7 Best Retirement Plan Options
Updated for January, 2022
According to the Social Security Administration, 9 out of 10 people over age 65 receive Social Security. On average, Social Security counts for about 39% of total income during retirement. Social Security can’t cover all your financial needs during your retirement years. Having a solid retirement plan that will give you a financially secure retirement is based on having a bundle of various income sources best suited to meet your goals. With so many options, how do you select the right types of retirement plans?
Having a solid retirement plan that will give you a financially secure retirement is based on having a bundle of various income sources best suited to meet your goals.
The 7 Best Retirement Plans Options to consider:
Having a pension is the first thing most people think of they think of retirement income. Many people have earned a pension at some point during their working careers. It requires very little involvement because the employer contributes the money on behalf of the employee. You work, and when you retire, you collect your pension. These days pensions are less popular and less generous. They are, however, still quite common for government jobs. The most prominent downside is that there are no cost-of-living adjustments so your pension payment will always be the same year after year during your retirement.
2. Defined Contribution Plans
Defined contribution plans are now offered by most employers. There are four primary defined contribution plans, 401k, 403b, 457 and TSP. If you decide to participate in a defined contribution plan, you pick plan options that best suit you and decide how much to contribute. Many employers that have defined contribution plans offer matched contributions as well. For a certain portion that you contribute, your employer will contribute as well (depends on the employer).
- Mostly for private-sector employers
- Contributions are tax-deductible
- Investment income accumulates on the tax-deferred basis
- You can begin receiving plan payments at age 59 ½ but keep in mind a 10% penalty applies when withdrawals are taken before full retirement age.
- At age 70 ½, you must start taking a required minimum distribution (known as RMD)
- More generous contributions than IRAs (up to $18,000 per year or $24,000 per year if aged 50 or older).
- Total contributions from both employee and employer can reach up to $54,000, or $60,000 if you are 50 or older (2017).
- Up to five years of employment are often required for employer matching contributions to be fully vested (owned by you).
- Investment options are usually limited investment options, such as a few mutual funds and perhaps employer company stock.
- Some 401k plans may also make withdrawals available, for hardship events such as disability or medical expenses.
- Many are now offering Roth 401k portions, working like a Roth IRA but with higher contribution limits. Distributions from the Roth 401k will be tax-free while the regular 401k distributions are subject to ordinary income tax.
- Contributions to your Roth 401k can be matched by your employer except that the matching funds will be held in your regular 401k, not in the Roth 401k.
- Roth 401k contributions can be done if your income exceeds limits for a Roth IRA.
- 403b plans are like 401k plans for tax-exempt organizations (public schools, hospitals, churches).
- Work the same as 401k plans, (tax treatment, contribution amounts, employer matching contributions, distributions, and possible loan and hardship withdrawal provisions).
- Offer a Roth 403b provision with same conditions as a Roth 401k.
- 403b plans have a catch-up provision for employees (if employed 15 years or more) to make extra contributions over five years (limits apply but if aged 50 you can make higher contributions).
- 457 plans are the version of 401k and 403b plans offered by state and local governments and some tax-exempt organizations
- Work the same as 401k and 403b plans, (tax treatment, contribution amounts, employer matching contributions, distributions, and possible loan and hardship withdrawal provisions).
- Offers a Roth option as well (same terms and conditions as with the other plans).
3. Individual Retirement Accounts (IRAs)
This type of individual retirement account (IRA) is funded with your taxed dollars so you can enjoy tax-free growth and withdrawals. It’s typically recommended as an additional retirement plan to one of the defined contribution plans (401k, 403b, 457 or TSP) to balance the pre-tax and after-tax benefits. Some of the main features of a Roth IRA plan include:
- Ability to contribute to a Roth IRA even after retirement
- Offers tax-deferred investment income accumulation
- Unlimited investment options
- Allows self-directed investing
- Income restrictions apply in terms of how much you can contribute yearly
- Tax-free income if you are over 59 ½ and have had a Roth for a minimum of five years
- Contributions to a Roth are tax-deductible
- Roth IRAs do not require minimum distributions, which is an advantage, as you can keep your Roth IRA as a backup source of retirement income
Traditional IRAs are similar to Roth IRAs regarding annual contribution limits but without any income restrictions (anyone can contribute). Traditional IRAs are a better plan option for those who are closer to retirement, as it gives both tax deductions and tax deferral. Keep in mind, when the time comes for making withdrawals during retirement, you will pay tax on your contributions, but not on capital gains. Here are some more features:
- An IRA is easy to manage and set-up and open to anyone with earned income.
- Almost all retirement plans can be rolled over into an IRA.
- When held in a large investment brokerage account it can be invested in nearly every asset class available including individual stocks, bonds and other fixed-income instruments, funds, options, commodities and real estate investment.
- Making withdrawals before turning 59 ½, will subject you to a 10% early withdrawal penalty.
As the name implies, a Spousal IRA provides that option of a non-earning spouse to set up an IRA. The eligibility is based on the earning spouse contributing into their own IRA before they contribute to the spouse IRA. The advantage of this plan is that the couple can maximize tax-deductible retirement contributions and boost retirement savings. As well you must file taxes jointly. A spousal IRA is similar to a traditional IRA in that it is subject to the same provisions and limitations. Also, an unemployed spouse can set up a spousal Roth IRA, which has the same requirements and limitations of a Roth IRA.
SEP IRAs (Self-Employed IRAs)
Simplified Employee Pension, known as a SEP IRA is the most common retirement savings plan for self-employed individuals and small business owners. Known as the easiest, low-cost plan with a large contribution limit, it allows for tax shelter and tax-deferred growth. It’s also very flexible as you can determine how much you wish to contribute or even skip a year if you can’t contribute.
For those with higher incomes who have other retirement plans but have reached their contribution limits, the Nonqualified Deferred Contribution Plan is an option.
4. Nonqualified Deferred Contribution Plans
The Nonqualified Deferred Contribution Plan (NQDC) is similarly structured like a Roth but allows greater contribution amounts. For those with higher incomes who have other retirement plans but have reached their contribution limits, the NQDC is an option. Deferring a portion of your income for a later time is appealing as it will grow tax-deferred and will be tax-free in the year you become entitled to it. With an NQDC you have no income restrictions or contribution limits. Another appealing feature is the vast investment options available with an NQDC.
5. Guaranteed Income Annuities
A Guaranteed Income Annuity provides a guaranteed income when you retire. Essentially with this plan, you buy you a fixed monthly payment for your retirement. You can take the income payments as frequently as monthly or quarterly or receive annual payments. It is an investment which you should consider carefully and it’s recommended that you use highly rated companies with a long establishment. Single-Premium Immediate Annuity allows you to invest and take immediate income payments. The deferred-income annuity (DIA) with a cash-refund option is more flexible because you can decide when to start the income payments. Also, the cash-refund option lets you take out the money back.
Buying a cash value insurance plan allows you take a loan against your death benefit which can serve as income during your retirement.
6. Cash-Value Life Insurance Plan
Many financial advisors highly recommend investing in Cash Value Life Insurance plans because of the ability to accumulate value in a tax-free vehicle. Buying a cash value insurance plan allows you take a loan against your death benefit which can serve as income during your retirement. For example, a $500,000-dollar policy could provide you with a loan of $250,000 and can be paid out as a lump sum or in several withdrawals. The loan is repaid from your death benefits, leaving your beneficiary with the remaining $250,000. The loan is tax-free and can serve as an excellent retirement income for an unemployed spouse as well as providing life-insurance coverage.
7. Real Estate
For those who don’t mind managing and the work involved with real-estate investments, it can provide a substantial income flow. This holds especially true for those who haven’t saved much and are fast approaching retirement. Keep in mind, if you have mortgage-debt the property income should cover all your costs including mortgage payments, tax, and property maintenance. A financial advisor such as a Registered Investment Adviser (RIA) with experience investing in real estate can provide valuable guidance should you choose to invest in real estate. They can help you balance the risk with a property that can give you the highest revenue gains.
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