra either from additional income or simply use of your lump sum can lead to a very enjoyable retirement.
Readers, what are your strategies for a happy and sound retirement?