This lesson was made possible thanks to Pacific Life Insurance Company
What can you do to make sure you are prepared when you are ready to retire? Here are some programs to take advantage of that will help you save for that day.
What are the different sources of retirement income and how can you maximize them?
There are also different sources of income that you can rely on when you retire, and each one has its own advantages and disadvantages. The most common types of retirement income sources are defined benefit plans, defined contribution plans, Social Security, and IRAs.
Defined benefit plans
A defined benefit plan is a retirement plan where employees receive a fixed, pre-set benefit when they retire. The company provided retirement benefit payment is determined by your length of service and earnings history. It is not dependent on investment returns or market growth. Defined benefit plans are becoming increasingly rare but are still in place at some companies.
Defined contribution plans
A defined contribution plan is a retirement plan commonly offered by employers today. You contribute a portion of your salary and delay paying taxes on this amount. Your employer may also provide a matching contribution, which is like free money. Your earnings on your contributions grow tax-deferred until withdrawal. You select how to invest the contributions. Some examples of defined contribution plans are 401(k) and 403(b) plans.
Social Security
Social security is a federal program that provides retirement income for almost every American worker, paid for by payroll taxes. Employers deduct money from their employees’ paychecks through payroll deductions, match that dollar amount, and send that money to the government. The tax money is used to pay benefits to people who have earned a Social Security benefit as a retiree or to disabled workers and spouses and children of deceased, disabled, or retired workers.
Individual Retirement Accounts (IRA)
An Individual Retirement Account (or IRA) is a type of retirement account anyone can open in the United States. This allows you to save (and invest) money each year for retirement, with tax advantages (so your money grows faster than regular savings or investing accounts). Funds invested in an IRA can be invested in stocks, bonds, mutual funds, certificates of deposit, real estate, or other investment instruments.
There are two types of IRA accounts:
- a Traditional IRA, where you deduct your contributions from your taxable income when you first deposit it into your IRA, but pay income tax on gains when you withdraw during retirement, or
- a Roth IRA, where you pay the full income tax when you earn the money and make the deposit, but gains on your earnings are tax-free when you withdraw them in retirement.
payments.
401(k) Accounts
A 401(k) account is like an IRA account offered by an employer. With a 401(k) account, your employer will usually “match” your deposits each year (up to a certain percentage of your salary), so it can grow much faster than an IRA you have on your own.
Like IRA accounts, 401(k) have both Traditional and Roth versions, depending on if you want to pay income tax before you make deposits (and tax-free withdrawals in retirement), or deduct your contributions from your taxable income now (but pay tax on your gains when you retire).
Become a Millionaire Slowly
Saving for retirement is one of the most important financial goals you can have. The sooner you start, the sooner compound interest can start working for you. Regardless of what kind of retirement accounts you choose, pay yourself first by making contributions every year, and work your way up to maxing out the contribution limits, and you’ll be on your way be retiring as a millionaire!