If you want peace of mind when you retire, you need to have a plan that will generate sustainable income streams that will cover a large portion of your fixed and discretionary expenses. Income tax planning is critical since your income needs to be calculated net of income tax to determine the amount that will be available for spending.
A sustainable income stream is simply a regular series of payments that, once it begins, will continue for the rest of your life. An ideal sustainable income stream is one that's calculated using life expectancy and has a flexible start date. The longer you wait to turn on your income, the greater the periodic payment.
Social Security is a great example of a sustainable income stream that meets these criteria. Although you can begin collecting as early as age 62, you can also delay your start date to as late as age 70. The longer you wait, the greater your monthly payment. Assuming a full retirement age of 67, your benefit will be 80% greater if you delay your start date from 62 to age 70, excluding cost of living adjustments.
While Social Security is an important cornerstone of most retirement income plans, it generally needs to be supplemented by other sources of sustainable income. Even if you qualify for the maximum monthly benefit of $2,663 assuming you reach full retirement age in 2015, your annual benefits of approximately $32,000 may be reduced to as little as $21,000 after income tax, depending on your other income and income tax bracket.
Fortunately, there's another source of sustainable income beside Social Security that's calculated using life expectancy and also features a flexible start date. It's offered by life insurance companies and is called a fixed index annuity (FIA) with an income rider.
Unlike the start date of Social Security which is limited to a window of eight years (age 62 to 70), a FIA income rider start date is open-ended. Generally speaking, the only requirement is that you must be at least age 50 when you begin receiving income. Assuming you meet this condition, you can start your lifetime income stream at any age you choose.
Similar to Social Security, the longer you defer your start date, the greater your lifetime income payments will be. Other factors that will influence your income payment are the age at which you purchase your FIA, your original investment amount, additional investments if permitted, premium bonus when applicable, and non-income withdrawals. The calculation of your payment amount is defined by the income rider provision of your FIA's contract.
Since the calculation of your payment amount is contractually defined, you can determine the amount of initial and ongoing investments required to provide you with a target amount of income beginning at one or more specified ages of your choice before you purchase a FIA. Furthermore, if you need different amounts of income beginning at different ages, you may want to consider investing in two or more FIAs with income riders.
In addition to meeting the criteria of an ideal sustainable income stream, i.e., one that's calculated using life expectancy and has a flexible start date, a FIA with an income rider offers another benefit that can be important where there are potential beneficiaries. Unlike other types of fixed income annuities, i.e., immediate and deferred income annuities, a FIA has an accumulation, or cash, value.
The accumulation value increases by purchases and premium bonuses and decreases by income and non-income withdrawals and income rider and surrender charges. Any accumulation value remaining at the death of the contract owner(s) will be paid as a death benefit to the beneficiaries.
As stated at the beginning of this post, income tax planning is a critical part of the retirement income planning process since your income needs to be calculated net of income tax to determine the amount that will be available for spending. All income payments from FIAs with income riders are taxable as ordinary income. This is true whether they're held in traditional IRAs and other types of retirement plans or as nonqualified, i.e., nonretirement, investments.
If you're looking for a pension with a flexible start date to increase the amount of your fixed and discretionary expenses that are covered by sustainable income throughout your retirement, one or more FIAs with an income rider may meet your needs.