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Sunday, February 8, 2004
 
In retirement

Keeping nest eggs sunny side up

By Cynthia Flash
Special to The Seattle Times

Now that you're retired and sitting on a nest egg, what do you do to make sure the money you have accumulated will last longer than you do?

That's the question many retirees face. Do they take their pension in a lump sum or in monthly payouts? Do they withdraw money from their tax-deferred Individual Retirement Account or Roth IRA? Do they put money into an annuity, buy real estate or invest in a speculative stock?

While the answers are complicated and depend on individual circumstances, some common rules apply. Most important, for all but the very wealthy, simply lounging on the beach or playing golf all day isn't the answer; retirees must continue to manage their money.

"You're going to need to be an investor, potentially, for the rest of your life," said Mark Janci, a financial planner in Bellevue.

Here are some answers to common retiree quandaries, offered by local financial experts:

Q: My company has provided me with a pension. When I retire should I take a lump-sum payment or monthly payouts?

A: If you take the monthly-payouts option, you will have to choose whether to take monthly payouts for only yourself or monthly payouts that would revert to your spouse if you should die.

Generally, the first option would give you larger payouts. But if you die, your spouse would receive nothing. If you choose this option, your spouse has to sign off on it — literally.

Your other option is to take a lump-sum payout, giving you total control of your money. If you do that, you will have to be confident you can earn a greater return on your investment than your pension plan would earn.

For each of the three scenarios, Janci said, you should evaluate the amount you would receive, given your individual circumstances.

For example, a pensioner who is very healthy but whose spouse's health is poor might be more inclined to choose larger payouts instead of coverage for the spouse, whom the pensioner is likely to outlive. But he added that usually pensioners choose the option where the pension goes to the surviving spouse.

Q: I have numerous 401(k) accounts from various employers and several IRAs. What should I do with them?

A: If possible, consolidate them into one tax-deferred account, such as an IRA or 401(k), and one taxed account so they are easier to manage.

Q: If you've worked for various employers and want to consolidate your 401(k) accounts, how do you do that?

A: There are two ways, according to Jeffrey Berkman, a CPA and personal financial specialist in Fremont. Some 401(k) plans allow employees to transfer, or "roll over," their other 401(k) plans into their current 401(k) account.

If you don't have that option, you should be able to consolidate all of your previous 401(k)s — not including the one from your current employer — into what is called a rollover IRA account. You can open one of those accounts with any stockbroker.

Sometimes, however, there is a time limit on when you can do a rollover. Employees can go to their employer or former employer to get details. All 401(k) plans are required to give participants a summary-plan description that includes such information.

Berkman cautions people who decide to roll over their 401(k)s into an IRA not to actually take possession of the money. Don't have a check sent to you. Instead, have the money transferred directly from the 401(k) to the IRA through what is known as a "direct rollover." That way you won't be subjected to paying early taxes or possible penalties on the money, which must remain in a tax-deferred account until you reach age 59.

Q: I have money in a tax-deferred IRA, a Roth IRA (one you pay taxes on initially but not when you withdraw from it) and in a nonretirement account (one that doesn't restrict what age you must be to withdraw money from it). When I retire, which account should I take money out of, if I need extra income?

A: There is not a one-size-fits-all answer.

In general, if you're in a lower tax bracket in retirement than when you worked, your distributions from your IRA will be taxed at a lower rate. If that's the case, you will want to keep your money in your tax-deferred IRA as long as possible. You will have to start taking payouts at age 701/2, so — if possible — take the minimum amount at that age. Once you take payouts from this account, you'll be taxed on what you take out at your regular-income rate.

The 2003 tax act makes it more attractive to take money from the accounts in which you've already paid taxes, such as your nonretirement accounts or Roth IRA. That's because dividends and long-term capital gains are taxed at only 15 percent, which most likely would be less than your income tax rate, which you would pay on money withdrawn from a tax-deferred IRA.

On the other hand, retirees who have estates large enough that they would have to pay estate taxes (more than $1.5 million per person in 2004) are advised to spend their tax-deferred IRAs first, to avoid being taxed twice — income tax on the money in the IRAs and estate taxes on top of that.

Choosing where to take money from also depends on your individual circumstances at the time you plan to withdraw funds. If a person has no income in a particular year, it would make sense to draw money out of the tax-deferred account since his taxes would be very little that year, said Mercer Island financial planner John Hoffman.

Q: What should I invest in to make sure I have enough money to live off of now and in the future?

A: The key, as always, is to diversify. "The transition in assets should be evolutionary, not revolutionary," said Issaquah financial planner Yvonne Hall. "Change strategies as you age."

Invest so you can grow your portfolio and earn income from it. Don't assume that simply buying bonds or putting your money into certificates of deposit will guarantee you enough money to live on. Determine your risk tolerance, then continue to have a mix of securities, bonds, cash, short-term certificates of deposit (CDs), and possibly real estate or REITs (real-estate investment trusts). Bond yields right now are down because interest rates are down. That also means bond prices are higher.

Your investment strategy will have to change over time depending on the current state of the economy and your evolving income and growth needs in retirement.

William Resler, co-director of the tax-accounting master's program at the University of Washington School of Business, suggests that more conservative investments should be in tax-deferred accounts while more speculative ones — stocks where you hope to hit it big — should be in Roth accounts (because you won't pay taxes on Roth account gains).

Q. What percentage of my retirement savings can I withdraw each year to make sure I don't run out before I die?

A. Many variables affect this. But according to financial planner Hall, most historical studies indicate you can spend 4 to 5 percent of your retirement savings each year and not run out of money. But, this means you will need to earn 4 percent plus the rate of inflation (financial planners say 3 percent). So right now, your retirement investments would need to earn a 7 percent average annual return. Hall said historically that has been achievable with a balanced portfolio mix of stocks and bonds, rather than a portfolio made up only of bonds, certificates of deposit and money-market investments. If you want to spend down the principal, this is an even harder question to answer because you don't know how many years you will live and it is difficult to predict how much money you can spend each year and still make sure that your nest egg outlives you. To help you calculate your own rates, try: www.aaii.com/promo/mstar/feature.shtml or http://news.morningstar.com/doc/article/0,1,3466,00.html.

Q: Should I buy annuities?

A: While annuities offer a secure and predictable source of income over time, interest rates are so low now that they don't make a very good investment. When interest rates rise, it would be worth reconsidering whether to purchase them as part of an overall retirement plan.

Q: Do I need long-term-care insurance? When should I buy it?

A: That depends mainly on your financial situation. Retirees who rely only on Social Security and have so little savings that they'll spend it all can rely on Medicaid for their long-term care. Unfortunately, most alternatives to nursing homes don't take Medicaid so your choices would be severely limited.

Retirees who have money in their retirement account but will see it wiped out by nursing-home costs of at least $60,000 a year would benefit from long-term-care insurance. They should consider purchasing it in their 50s, and they should expect premiums to rise over time. If they wait until after they're retired, minor health problems such as incontinence could cause insurance companies to reject them.

Nolan Newman, tax principal with Clark Nuber in Bellevue, advises retirees with a liquid net worth (cash, savings and other assets that can be turned into money quickly; not including real estate) of $3 million to $4 million that they likely won't need long-term-care insurance, unless they want to avoid depleting their estates so the assets can be given to family members or charity.

Q: Are there other ways to fund my long-term care?

A: Yes. You could get a reverse mortgage on your home. Homeowners, with the help of a bank, can access the equity in their home to pay for insurance or care. (Pros and cons of reverse mortgages) You could also take a loan from a whole-life insurance policy that has accumulated value over time. When you die and the policy pays out, the amount loaned would be repaid to the insurance company.

When you can retire

This chart shows how old you must be to collect full Social Security benefits (unless Congress changes the law again before you get to that age). You can retire at any time after 62 but benefits are reduced a fraction of a percent for each month before your full retirement age. What's best for you? Social Security promises to give you a personalized analysis: 800-772-1213 or www.socialsecurity.gov

Social Security Chart

Source: Social Security Administration

 Strategy session

Photo

Chris, left, and Ed Cox in their Issaquah home. Ed retired but drives a shuttle part time; Chris still teaches school.

Retiree Ed Cox: involved manager of his money

His profile: Cox, 63, retired three years ago from an insurance agency he owned in Redmond. He works part time as a shuttle-bus driver for Microsoft to keep busy. His wife, Chris, 54, still works as a schoolteacher.

Current strategy: He puts all the money from his driving job, as well as his Social Security, into his brokerage account.

Next strategy: Once Chris retires, in two to seven years, the couple plan to live off her pension, their Social Security and perhaps some income from their brokerage accounts.

"Once Chris retires we'll start to shift money into income-producing investments" (for example, shifting from a portfolio heavy with growth stocks to one emphasizing stocking that pay dividends), Cox said. "When that happens, we'll have to evaluate what we'll need and where we're at."

Photo

Businessman started saving young, now enjoying active retirement life

He started really early: Even when Doug Chatfield was a child, he always put some of the money he earned or received as gifts into a savings account.

"I always saved money," said Chatfield, who retired eight years ago at age 60 after selling his highly successful Auburn roof-truss business to Lumbermens of Washington.

"I figured if you didn't have money in the bank, you were broke."

Well-funded fun: Now Chatfield and his wife, Kea Rehn, are living a life of leisure on Chatfield's substantial retirement savings and the sale of his business and the business real estate.

The couple spend their time skiing, golfing, boating, traveling and socializing with their friends.

Active investor, too: He manages his own money, of which 60 percent is in mutual funds, 20 percent is in individual stocks, and 20 percent is in cash.

Chatfield's mantra? Save, save, save.

Sound advice

A lifelong investment
"You're going to need to be an investor, potentially, for the rest of your life."
— Mark Janci
Financial planner in Bellevue

Life expectancy graph

» The Seattle Times Aging Well series life expectancy calculator



Resources

Thinking about long-term-care insurance?

Liz Taylor Read Seattle Times columnist Liz Taylor's six-part series on long-term-care insurance Reprints of the series are also available by mail. The reprint is reformatted on 8 1/2-by-11-inch paper, bound for easy reference.

The price is $6.10, which includes sales tax, postage and handling.

To order copies by mail, send your request and checks payable to:

The Seattle Times
Long-term-care insurance series
P.O. Box 1735
Seattle, WA 98111

To order by phone and use a credit card, please call the Resale Department at 206-464-3113.

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