Meeting Your Needs for Retirement: A Planning Primer

During the Great Recession of 2007-2009 and in particular, the period between January 1, 2008, and January 20, 2009, assets held in defined contribution plans such as 401(k) were subject to the sharp declines that were being experienced in the equity markets. The S&P 500 Index, which is one of the broadest measurements of the market used to measure equity investments, fell 37 percent in 2008. The corresponding reaction of 401(k) assets was a loss of approximately 25 percent in value for accounts who had a value of $200,000 or more. This impact was especially felt by older employees nearing retirement age (56 to 65) and who had at least 20 or more years on the job with an employer.

The typical asset allocation mix selected by most 401(k) plan participants is top heavy with equity investments (61 percent), followed by bonds (12 percent) and other fixed income accounts. Baby Boomers nearing retirement placed far more of their assets in equities than other types of investment asset classes, much to their detriment when the financial crisis occurred.

Although the markets have recovered since the crash and correction, there still remains an overall fear and apprehension toward participating in the market and funding retirement at a level sufficient to meet income needs when no longer working. Consulting group Towers Watson in its 2011 Retirement Attitude Survey, taken in the post-economic crisis period, uncovered these crucial findings:

  • Those employees that have a defined benefit plan (traditional pension) are 2 times likely to feel very confident about the first 15 years in retirement. These same employees feel a confidence of 2-½  times about being comfortable for 25 years of their retirement.
    Many employees continue trying to pay off debt, reduce their spending, save more and think more carefully about their retirement saving targets.
  • As of 2011, 37% of women versus 62% of men participating in DB plans felt comfortable with making their investment choices.
  • 40% of employees do not consider health costs (expected to rise at a constant rate) when estimating their retirement income needs.
  • For those employees who are older or in poor health, 46% are postponing retirement versus 34% of younger workers considering the same.
  • The majority (>50%) of workers considering a delay in retirement expect to work for at least three years; one-third plan to work five more years. 64% of those aged 50 planning a delay cite maintenance of their health care coverage as the primary reason.

Considering these results it is time for us to consider the importance of effective retirement planning and consider all of the factors that go into being prepared for that time when you no longer want to work. An asset that very few consider when planning for retirement is permanent life insurance. Here is a primer on retirement, including an introduction to traditional funding methods and strategies and the ways your financial planning for retirement can be created, enhanced, or strengthened through the use of life insurance.

An Introduction to Retirement Planning

The traditional ways in which both individuals and business owners have saved for retirement include contributions to an employer-sponsored plan (i.e. 401(k), 403(b), Profit-Sharing Plan), establishing a separate Keogh (HR-10) Plan, Simplified Employee Pension (SEP) or Savings Incentive Match Plan for Employees (SIMPLE)-IRA and/or contributions to an Individual Retirement Account or IRA. Each of these plans limits the total amount of contribution, which can range from $18,000 for contributions made into a 401(k) or similar defined contribution plan to $265,000 for contributions made to a Keogh plan.

Defined Benefit/Contribution Plans

It is important to understand the difference between defined benefit and defined contribution plans. DBPs are company-sponsored retirement plans which pay a fixed amount benefit to a company’s employees. The employer makes contributions on behalf of the employee, bearing the investment risk for the plan. An employer may also pay premiums to the Pension Benefit Guaranty Corporation (PBGC), a federal corporation created by the Employee Retirement Income Security Act of 1974 (ERISA), to insure the retirement benefits of their employees.

Retirement benefits paid by a DBP are typically paid on a monthly basis and are payable for the lifetime of the retiree. Some plans may also permit a lump-sum payment of benefits instead of monthly installments. As the number of DBPs began to decline a different type of pension plan began growing in popularity. These plans are known as Defined Contribution Plans.

Defined Contribution Plans (DCPs) grew out of the profit-sharing and other deferred compensation type plans, which permits employees to move a portion of their non-salaried compensation into a plan. Paragraph (k) was added to Section 401 of the Internal Revenue Code in 1978 through the Tax Reform Act of 1978, which led to the creation of the 401(k) DCP Retirement plan.

These plans not only permit salary pre-tax contributions made by employees into a retirement account which they controlled, they also transfer the bearing of all investment risk to the employee and the ability (over time) to move assets from employer to employer or into a self-managed IRA. This shift in risk caused many employers to switch from the old-style pension plans into the newer DCPs.

Traditional IRAs

An Individual Retirement Account (IRA) is a retirement savings vehicle available to any individual who is under the age of 70-½ at the end of the tax year who has earned income.  The maximum allowable contribution to an IRA in 2016 is $6,500. Thereafter, the limit will be subject to an annual inflation adjustment. A catch-up provision is available for individuals who are at least age 50 by the end of the tax year. The additional annual contribution allowed for those individuals in 2016 is $1,000.

The earnings in the account are tax-deferred; i.e., they are not taxed until the funds are withdrawn.  When withdrawn, IRA distributions are taxed as ordinary income, unless the contribution being withdrawn was not tax deductible at the time of contribution, and none of the income earned on the contribution is withdrawn.

For married persons, if one or both spouses have earned income and they file a joint return, both spouses may have an IRA; they may each contribute up to the $6,500 limit (plus the additional catch-up amount of $1,000 if age 50 or older). If only one spouse has earned income, this option is called the “spousal” IRA. The total contributions to the two IRAs (plus contributions to any Roth IRA set up for the two) may not be more than their combined incomes.

The deductibility of the IRA contribution is determined by several factors. If the individual or his/her spouse is covered by a qualified pension plan through either of their employers the contribution may not be fully deductible.  If neither is covered by a qualified plan, the contribution is fully deductible.

Contributions may be tax deductible in part or in whole, depending on several factors.  The first consideration is whether the person is covered by a qualified pension plan through the employment of the person or their spouse.  Contributions by a person not covered by a qualified plan are fully deductible.

Deductibility of contributions by a person covered by a qualified plan (e.g., 401(k), Tax-Savings Account such as a 403(b), etc.) is reduced to an increased income level.

Withdrawals from IRAs may not begin before age 59-½ without penalty, and must begin by age 70-½. If withdrawals are made before age 59-½, they are subject to ordinary income taxes, plus a 10% penalty on the withdrawal, unless the withdrawal is necessitated by the death, disability, or medical expenses of the account holder.  There is no “early retirement” exception.

When normal withdrawals begin, the income earned in the account is taxed as ordinary income. The original contributions are also taxable as ordinary income when withdrawn if they were deducted from ordinary income when the contribution was made.  If the contribution was not deducted when it was made, it is not taxable upon withdrawal; only the earnings in the account are taxable.

The assets permitted in an IRA exclude “collectibles,” but may include metal bullion and some recently minted coins, as well as financial instruments.

If a person receives a lump-sum distribution from a pension or other benefit plan, the person can use a “rollover.”  If the person deposits those funds in an IRA within sixty days of receipt, the funds are not taxable until they are withdrawn from the IRA.

Roth IRAs

The Taxpayer Relief Act of 1997 established a new type of IRA called a “Roth IRA” or IRA Plus.” With a Roth IRA, which must be designated as such at the time it is created, contributions are nondeductible.  The advantage of the Roth IRA is that earnings within the account are tax-free if the taxpayer makes qualified distributions from the account.  Qualified distributions must be:

  • Made on or after the date the individual becomes 59-½;
  • Made to a beneficiary or to the individual’s estate on or after his/her death;
  • Due to the individual’s becoming disabled;
  • Used to pay “qualified first-time homebuyer expenses” not to exceed a $10,000-lifetime allowance; this distribution may be made for certain relatives’ expenses.  To qualify as a first-time homebuyer no ownership interest in a primary residence may have existed during a two-year period ending on the date of acquisition of the new home.

Another difference between regular IRAs and Roth IRAs is that minimum distribution rules that apply to traditional IRAs do not apply to Roth IRAs while the owner lives.  The owner of the Roth IRA is not required to take distributions at any age.  However, after the death of a Roth IRA owner, some of the minimum distribution rules apply.

Contributions to Roth IRAs may only be made if a person’s modified adjusted gross income (MAGI) is less than $194,000 for a married couple filing jointly or $132,000 for single filers. Contributions are limited to $5,500 in 2016 or annual compensation (the same as for traditional IRAs) with an $1,000 additional catch-up amount for those individuals age 50 or older.  The amount allowable for at least a partial contribution is phased out between $184,001 and $194,000 for married couples, between $117,001 and $132,000 for single filers, and between 0 and $9,999 for a married person filing separately.  Rollover contributions from a traditional IRA to a Roth IRA are not included in the maximums.

Distributions and rollovers from one Roth IRA to another are tax-free.  Distributions from a regular IRA to a Roth IRA may be made however, distributions from a regular IRA to a Roth IRA must be included in gross income.


A Simplified Employee Pension (SEP) plan provides a simplified method for an employer to make contributions to a retirement plan for both themselves and their employees. Instead of setting up a profit-sharing or money purchase plan with a trust, an employer can adopt a SEP agreement and make contributions directly to a traditional individual retirement account or a traditional individual retirement annuity (SEP-IRA) set up for the employer and each eligible employee.

Using Life Insurance to Help with Retirement Planning

The above discussion focused on the most traditional ways in which retirement funding take place and that are available to all of us. What the discussion did not incorporate however was the ways in which life insurance plays a vital role in helping to meet retirement income needs.

Life insurance should first and foremost be thought of being more than just a death benefit instrument. The primary use of life insurance for most purchasers is to provide a benefit in the event of premature death, to aid those left behind with the maintenance of their financial lifestyle prior to death. This is not the only purpose of life insurance.

Permanent life insurance products, such as traditional and indexed universal life insurance, whole life insurance, and variable life insurance, create cash value inside of the policy. This cash value, which is used to reduce the insurance company risk obligation should death occur, is accessible through various methods. Having access to the cash value provides you with a way to fund your retirement, fully or on a supplemental basis.

Borrowing from Cash Value (e.g. Cash Surrenders, Policy Loans)

One of the ways in which the value of life insurance is realized in assisting with retirement planning needs is the use of cash value. Cash value may be used either through the direct surrender of values from a policy and policy loans. Both of these methods, where available, allow you to create a stream of income that may be used to fund your retirement in whole or in part.

Borrowing is a method that is common with such plans known as Supplemental Executive Retirement Plans (SERPs). These plans are established as non-qualified executive compensation plans that are used to attract and retain highly-compensated individuals in a corporation. The underlying concepts behind a SERP can also work for individuals who may be excluded from such an incentive from their employer.

A SERP is established using a flexible premium life insurance product. ULs and in particular IULs work best as the underlying funding element for these types of arrangements. Concerns regarding overfunding the contract are not first and foremost as the goal is to put as much money into the contract upfront in order to create a withdrawal stream over a period of time in the future, such as 20 years. Once death occurs, the employer as owner and beneficiary of the policy, receives the death benefit to recoup their costs, providing any unpaid amount to the estate or beneficiary of the employee.

Long-Term Care Planning

According to the U.S. Census Bureau there were approximately 43.1 million people in the country age 65 and older in 2012. By 2030 this number is expected to grow to 72.7 million and by 2050 83.7 million. The aging of the population presents challenges not only to our healthcare system but also our ability to provide adequate levels of care in the form of long-term care services. These services are provided either in the home, which are community-based or in an facility such as assisted-living and skilled nursing care.

As mentioned previously in this discussion, many individuals fail to account for the cost of healthcare when planning for their retirement. According to Genworth Financial’s Annual Survey of Costs for long term care services (2016), the monthly median cost for services provided in the home such as home healthcare and a home health aids ranges between $1,473 and $3,861. For facility-based services, the monthly median range is $3,628 (assisted-living) and $7,698 (private room in a skilled nursing facility). These numbers work out to $17,676-$46,332 for home and community based services and $43,536-$92,376 for facility based care services.

Failing to budget for these costs will leave you in dire straits when faced with paying for these services. Long term care insurance may not be an option available to you, particularly as you get older. Life insurance again provides an answer. Adding a nursing home or long-term care rider to a permanent plan of insurance can help offset the rising costs associated with receiving long-term care services.

Wills and Estate Planning, the Protection of Wealth, and Minimizing Taxes

Life insurance plays a role in effectively managing issues related to estate and gift taxes. For 2016 the amount of an estate that is safe from estate taxes is $5.45 million for individuals and $10.9 million for joint filers (known as the unified estate and gift tax exclusion amount). Any amount above that is subject to Federal and state taxation, which together can be as high as 55%.

There are many examples of individuals who have failed to engage in any form of planning, including the establishment of a simple will, which resulted in the distribution of their assets being distributed through probate court. The problem with the probate court system, particularly in the case of a large estate exceeding the value of the unified estate and gift tax exclusion amount is that while the court decides on issues related to heirs, the tax bill for the estate is due within 9 months. This can force the estate to be quickly liquidated, often at less than fair market value, in order to satisfy the obligation.

Life insurance proves a triple threat in this type of situation. An appropriate estate plan, discussed with a team that includes an estate attorney, CPA, bank trust officer and an independent life insurance agent, can look at your wishes and desires for the distribution of assets upon death and, with life insurance as the funding element, work to reduce and/or eliminate your estate tax, and transfer wealth efficiently to your heirs.

Funding Real Estate

Your retirement planning should include plans to pay down or retire any outstanding mortgage debt, including home equity and home equity lines of credit (HELOCs). Again, a discussion with your life insurance agent can help decide on the appropriate amount of insurance, which creates an immediate asset upon death to be used by your beneficiaries to satisfy any and all outstanding liabilities related to your personal real estate.

Social Security Planning

One final area of planning in need of address is the inclusion of Social Security retirement benefits. According to the Social Security Administration, 22% of married persons and 47% of single Americans rely completely on the monthly benefit received from Social Security as their major source of retirement income. As of June 2015, more than 39.5 million older Americans received $53 billion in monthly income. The average amount of monthly benefit received was $1,335 or $16,020 per year.

Because of the issues surrounding the solvency of Social Security over the next decade to decade and a half, it is important to understand what role, if any, Social Security retirement benefits will have in your overall retirement plan.

As Generation X’ers (1965-1981) begin reaching retirement age in particular (the first group born in the year 2030), a look toward cash value life insurance may be in order, to supplement or replace benefits that may be lost or reduced in order to maintain the solvency of the program.

Life insurance is an important asset and planning tool that should be at the cornerstone of your retirement planning. The myriad of issues related to your retirement cannot be put off for too long. A discussion with your independent insurance agent should take place sooner rather than later to begin looking at these and other areas that can affect the type of lifestyle you want to have when you finally decide to retire.

About Ivy Ridge Asset Management
About Ivy Ridge Asset Management

We work with individuals across the nation to secure the best life insurance rates.

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