Creating a retirement cash flow strategy can be daunting. If you’ve spent the better part of your life budgeting based on the money that comes in from your job, creating a cash flow plan from multiple different sources requires a different mindset. Retirees receive cash flow from their investments, which we covered in Part One of this series, Social Security, and pension benefits.
In Part Two of our “Mapping Out Your Retirement Cash Flow” series, we’ll be digging into:
- Social Security benefits.
- Taking your pension.
- Protecting your cash flow with insurance.
Let’s get started.
Understanding Your Social Security Benefits
Social Security often plays a large role in retirement cash flow planning, but very few retirees fully understand the intricacies of how Social Security works, and when they should claim their benefits to maximize cash flow.
First and foremost, it’s important to know when you can enroll in Social Security, and how your benefit is calculated. In order to enroll in benefits, you need to be at least 62 years old and have accumulated 40 work credits over the course of your career. Keep in mind that 62 is the absolute earliest you can enroll in benefits, with many retirees choosing to wait until their Full Retirement Age (FRA). The FRA in 2022 is 67 for those born in 1960 or later. To learn more about what your FRA is based on when you were born, click here.
In 2022, you get one credit for every $1,510 you earn, up to a maximum of four credits per year. This means that you have to work for at least 10 years to be eligible for benefits. “Extra” credits earned over the course of your career don’t equate to an increased benefit when you retire.
Of course, there are a few exceptions to note:
- If you are a widow or widower, you can apply for a survivor benefit as early as 60.
- Those who have a disability can apply for Social Security assistance at any time.
- There are Social Security survivor benefits designed to provide for children and a surviving spouse in the event of the death of a parent with younger children.
If you’re interested in learning more about what type of benefit you can expect to receive from the SSA in retirement, you can use their retirement estimator calculator by clicking here.
When Should You Take Social Security Benefits?
Some retirees choose to take advantage of their Social Security benefits at 62, even if their benefit is reduced for the remainder of their retirement. If you need the cash flow your Social Security benefit provides, this may be the best available option for you. However, if you have enough savings to delay enrolling you will be able to increase your monthly benefit. Your benefit increases every year that you delay taking your Social Security benefit between age 62 and your full retirement age.
This can create a larger source of cash flow later in retirement when you may face health complications or other unexpected expenses. In some cases, it may even make sense to delay beyond your full retirement age. If you choose to delay beyond your full retirement age, your monthly benefit of up to 8% per year for each year you delay (up to age 70).
You may also have a pension that will be available to you when you retire. This is especially common among government employees and teachers. Typically, those with a pension have three broad options for taking their pension in retirement:
- Lump-sum. This means that you’d be “cashing in” your pension for a one-time payout. Retirees typically reinvest this lump sum to boost their retirement nest egg. Keep in mind that those who take the lump sum may be putting themselves at risk if they experience market fluctuations in retirement.
- Annuity options. Pensions can often be converted to annuities, and the most common choices when it comes to drawing the annuity are as follows:
- Single-Life. This is the annuity option that provides the highest monthly payout for your pension. Your single-life annuity would pay you monthly for the entirety of your life – but only for your lifetime.
- Joint-and-Survivor. For a slightly reduced monthly payment, this type of annuity will continue to pay out your pension to a surviving spouse, if you pass away before they do, for the remainder of their life.
- Period-Certain. This option allows you to provide income to a beneficiary of your choosing for a set period of time if you pass away. This sometimes comes with an increased monthly payment when compared to the joint-and-survivor annuity option.
There are several key things that retirees need to weigh when deciding whether or not they should cash in their pension or take an annuity option. First, it’s important to know whether or not your employer’s pension is well-funded (or whether it’s been underfunded, and may stop providing cash flow later in retirement). Pensions that are underfunded may be backstopped by the Pension Benefit Guaranty Corporation.
Next, you should consider your cash flow needs based on your current investments. Although your pension will be a helpful tool in planning retirement cash flow, your investments (and associated returns) usually make up a substantial portion of your retirement income. If you’re uncertain about the health of your nest egg, having consistent income through an annuity may be helpful.
Finally, you can look at the overall earning potential of a lump-sum payout. If you think that, based on your retirement age and cash flow needs, you’d be able to “out-earn” your pension by investing the funds yourself or with your financial planner, cashing out may be the way to go. However, be very careful when it comes to cashing out as the decision is typically irrevocable.
Ultimately, there isn’t a “right” option when it comes to your pension payout. The key is looking at it in the overall context of your retirement cash flow strategy and your retirement plan.
Protecting Your Cash Flow
There are many different kinds of insurance for retirees to consider. However, only three types of policies are critical in protecting your wealth during this new phase:
- Long term care insurance.
- Health insurance (or Medicare).
- Life insurance.
Long Term Care Insurance
70% of the American population will need some form of long-term care in their lifetime according to a recent Genworth study. Unfortunately, the cost of long-term care facilities can be astronomical, and put a significant dent in your retirement savings if you choose to self-insure. For many, long term care insurance is a way to protect themselves against these hefty costs, and plan for the future.
Of course, there’s always the question of whether or not LTC insurance is right for you and, if so, how much coverage you need. It’s important to look at the role of LTC insurance in your overall financial plan, and determine what type of costs (if any) you’re prepared to cover with your savings and retirement income.
Health Insurance (Medicare)
The vast majority of retirees will enroll in Medicare or some type of Medicare Advantage (private health insurance) plan. In order to ensure consistent coverage as you enter retirement, it’s important to evaluate the health insurance you receive as a pre retiree through your employer. A few questions to ask are:
- What is my current deductible? What will my deductible be when I enroll in Medicare?
- What type of Medicare Part D coverage do I need to cover my prescriptions?
- Are my current, preferred health care providers covered under Medicare? If not, should I look to a Medicare Advantage plan?
- What type of premiums can I expect to pay, and are they comparable to what I currently pay through my employer?
Often, retirees aren’t aware of the breadth of options available when it comes to health insurance. While Medicare Part A and B may be relatively standard, there are a whole host of Medicare Part D Medigap plan options – in addition to Medicare Advantage plans – that make it possible to tailor your insurance strategy to your unique health needs.
While most retirees won’t have a need for life insurance, in a few limited instances, it can serve as a useful estate planning tool, and can help you to protect your spouse or partner. As you plan for retirement, be sure to analyze whether life insurance might be needed.
Creating a cash flow plan in retirement doesn’t have to feel complicated or nerve wracking. With the support of a financial planning team, you can rest assured that you have a carefully crafted strategy that addresses both your short and long term financial goals.
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