Working for yourself comes with lots of perks: setting your own hours, your own dress code and your own workload. That’s probably part of the reason nearly a quarter of workers freelance, either full- or part-time. They make good money, too. Almost half earn six figures.
The downside is making up for all the benefits that employers typically provide. That means figuring out health care coverage (which at least is now easier — if not cheaper — than it was before Obamacare) and setting up retirement accounts.
“When you have a workplace 401(k), a lot of the heavy lifting for retirement planning is already done for you,” says Christine Benz, director of personal finance at Morningstar. “That makes it easier to overcome some of the barriers around getting started with retirement planning.”
That’s not the case for self-employed workers. More than three out of 10 freelancers said they were anxious about saving money for retirement, and more than half reported being behind, according to a November study by TD Ameritrade. By contrast, Americans with access to a workplace retirement plan were more than twice as likely to be very confident about having enough money to retire, according to a separate study by the Employee Benefit Research Institute.
The good news is that saving for retirement is not impossible when you’re working on your own, though it may require more effort. Here’s what you need to know:
You’ll need to put away even more. Financialadvisers recommend that savers stash away at least 15 percent of their income for retirement, including their own money as well as any employer match. Freelancers have to sock away even more income to make up for not getting an employer match. That’s on top of building an emergency fund with at least six months’ worth of expenses that can help weather a dry spell.
It’s important for freelancers to factor the cost of those savings into their business budget, says Randi Merel, a financial advisor for Merrill Lynch. “You have to make sure that you’re earning enough money to cover your benefits,” she says.
You’ve got several options.There are several ways freelancers can save money for retirement. Here are three to consider:
1) A traditional or Roth IRA: If you already have one of these accounts and aren’t making a ton of money, you can just continue putting aside retirement income there. With a traditional IRA, any withdrawals will be taxed, but you can deduct your contributions.
With a Roth (you’re eligible if your income is less than $120,000), you pay taxes now on your contributions, but the money grows tax-free. You also can make tax-free withdrawals on the principal, so it can double as an emergency fund for new freelancers, although you’ll want to keep the investments fairly conservative. “Then when you start taking on more projects and making more money, you can have a dedicated retirement fund,” says Randall Greene, CEO of Greene Financial Management in Altadena, Calif.
Annual contribution limits for both accounts are $5,500 for younger savers and $6,500 for those over 65.
2) SEP IRA: The most common plan for freelancers and sole proprietors, SEP IRAs allow contributions up to about 20 percent of your compensation, or $53,000, that grow tax-free. There’s a complex formula to determine your contribution based on your compensation as a self-employed person.
A nice benefit of SEP IRAs is that the deadline for contributions is either Tax Day or when you file your taxes. So, you could put away just 5 percent of your income all year, but decide in February to put another 20 percent in because you find that you have the extra income. That can help you make up for any leaner years when you couldn’t contribute as much. (The same benefit applies to IRAs and Roths, but at much lower limits.)
You can set up a SEP IRA with almost any bank or brokerage, and fees tend to be minimal. “It’s a very cost-effective option,” says Douglas Boneparth, a financial advisor and partner with Longwave Financial.
3) Solo 401(k): Also known as an individual 401(k), these accounts let you put away $18,000 as an employee. Additionally you can contribute about 20 percent of your compensation (again, use the above calculator to determine the exact amount) or $53,000, whichever is less, as your own boss. Those over age 50 can put in an extra $6,000, and spouses who work together can both put in $53,000.
A Solo 401(k) may cost more to set up and require additional paperwork at tax time, but its assets are protected from creditors under the Employee Retirement Income Security Act. Contributions must be made before the end of the calendar year.
Many Solo 401(k)s also offer the option to borrow against your retirement savings, although experts say that doing so is rarely the best financial move.
Skip automation. Most retirement accounts offer an auto-fund option allowing you to set aside a predetermined amount of money each month. That can be more difficult for freelancers, since your income fluctuates. Instead, consider making contributions a few times a year, recommends Gage DeYoung, a certified financial planner and founder of Prudent Wealthcare in Aurora, Colorado. “Plan on doing it at the same time that you pay your estimated quarterly taxes,” he says.
Plan to work longer. Since freelancers control their schedules and how much work they take on, they’re ideally situated to ease into retirement. If you plan to continue working (even if you’ve scaled back) to delay drawing down your retirement funds, then you can retire more securely on a relatively smaller nest egg.
When I look at my retirement stash, I have to admit it’s kind of small. When I look at my house, I realize it’s kind of big. And when I consider the two together, I think that maybe I should downsize and use the equity in my house to buy a condo or add to my retirement savings and rent.
Downsizing isn’t for everyone, but it’s one of the few strategies — along with working longer, delaying Social Security or spending less later in retirement — available to near-retirees who find themselves short on retirement savings and don’t have time to catch up, says Steven Sass, of the Center for Retirement Research at Boston College. “The house is a major source of people’s savings. If you don’t want to work longer or give up eating out in retirement, downsizing should be part of the plan.” (Another way to get at home equity is to take out a reverse mortgage)
Do the math. Before you sell your house and move, add up the costs that can chip away at the amount you free up. For starters, fixing up a house to sell often means spending thousands of dollars in repairs and upgrades (new roof, anyone?). Once the house does sell, you’ll pay commissions to real estate agents on both sides of the transaction, usually to the tune of 6% of the home’s value. Packing and transporting enough furniture to outfit a two-bedroom condo will run $1,500 if you move a few miles away and $5,000 or more if you move across the country, according to the calculator at http://www.moving.com. As for the furniture you don’t keep, you could find yourself spending a few thousand dollars to ship the good stuff to your kid across country and paying a hauler to cart away the rest.
Even after the move, you won’t be home-free. Condo association fees run at least several hundred dollars a month, on top of insurance and property taxes, and if the building needs a major improvement, such as a new roof, you’ll get hit by a special assessment to help cover the cost. Renting is more predictable but leaves you vulnerable to annual rent hikes. And whether you rent or buy, you’ll surely want to buy new furnishings that fit the smaller space, says Paul Miller, a certified financial planner in Boca Raton, Fla. “You think you’re freeing up all this money by downsizing, and then you spend thousands to refurbish.”
Other expenses you might not have considered: Instead of the driveway you currently enjoy, you’ll probably have to fork over cash for a parking space. If you can’t squeeze Grandma’s armoire into the second bedroom (or bear to part with it), you’ll pay $100 a month to rent a storage unit. Because you won’t want to stash those old tax records in the second bedroom, you’ll spring for storage space in the building. Moving far away from friends and family? Factor in the expense of traveling back to the old neighborhood a few times a year. As for the next family reunion, that won’t be happening in your two-bedroom condo: Count on covering the cost of renting a beach house.
Of course, moving to a condo or apartment also allows you to cut your utility bills, eliminate yardwork and snow shoveling, and get rid of your mortgage or trade it for a smaller one — and maybe you’ll make your kids chip in for the beach house. Still, be sure to add up the pluses and minuses before you put out the For Sale sign, not after.
“There are a lot of considerations that go into the downsizing decision,” says Miller. “This may be the last move you’re going to make, so you’d better make it a good one.”
Steve Vernon, an actuary and a research scholar at the Stanford Center on Longevity, has a surefire solution for bear scares. “Nothing helps sleeping at night more than knowing you have a fixed stream of income that won’t be impacted by what’s going on in the markets,” he says. The key is to maximize your guaranteed sources of income.
Settle on a Social Security strategy
You can start receiving Social Security at age 62, but if you delay until age 70, the payout will be 76% higher. “Even if you are going to tap other assets to live off before age 70, you still come out ahead delaying Social Security,” says David Littell, co-director of the retirement-income program at the American College of Financial Services. What if you don’t have enough income to cover your needs until 70? Couples have an option. The higher wage earner can delay until 70 while the other spouse taps benefits earlier.
Get the basics covered
Take a small piece of your retirement savings and buy yourself guaranteed income. For example, $100,000 in an immediate fixed annuity these days would entitle a 65-year-old male to a lifetime monthly payout of $555, and $535 for a 65-year-old woman. (Women’s longer life expectancy is the reason for the difference.) That’s the equivalent of an annual withdrawal rate in excess of 6%.
Stick with a single-premium immediate annuity. Since payouts are based partly on market interest rates—which are still low—start with a small contract now and buy in intervals over a few years. You can get quotes atImmediateAnnuities.com.
If you’re five to 10 years from when you want the payouts to start, look into a fixed deferred annuity. You pay your premium today and designate when you want the income to begin.
Turn down the lump sum
Many private-sector employers, eager to shed traditional pension obligations, have been offering employees the option of taking lump sums today. Vernon recommends sticking with the pension’s annuity payouts, as you’ll have a hard time safely creating as big a guaranteed stream of income from a lump sum.
The major milestones of older Americans are not attended with the same sense of wonder that accompanies the major milestones of younger Americans. Sure, registering for Social Security benefits and signing up for Medicare are rites of passage, but they don’t hold a candle to earning your driver’s license, receiving your first kiss, winning your first promotion, or dancing at your wedding.
If you have retirement accounts when you become a septuagenarian, then you’ll encounter a milestone the Internal Revenue Service (IRS) strongly encourages you to remember. Beginning April 1 of the year following the year in which you reach age 70½, you must begin taking required minimum distributions (RMDs) from most of your retirement accounts. Forbes offered this list:
401(k), 403(b), and 457(b) plan accounts
There currently are no RMDs for Roth IRAs, unless the accounts were inherited.
If you have more than one qualifying retirement account, then a separate RMD must be calculated for each account. If you want to withdraw a portion of each account, you can, but it may prove simpler to take the entire amount due from a single account. Once you start, you must take RMDs by December 31 every year. If you don’t, you’ll owe some hefty penalty taxes.
The IRS offers some instructions for calculating the RMD due. “The required minimum distribution for any year is the account balance as of the end of the immediately preceding calendar year divided by a distribution period from the IRS’ “Uniform Lifetime Table.” A separate table is used if the sole beneficiary is the owner’s spouse who is ten or more years younger than the owner.”
If you would prefer to have some help figuring out the correct amount when RMDs are due, contact your financial professional.
In the presidential debates, we’ve heard more about Donald Trump’s anatomythan what may be the most pressing financial issue directly in front of millions of boomers: Where will they find monthly retirement income that is guaranteed for life?
The retirement industry can talk about almost nothing else, which in hindsight seems a predictable turn. Did we really believe Americans would manage their 401(k) plans well enough to stash away 25 years of post-career financial security? We haven’t come close, and in this sense the 401(k) has been a colossalfailure. Now the first wave of pensionless retirees is about to land, and politicians have almost nothing to say on the subject.
One reason is that there are no quick fixes, which is why it may be time to dust off a long-term solution first floated in the 1990s and still championed by one of its architects, Bob Kerrey, the former democratic senator from Nebraska. He would like every child born in the U.S. to receive $1,000 in a “KidSave” account that would compound over 65 years before being tapped. “For most people it’s not income that matters,” says Kerry, now with investment firm Allen & Co. “It’s wealth accumulation.”
In other words, retirement security is less about what you earn and more about how much and how soon you save. Compound growth over seven decades can do a lot of heavy lifting.
Kerrey reiterated his support for what he calls “wealth accounts” last week during a discussion on the financial impact of longevity, hosted by Bank of America Merrill Lynch at the Museum of American Finance in New York. These wealth accounts would be funded at every child’s birth through a government loan, to be repaid when the child enters the workforce some 25 years later.
The initial $1,000 by itself wouldn’t make a huge difference: at 6% a year over 65 years it would produce just $44,145 in tax-deferred savings. But the existence of a wealth account from birth would encourage more saving, Kerrey believes. These accounts would be strictly off limits for 65 years and in his estimation could be enough to guarantee adequate income that will never run out later in life. If parents or grandparents, say, kicked in $20 a month for 20 years the nest egg would swell to more than $240,000 at the child’s retirement.
KidSave accounts enjoyed bipartisan support years ago but stalled amid efforts to boost other types of savings accounts and shore up Social Security. As previously envisioned, the initial deposit might be $2,000, indexed annually for inflation. That alone might produce $250,000 at age 65, Heritage Foundation found in its assessment of the program nearly two decades ago. Another version of the program called for $1,000 at birth and five annual payments of $500, which could generate a nest egg of nearly $140,000.
Why dust off KidSave accounts now? They are a relatively painless way to address a retirement income shortfall in the, yes, distant future. But as the youngest boomers and then Gen Xers retire with virtually no guaranteed income other than Social Security, the shortfall will only grow. Everything is on the table now as policymakers try to fix the retirement income issue via things like expanded Social Security, guaranteed retirement accounts, 401(k) annuities, better home reverse mortgages, and breaking down legal barriers to working longer.
Kerrey noted that without change every American now under age 40 will receive a 25% cut in Social Security benefits at retirement. We need interim steps. But we also need a long-term plan. The candidates have touched on ways to fix Social Security and cut ballooning student debt. But for now they are far more fixated on Donald Trump’s, er, hands than the retirement income crisis descending on the nation.
In 2015, the Internal Revenue Service audited only 0.84% of all individual tax returns. So the odds are generally pretty low that your return will be picked for review.
That said, your chances of being audited or otherwise hearing from the IRS escalate depending on various factors. Math errors may draw an IRS inquiry, but they’ll rarely lead to a full-blown exam. Check out these red flags that could increase the chances that the IRS will give the return of a retired taxpayer special, and probably unwelcome, attention.
MAKING A LOT OF MONEY
FAILING TO REPORT ALL TAXABLE INCOME
TAKING HIGHER-THAN-AVERAGE DEDUCTIONS
CLAIMING LARGE CHARITABLE DEDUCTIONS
NOT TAKING REQUIRED MINIMUM DISTRIBUTIONS
CLAIMING RENTAL LOSSES
FAILING TO REPORT GAMBLING WINNINGS OR CLAIMING BIG LOSSES
WRITING OFF A LOSS FOR A HOBBY
NEGLECTING TO REPORT A FOREIGN BANK ACCOUNT
Written by IRS Audit Red Flags for Retirees of Kiplinger
When you envision your retirement, what do you see yourself doing: Traveling to faraway places? Indulging in hobbies you didn’t have time to enjoy while you were working? Or pinching pennies just to cover the bills?
The latter is probably not your ideal retirement, but it will likely be the reality for most people. More than half of Americans are at risk of being unable to cover essential living expenses, according to a survey by Fidelity Investments. That’s because they’re not saving enough now for their future.
Sure, it’s easy to put off saving for a retirement that’s years away. But if your nest egg isn’t big enough, you could spend 20 to 30 years struggling to make ends meet. “I’ve never heard anybody complain about having too much money in retirement,” said Kathleen Hastings, a certified financial planner and portfolio manager with FBB Capital Partners. “It sucks to be old. It’s really bad when you have no money.”
Even if your savings aren’t on track, you don’t have to resign yourself to a life of poverty in retirement. In fact, you can retire rich enough to have a comfortable lifestyle by following these strategies. Click through to find out what they are.
1. Eliminate Unnecessary Spending
You might have more room in your budget to save for retirement than you think. That’s because there might be expenses that could easily be eliminated.
“Look at your bank statement and credit card statement every month,” said Tom Corley, a certified financial planner and author of “Rich Habits: The Daily Success Habits of Wealthy Individuals.” “You’ll uncover certain expenses for things you are not even using, such as club memberships, subscriptions, automatic charges for services you’ve never used.”
Also, periodically re-shop your wireless service, cable TV, internet and other services to see if you can get a better rate. Then, boost your retirement contributions by the amount you save by getting better rates and cutting unnecessary expenses.
2. Start Saving Early
One of the best ways to retire rich is to start saving money as soon as you start earning it. Thanks to the power of compound interest, even small monthly contributions to a retirement account can grow over time to a sizable nest egg. The more time you have, the more your money will grow.
For example, if someone started saving $350 a month at age 25, increased that amount by 2.5 percent each year and earned 7 percent annually, he would have about $1.4 million at age 67. But if that person waited until 35 to start saving, he would have about $654,000 at age 67.
“You give up a lot of money down the road by not saving early,” Hastings said.
3. Don’t Let Saving Be a Choice
“Make sure your retirement savings is happening every week or month automatically, without thought or questions,” said Michael Hardy, a certified financial planner with Mollot & Hardy.
Make contributions to a workplace retirement account, such as a 401k withdrawn from your paycheck. Or, set up automatic deposits into an individual account such as an IRA or brokerage account from your checking account. “This eliminates the chance that you stop putting money into your retirement accounts and also helps to dollar cost average into your investments over time,” Hardy said.
4. Save at Least 10 Percent Annually
Americans who are saving for retirement are setting aside, on average, 8.5 percent of their income annually, according to Fidelity’s retirement preparedness study. But most retirement experts recommend setting aside at least 10 percent — ideally 15 percent — to live comfortably in retirement.
If you can’t set aside that much when you’re starting out, make sure you increase the amount you’re contributing as your income rises so you get to a 15 percent savings rate.
5. Take Advantage of the Employer Match
If your employer matches contributions you make to your workplace retirement plan, make sure you’re contributing enough to get the full match. Otherwise, you’re losing out on free money.
The most common type of match is 50 cents to every $1 contributed by an employee up to a certain percentage of pay — typically 6 percent, according to 401khelpcenter.com. For example, if you earn $40,000 a year and contribute just 3 percent of your salary but your employer offers a 50-cent match, you’re missing out on $600 in free money.
6. Save Your Raise — Don’t Spend It
A pay raise can give you more wiggle room in your budget. But if you’re already making ends meet on your current salary, put any extra you get from a raise into your retirement account rather than your bank account.
“Try not to expand your lifestyle if your salary grows,” said John Sweeney, executive vice president of retirement and investment strategies at Fidelity Investments. “Put all that away instead of deciding to buy a nicer car or bigger home.” Then, you won’t have to sacrifice your standard of living in retirement.
7. Make Catch-Up Contributions
Even if retirement isn’t too far off, you still have a chance of saving enough if you take advantage of catch-up contributions. In 2016, you can add an extra $6,000 to a 401k, 403(b) or 457 plan for a maximum contribution of $24,000 if you’re 50 and older.
And, you can boost IRA contributions by $1,000, bringing the total amount you can set aside in these individual retirement accounts to $6,500.
8. Be Willing to Take Some Risk
“For most people, the key to investment success comes down to three words: Save, save, save,” said Ken Weber, president of Weber Asset Management and author of “Dear Investor, What the Hell Are You Doing?” However, you can’t just stash your cash in a savings account. “You’ve got to take some risk for the reward later on,” he said.
Weber said that for each stage of life, you should be invested with as much risk as you can tolerate. Ideally, you should be putting most of your retirement savings into stock mutual funds when you’re in your 20s and 30s. As you get closer to retirement age, you can lower your risk by investing in fixed-income assets such as bond funds, in addition to stocks. Or, consider a target-date fund that will automatically adjust your allocation of stocks and bonds as your approach retirement.
9. Diversify Your Investments
You shouldn’t put all of your retirement nest egg into one basket, Hardy said. In other words, don’t invest all of your money into a single stock. If you do, you could lose your savings if that stock takes a nose dive. Diversify your portfolio with a mix of stocks and bonds — or, better yet, mutual funds that hold a variety of stocks or bonds or both.
10. Don’t Let Fees Eat Into Your Investment Returns
If you invest in mutual funds, make sure you pay attention to the fees and expenses charged by those funds because they can eat into your returns and reduce the amount of money you’ll have for retirement. For example, if fees and expenses on your account are 1.5 percent, your balance will be 28 percent smaller at retirement than if the fees had been just 0.50 percent, according to the U.S. Department of Labor.
The investments offered in your 401k might have varying fees, so consider switching to lower-fee investments — but only as long as they fit your investment objectives and risk tolerance.
11. Stay the Course
You might think you’re protecting your nest egg by pulling your money out of the stock market during downturns. But what you’re really doing is locking in losses by selling when stocks are down and missing out on opportunities for your investments to rebound.
“A well-constructed financial plan takes market gyrations into consideration,” Weber said. “If you have full faith in your plan, it becomes easy to ride through market choppiness.”
12. Get Tax-Free Retirement Income With a Roth
Contributing to a Roth IRA is a great way to create a pool of money you can tap in retirement tax-free. You have to pay taxes on withdrawals from other retirement accounts, such as a 401k or traditional IRA, leaving you with less money to spend. But all the money you withdraw from a Roth in retirement escapes taxes.
13. Invest in Income-Generating Real Estate
Another way to make sure you have money in retirement is to buy income-generating real estate. The key is to purchase and finance it carefully, said Todd Tresidder, a financial coach and founder of FinancialMentor.com.
For example, one former casino card dealer Tresidder knew worked the graveyard shift by night to pay the bills. But, he bought and improved homes by day to grow equity. He retired early in his 50s with five rental homes and more than $5,000 per month in passive income.
14. Get a Side Gig
You can boost your income — and funnel that extra cash into retirement savings — by getting a second job, doing freelance work or turning a hobby into a money-making venture.
If your side gig is considered self-employment, you might be able to make contributions to a solo 401k or a Simplified Employee Pension (SEP) plan. And, those contributions could be tax-deductible. You can set up either type of account through an investment firm with low fees, such as Fidelity or Charles Schwab.
15. Downsize Before Retirement
“A lot of people live in a myth that they should buy as much house as they can afford” and end up buying too much house, Tresidder said. With the big house often comes a big mortgage payment and high insurance, utility and maintenance costs. “All these things take away from your savings capability,” he said. “Often, it’s enough to fund a retirement. ”
If you have a bigger home than you need, don’t wait until retirement to downsize. Cut your costs now, and save the difference.
16. Relocate for a Lower Cost of Living
Living abroad or moving to a state with a low-cost of living is one way to keep down expenses in retirement. But if you do it while you’re still working, you can beef up your savings to have an even richer retirement. Tresidder said he has clients who have taken jobs with U.S. companies that relocated them to other countries where the cost of living is low. As a result, they’ve been able to sock away a lot for retirement.
17. Find an Employer With a Better Retirement Plan
An employer that offers a 401k match is good, but one that provides a pension that creates a lifetime stream of income in retirement is even better, Tresidder said. Although many employers have shifted away from these so-called defined benefit plans, about a quarter of Fortune 500 companies still offer them to new hires, according to a study by professional services company Tower Watson.
A job with a pension plan can actually beat one with a slightly higher salary, Tresidder said. “If you’re short on retirement, that’s a smart way to go,” he said.
18. Don’t Try to Keep Up With the Joneses
Your friends and neighbors might appear to be rich now with all that they have, and you might be thinking that you deserve those things as well. But spending to keep up with the Joneses will likely hurt your chances of being rich in retirement.
“Establish a lifestyle where you put savings first,” Sweeney said. And find a group of friends who also value saving so you don’t feel pressured to spend.
19. Get Professional Help
Hiring a financial advisor doesn’t guarantee that you’ll retire rich, but it might help increase your chances. The right professional can help you create a comprehensive financial plan and stick to it.
Look for professionals with designations such as certified financial planner (CFP), chartered financial analyst (CFA) and chartered financial consultant (ChFC), to name a few. These individuals must meet strict standards to receive these designations and must abide by ethical codes.
20. Play the Lottery
Actually, buying lottery tickets isn’t a trick to retire rich. In fact, you’re just tricking yourself if you think it is because the odds of winning enough money for a comfortable retirement are so slim.
But if you aren’t going to be responsible for your financial future, then you might as well take your chances on hitting it big, Hardy said. “Without a big win or a sufficient amount of savings, you are going to find yourself working the rest of your life,” he said.
The markets have taken some pretty wild swings lately. But is now the right time to revisit your 401(k) investments? I’ll tell you in this week’s Money Minute:
There’s nothing wrong wanting to check things out. If you’re nervous about your investments, ask your plan administrator to take a look under the hood. Jeanne Thompson, VP of investments for Fidelity, says 401(k) investors should work with a financial advisor at least once a year to rebalance their holdings anyway. “There are advantages to making changes both when the market is high or low,” Thompson says. “A lot of times people pick the beginning of the year to call [and rebalance] but there isn’t one particular time of year that’s best.” The point of rebalancing is to make sure you’re taking on the right amount of risk given your age and retirement goals. Just don’t forget about your emotional tolerance as well. If you’re waking up in a cold sweat in the middle of the night every time the markets get shaky, maybe it’s not wise to put 90% of your 401(k) in stock funds.“You want to be able to sleep at night,” says Thompson.
Younger workers probably have less to worry about. If you’re decades away from retirement, don’t be surprised if your advisor tells you to hang tight. Younger workers are advised to take on more risk early because they have a longer time to recover from any market setbacks—and more time to reap the rewards when markets bounce back. Given the way most young workers are investing these days, they may have even less to worry about. According to Fidelity, nearly two-thirds of millennial 401(k) investors are 100% invested in target-date funds, a type of fund that picks your holdings based on your age. Target-date funds are meant to be left alone. They automatically shift away from stock-heavy investments to the safety of bonds as you age.
Just remember — you’re probably better in the market than out of it. Sometimes the best time to get in the market is when things are looking bleak — read: cheap. Just ask the folks who pulled their money out of the market back in 2008. Fidelity, one of the largest investment firms in the U.S., found that people who stayed in the market saw their accounts grow by 88% five years after the recession. People who turned to cash saw their balances grow by just 15%.
What’s important is that—even when you’re watching the value of your holdings fluctuate—you keep contributing to your account. Retirement plans are meant to be long-term investment vehicles, and making moves based on short-term volatility has proven a bad idea many times over.
The bottom line: You can’t time the market. What you can do is work with a financial advisor to come up with a retirement plan you don’t have to worry about every time the market gets shaky.
To pay off or not to pay off your mortgage when you’re on the verge of retirement can be a mystifying dilemma.
Making end-of-career decisions is challenging, but adding a mortgage ready to expire can generate a significant dose of confusion for even the most financially adept consumer.
On the one hand, you want the piece of mind brought by reducing your financial liabilities as you move to a period of reduced income. On the other, you don’t want to blow a chunk of money on paying off your mortgage and leave yourself in a precarious position during a period of reduced income.
All things considered, it’s generally best to go ahead and pay off the mortgage, says Tim Moran, a financial planner and managing partner of Moran and Company in Rochester, Mich.
“That being said, we won’t instruct them to pay it off if they don’t have liquidity or emergency money,” he said.
Though whether or not you have that financial cushion can make or break the decision for you, there are a few more elements to wrap into your consideration.
What To Consider If You Pay off the Mortgage
Not carrying a mortgage sounds like a dream come true to many borrowers, but just because you aren’t writing a check to your lender each month doesn’t mean all financial property obligations end.
Kevin Driscoll, vice president of advisory services at Vienna, Va.-based Navy Federal Financial Group (NFFG) says although your mortgage payment may fade away, your tax and insurance bill isn’t going anywhere.
“Some homeowners forget that no mortgage doesn’t mean no payments,” Driscoll says. “Unfortunately, you are still going to get a tax bill for that property and maintaining sufficient funds is something every homeowner should consider long before that mortgage is paid off.”
He says the same efforts will need to be made for insurance and homeowner association fees. “Although you are free of two-thirds of that monthly payment, you will still need that remaining third,” Driscoll says. “Establishing a safe and stable account to maintain the funds that will be paid to a municipality, insurance and taxes is vital to maintaining stability.”
Driscoll suggests homeowners investigate safe savings options before the last mortgage payment is made. “Consider an NCUA protected savings or money market account for the funds you plan to set aside for tax, homeowner association and insurance payments,” he says. “Never park your funds in anything risky, because you don’t want to be surprised if the money you invested is no longer sufficient or available when it comes time to pay the bill.”
Beyond squirreling cash to pay insurance and taxes, Moran says mortgage-free homeowners should consider using the cash that went to pay off the mortgage to pay down other debts. “Often, people will pay off the house and then increase their spending and not save money,” Driscoll says. “They may be carrying high interest rate credit cards or other high interest debt that should be paid off first.”
Make Contact with Tax and Insurance Companies
Once you know how you will maintain savings, make a point to contact each payee with regard to how the money will be delivered on an annual or monthly basis. “Your mortgage company is no longer going to escrow the funds so you will need to handle each company on an individual basis,” Driscoll says. “For instance, let your insurance company know you are paying off your mortgage and will be handling payments.”
One reason reaching out to the tax appraiser and insurance company is vital is because if your mortgage company is managing your tax or insurance invoice, you don’t want future communications to end up on the mortgage broker’s desk with the possibility that invoice or important letter could fall through the cracks.
“Not only could you miss important communication, missing an invoice could result in late fees if you are missing payments–you don’t want this to occur due to a computer glitch,” Driscoll says.
Another reason homeowners should make an individualized effort to reach out, especially to the insurance agent, is to maintain proper coverage in case of a catastrophic event.
“Make sure your insurance company knows you are no longer carrying a mortgage and that your mortgage company be removed from your policy as a payee,” Driscoll says. “In case something catastrophic happens to your property, your payment will go to you and not get hung up with your previous mortgage company.”
Ultimately, homeowners should obtain a document that states the borrower is relieved of all mortgage obligations. “It puts the period at the end of the sentence,” Driscoll says.
If You Aren’t Close to Retirement, Should You Still Pay Off Your Mortgage
Moran says the same mortgage pay off rule for retirees doesn’t apply to clients who plan to stay on the job.
“Clients who are far away from retirement and are younger, in most cases, we advise them not to pay off mortgages because interest rates are really low,” he says. “Plus they are still building a retirement fund, so we would rather see them build that fund, rather than paying off a low rate mortgage loan.”
Financial goals should always be on the borrower’s forefront, Driscoll adds. “Every single situation is broadly different,” he says. “Advice will differ as you could be working with someone who has refinanced their home several times and is paying a mortgage rate of 4.5% versus someone who may still be paying a rate of 8%; so our advice extends to the borrower’s current financial situation, his or her mortgage rate and future goals.”
Ultimately it all boils down to identifying the goal you’d like to achieve with new money and then targeting your strategy toward that goal.
“If my goal is to put kids through college in two and a half or three years or leave a few dollars for the grandchildren in 15 years, your plan of attack will be different,” Driscoll says. “Everything is goal-based, because your money is so important to you.” That means there’s no one-size-fits-all solution; whether or not to pay off your mortgage needs to be strained through your particular lens and stage of life.
In a recent blog post, Rande Spiegelman, vice president of financial planning at Schwab Center for Financial Research offered a smart strategy for mortgage management. “If your mortgage has no prepayment penalty, an alternative to paying it off entirely before you retire is paying down the principal,” Spiegelman said. “You can do this by making an extra principal payment each month or by sending in a partial lump sum.”
The borrower saves in the interest and the loan payoff goes faster while still maintaining liquidity and diversification.
During the recession of 2008 and for a long time afterward, moving dropped off the map, especially for people who were retiring. For some years after the recession began, according to the Brookings Institution, both Florida and Nevada actually suffered out migration – not because so many people were moving out of these states, but because nobody was moving in.
For half a decade retirees stayed close to home. They couldn’t sell their house, so they couldn’t move. Many people were forced to retire early, which meant their finances were even more stressed. Many baby boomers also still had kids in school, and so they didn’t want to move anyway.
But now things have changed. Moving is back in style. In addition to new retirees, there is a backlog of people who retired a few years ago who now want to move out of big expensive states and into warmer, less expensive states.
The traditional retirement havens in Florida and Arizona still pull in many retirees. Last year the Phoenix metropolitan area topped the list of cities gaining population among people 55 and older. Tampa, Orlando and Jacksonville were in the top ten. But the Carolinas are also drawing their share of retirees, and a lot of retiring baby boomers are setting off for smaller cities like Nashville or Austin.
Here are the five main reasons retired people are now moving:
They can finally sell their house. The real estate market suffered a historic slump during the Great Recession, and it has been slow to make a comeback. But now both sales and prices have returned to more normal levels, meaning people in California and the Northeast – and even in the Midwest to a lesser degree – can finally sell their homes. Fewer people are underwater on their mortgage, which means they have more equity, while mortgage rates are still low and credit is easier to obtain.
Their stock portfolios have recovered. Baby boomers were not only frozen in place for half a decade, but they suffered huge losses in their savings and retirement nest eggs, which made them more cautious and less likely to pull up stakes and start a new life. Now that markets are back near historic highs, baby boomers are flush with more funds to use for down payments, moving costs and all the other expenses that go along with starting a new life.
It’s expensive to live in California and the Northeast. Although many states have slowed the rate of increase on real estate taxes – New York, for example, instituted a 2 percent cap – taxes are still high and going higher, even if at a slower pace. Retirees move to get away from high taxes. But there’s also the high cost of insurance, entertainment, heating and all the other necessities of living in the north.
It’s cold. Global warming may have brought a marginal rise in temperatures worldwide, but that’s cold comfort for those who see the outside thermometer stuck at 20 degrees. The unusually cold and snowy winters of the past two years only add to the motivation of retirees to find a more comfortable lifestyle in a warmer climate. A desire for healthier lifestyles also prompts people to seek out a climate where they can hike and bike and play outdoor sports all year round.
They’re going to move anyway, so they might as well go someplace nicer. Many boomers are moving not to retire, but to take advantage of late-in-life job opportunities. They have been downsized from their full-time careers, and are now looking at lower paying, but also lower pressure jobs outside major metropolitan areas. Along with low-powered jobs or part-time positions, they’re looking forward to gaining more leisure time and paying less “overhead” for their lifestyle.
The countertrend. Despite the fact that more people are moving, the majority of retirees still age in place. So don’t feel left out if you want to stay in your old neighborhood and live near your children and grandchildren. And then there is one countertrend. While most retirees head south, there are some who turn north. Northern states from Maine to Washington are losing population among those age 55 and over. But four states – New Hampshire, Vermont, Idaho and Oregon – are appealing enough to actually gain population among people 55 and over.
Written by Tom Sightings of US News & World Report