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401K, IRA and Social Security for After Retirement Plan

401K IRA and Social Security for Retirement Plan

Understanding how to withdraw from 401K, Roth 401K, IRA, Roth IRA and Social Security for your retirement plan can be as complicated as you want it to be, or it can be simple. I am going to focus on keeping things simple.

There is a tremendous amount of information out there on how and when to withdraw from 401K, IRA and Social Security for your retirement plan. All you have to do is google it. And the options available vary from one person to another, depending on your financial position when you decide to retire.

I recommend you do your research on 401K, IRA and Social Security for your retirement plan, because the decisions you will be making will affect your income for the rest of your life. Also, talk to a trusted financial adviser. Do not forget – Trusted is the keyword here. Moreover, be careful since a lot of these advisers are in it for themselves.

Your 401K, IRA and Social Security research and talking to some financial advisers, however, can be overwhelming. Therefore, my approach for this article is to draw a straight line through the confusion and simplify this topic as much as possible. Otherwise, it is nearly impossible to make a decision. And the overwhelming information can make you scream uncontrollably 🙂

Here is my straight line opinion on 401K, IRA and Social Security for your retirement plan.

It does not matter how long you spend on reading and researching. And it doesn’t matter how many financial advisers you speak with. I assure you that your final decision will not be perfect. And this should be OK. Because there are so many unpredictability events in life and especially in retirement.

So, I suggest you get informed about 401K, IRA and Social Security for your retirement plan. Don’t overwhelm yourself. Make your decisions and adjust as you move forward.

The topics that I want to cover here to help you better are:​

1- Social Security Benefits.
2- 401K and Roth 401K Withdrawal Conditions.
3- IRA and Roth IRA Withdrawal Conditions.
4- Consolidations of accounts.
5- Distribution plan.

1- Social Security Benefits.

To begin with, Social Security is the most commonly used income plan for retirement. You can start receiving your benefits as early as the age of 62.

The age boundaries for applying for your Social Security benefits start at age 62 and end at age 70. And your full retirement age varies depending on the year you were born. Below is a table indicating your Full Social Security Retirement Age:

  Year of Birth Full Retirement Age
1937 or earlier 65
1938 65 and 2 months
1939 65 and 4 months
1940 65 and 6 months
1941 65 and 8 months
1942 65 and 10 months
1943–1954 66
1955 66 and 2 months
1956 66 and 4 months
1957 66 and 6 months
1958 66 and 8 months
1959 66 and 10 months
1960 and later 67

There are many different ways to decide on the most effective age to start receiving Social Security benefits for your retirement plan. In my opinion, the simplest way to follow is to make your decision based on the following 2 factors:

1- If you are in need for money, the decision is simple start receiving your Social Security benefits at the earliest possible age.

2- If you are not in need for money, then start receiving your Social Security benefits at your full retirement age. Just look at the table above and go for it.​

There is one key calculation perhaps most of us would like to be familiar with and do, which is the break-even age.

Basically, this is based on the idea that if you start your Social Security benefits at an early age, then you would be receiving more Social Security monthly cheques in comparison to starting the benefits at a later age.

And to calculate the break-even age, the math is simple. But the unpredictable part would be your longevity – How many years you have to live.

So, here is an example.

Let’s consider two people of the same age. And let’s say that they are eligible to the same Social Security Benefits for their retirement plan. Now, one of them chooses to retire early at the age of 62. And the other one chooses to retire at the full retirement age of 65. In short, this makes a difference of 3 years. So, the first one would receive 3 years worth of Social Security cheques in their retirement. While the second one would receive none, until they hit the age of 65.

Let’s say the benefit at the age of 65 is $1,000. And the benefit at the age of 62 is reduced by 20% to $800.

If you do the math, the break-even point would be the age of 77.

Therefore, the second retiree would have to receive their social security cheques from the age of 65 until the age of 77 to catch up with the retiree that started receiving their cheques at the age of 62.

After the Age of 77, the second retiree will have an extra $200 per month more than the first retiree.

There are many different alternatives to maximize your full benefit that you can receive from social security for your retirement plan. The calculation can be somewhat complicated, and of course you have to make some guesses. By all means, if you are up to the task, please go for it. And maximize the total amount that you are eligible to receive. You certainly worked hard for it.

My simple recommendation would be:​

1- If you need the money start receiving your Social Security as soon as you are eligible.

2- If not, wait until your Full Retirement Age.

As simple as that!

2- 401K and Roth 401K withdrawal conditions.​

Explaining it in details below:

401K qualified distributions.​

To qualify for distributions from your 401K, you have to be at least 59 and 1/2 years old. Otherwise, you will be penalized with 10% on the amount withdrawn.

In fact, all 401K distributions are subject to taxes at your current income tax rate. This is regardless of when you withdraw the money.

Roth 401K qualified distributions.​

The Roth 401K distributions are non taxable because the money you contributed was an after tax money. So, you will not have to pay taxes on your Roth 401K distributions. And there would be no 10% penalty applied. This is as long as you are 59 and 1/2 years old and have held the Roth 401K account for a minimum of five years.

Moreover, if you withdraw a non qualified Roth 401K distribution. You will be taxed at your current income tax rate, and a penalty of 10% will be applied to the earnings portion (the money you made), but not the contributions.

Earnings are things like: Interest, Dividends, and Capital Gain

401K and Roth 401K Required Minimum Distributions.​

You are required to start taking minimum distributions by April 1st after you turn 70 and 1/2 years old. And if you have not taken any distributions until then, you will be required to start taking distributions based on regular intervals. And, this is calculated on the balance of your 401K/Roth 401K account and your life expectancy.

On other words:

Required Minimum Distribution = ((401K + Roth 401K)/Life Expectancy)/12

3- IRA and Roth IRA withdrawal conditions.​

Explaining it in details below:

IRA Qualified distributions.​

The IRA distributions have similar rules to 401K distributions.

To qualify for taking distributions from your IRA, you have to be at least 59 and 1/2 years old. Otherwise, you will be penalized with 10% on the amount withdrawn. And all IRA distributions are subject to taxes at your current income tax rate.

Moreover, the IRS can waive these penalties when the distribution is used for a qualified medical expense, health insurance, tuition for higher education and to purchase your first home.

Roth IRA Qualified distributions

The Roth IRA distributions are non taxable because the money you contributed was an after tax money. So, you will not have to pay taxes on your Roth IRA distributions. And there would be no 10% penalty applied as long as you are 59 and 1/2 years old and have held the Roth IRA account for a minimum of five years.

If you withdraw a non qualified Roth IRA distribution. You will be taxed at your current income tax rate, and a penalty of 10% will be applied to the earnings portion (the money you made), but not to the contributions.

Earnings are things like: Interest, Dividends, and Capital Gain

Additionally, the IRS can waive these penalties when the distribution is used for a qualified medical expense, health insurance, tuition for higher education and to purchase your first home.

IRA Required Minimum Distributions​

You are required to start taking a minimum distribution by April 1st after you turn 70 and 1/2 years old. And if you have not taken any distributions until then, you will be required to start taking distributions based on regular intervals calculated on the balance of your IRA account and your life expectancy.

Furthermore, if you fail to take a distribution after the age of 70 and 1/2 years, you will be taxed at 50% on the missed distribution. So, make sure that these distributions are always taken on time. And if you don’t need the money, take it anyways and reinvest it into a Roth IRA. You will not have these limitations with the Roth IRA.

Note: Roth IRAs don’t have a Required Minimum Distribution.​

4- Consolidation of accounts.​

Depending on how many jobs you have had throughout your career and the number of 401K accounts you may have collected along the way, you may want to think about consolidating all of your 401K under a single account. This is as long as it does not negatively impact your finances. In fact, it is usually easier to manage a single account. Of course you will need to consult with your plan administrators on the options that you have for the transfers.

Once you decide on the consolidation, transfer all of your 401Ks to your current company 401K. And then, ask the plan administrators to transfer your holdings directly to your current company 401K account. In short, don’t take a personal cheque.

You may also want to consolidate your 401K accounts into your IRA account. Again, this is as long as the consolidation does not negatively impact your finances.

If you decide to consolidate your 401K into your IRA account, ask your 401K administrators to directly transfer your money into your IRA account.

Furthermore, you don’t want the 401K administrator to cut you a personal check. The reason is, you would have to pay income tax and penalties on the full amount. So, ask them for a direct transfer.

Note: It is fine to accept the personal-cheque as long as you deposit the amount into your IRA account within 60 days. To be on the safe side, however, have the plan administrator transfer the money directly to your IRA.​

Other consolidation options:​

1- You can’t transfer Roth 401K to a traditional IRA. This is because, as you may know, Roth 401K is an after tax retirement account. And an IRA is a before tax Individual Retirement Account.

2- You don’t want to transfer your traditional 401K to a Roth IRA. This is because if you do, you will have to pay taxes and penalties on your total 401K holdings at your current income tax rate.

3- You can transfer Roth 401k to Roth IRA, no problem. Just follow what I have described earlier.

5- Distribution plan​

Add up all the money available for your retirement from your 401K/Roth 401K and IRA/Roth IRA and name the total, Retirement Savings.

Retirement Savings = 401K +Roth 401K +IRA + Roth IRA​

Calculate your Anticipated Life. Decide on your Retirement Age and subtract it from the average life expectancy of 85 years. 85 years this is the current average life expectancy.

Anticipated Life = 85 - Retirement Age​

Divide your Retirement Savings by your Anticipated Life. This number will give the Retirement Savings Annual Distributions that will be available on an annual basis for your Anticipated Life. Then, divide it by 12 to give you the Retirement Savings Monthly Distribution.

In other words:

Retirement Savings Monthly Distribution = (Retirement Savings/Anticipated Life)/12

Now, add to your Retirement Savings Monthly Distribution to you’re eligible Social Security monthly payments. The total will give you your available Money for Retirement Monthly.

In other words:

Money for Retirement Monthly = Retirement Savings Monthly Distribution + Social Security

Deduct income tax from the available Money for Retirement Monthly. This will give you the net money available on a monthly basis after tax for your Retirement Income.

In other words:

Retirement Income = Money for Retirement Monthly - Tax​

I hope this number, your Retirement Income, is equal or greater than your Retirement Monthly Expenses. If it is, then great you can retire! All you have to do now is to decide which Retirement Savings to cash out first.

On the other hand, if your Retirement Income is less than your Retirement Monthly Expenses, then the following can be your options:

1- Reducing your Retirement Monthly Expenses
2- Use other savings if you have them
3- Sell some assets like your home

If all of these options don’t work, then perhaps you can’t retire now. And you need to work a bit longer.

Conclusion​

Retirement decisions are never straight forward. Actually, there are many options that you would have to consider to come up with the most optimal decision for you. However, keeping things simple is always a good idea.

Your primary income while in retirement could be your Social Security and whatever you have saved in your 401k/Roth 401K and IRA/Roth IRA. So, I recommend that you do your research and become knowledgeable on how 401K, Roth 401K, IRA Roth IRA and Social Security work for your retirement plan. Not to mention, your happiness during retirement will depend on it.

I hope this article made sense to you, if it did please share it.

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