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Prosperity is multi-faceted. Like a brilliant gem, it has many faces and aspects. Excellent health, secure housing, fulfilling relationships, inspiring adventures, and adequate financial resources are a few of the more popular themes that most people envision when defining prosperity.
Such ideas stimulate the creative juices and unleash the energy that drives us onward. For many, the overall objective is to arrive at a moment in our lives where we can step back and enjoy the pursuit of life’s simple pleasures without having to earn a paycheck. This chapter will discuss the basic components of planning for that moment, which for most, is retirement.
Regardless of one’s age, it is wise to identify our goals and implement a plan for achieving them. Waiting for the last moment to ensure that your needs will be met after you retire is irresponsible and foolhardy. We must pay as much attention to our future security as we do to satisfying immediate comforts and desires. It is recommended that you be prepared to replace 75% of your pre-retirement income after you leave the workforce to maintain your standard of living. To determine what this amount would be, simply multiply your current gross income by 75%. A person currently making $40,000 annually would compute the amount needed for retirement using the following guideline:
$ 40,000 x .75 = $30,000
Multiply this amount by 25 (estimated life expectancy beyond retirement). $ 30,000 x 25 = $750,000
$750,000 is the projected requirement. This guideline is not etched in stone. It is merely presented to help you arrive at a ballpark figure for evaluating retirement preparedness. Keep in mind that the money you will need can be gathered from many different sources. After retirement, a person can lower expenses by moving to a smaller home or to a less expensive area. Income can also be supplemented by a part-time job. The major areas to be considered when evaluating your retirement readiness package are savings, retirement plans, investments, and Social Security.
Experts agree that the Social Security Administration has lost considerable ground in its ability to meet the basic needs of Americans throughout their retirement years. It is estimated that funds from Social Security can only replace about 20% of your pre-retirement income. The Social Security Administration sponsors a Web site to help people understand their Social Security income. The site explains how to calculate what your benefits will be and what steps should be taken to qualify for them.
The money you are able to save is a critical element of preparing for the future. Starting early and putting away 10% or more of every dollar you earn will lay the foundation for a sizeable nest egg by the time you get ready to stop working. Ideally, this 10% figure will be in addition to money earmarked for other investments, such as IRAs and job-related retirement programs. Studies have shown that most people wait too long before establishing good savings habits.
It is helpful to set a “savings goal.” For example, you can commit to having $3,000 in your savings account within two years. By depositing $125 each month for two years, you will reach your goal. When you reach your first goal, leave the money intact and set another goal. Keep building on your successes and you will arrive at a position where your savings will have a measurable impact on your retirement plans.
A friend who recently left his job told me how his simple savings plan allowed him to retire a millionaire. Bill worked for 43 years as a draftsman. At the age of 23, he began to put 12% of his income into a savings plan. He decided to put aside more than the recommended 10% to offset anticipated fluctuations in the annual rate of return. The rate varied over the years from about 3% to 8%. By staying the course year in and year out, Bill ended up with $1.5 million, a paid-up mortgage and a big smile of satisfaction when he retired.
For those who have considerable savings, there are many options available for investing your cash. Although you can research all the possibilities yourself, it is highly recommended that you seek the advice of a qualified, reputable financial advisor to assist you with making the right decision about your money. Let’s review the concept of risk before talking about investing your cash.
Before investing, it is important to know how much risk you are willing to take with your cash. Investing always involves some degree of risk. The degree of uncertainty that you are willing to deal with regarding your money defines your tolerance level for taking risk. How much are you willing to gamble in order to earn a certain return on your investment? The categories vary among financial experts, but the basic groups of risk takers are: low, moderate and high (or aggressive) investors.
The low level risk taker, or conservative individual, is not comfortable with any level of risk. This person is okay with very limited or no increase of their initial funds. Most people who are retired or soon to be retired fall into this category. Moderate individuals are willing to take a small amount of risk with their investment in order to go for slightly greater gains.
If you are at the moderate level, you understand that your investment will rise and fall in value. You are comfortable with the idea that you may get back less than you invest. Company shares, real estate and bonds are examples of investments preferred by the moderate risk taker. While the exposure to loss is greater, the potential for growth is more than for those who are low risk takers.
The high risk or aggressive investor is able to tolerate a higher level of speculation. They can comfortably ride out large fluctuations in the value of their investment. They understand and accept that they may lose some or all of their money. Typically, this person has 20 or more years before retirement and large amounts of discretionary cash. They feel that they have the time and the resources to regroup in case of a significant depletion of funds. Commodities, such as agricultural products, crude oil and gold are examples of high risk investments. Penny stocks – cheaply priced shares of marginal companies are also examples of high risk investments.
When determining your risk level, it is also important to understand what is meant by rate of return. The return on your investment is the profit you expect to receive from the money you contribute. In general, the higher the risk level, the greater the anticipated rate of return.
If you invest $100 in the ACME Broom Company, then $100 is your capital. Let’s say that after a year, your stock is valued at $110. This would mean that you have realized a 10% return on your investment. The rate of return can be calculated using the following formula:
((Return – Capital)/ Capital) x 100% = Rate of return
Amounts from the above example: (($ 110 – $ 100) / $100) x 100% = 10%
Knowing how to calculate the rate of return will help you to evaluate and compare a variety of investment tools.
For those close to retirement (within 15 years) it is best to choose low risk investments. The most frequently recommended low risk investments are CD’s, bonds, online savings accounts and money market accounts. These types of accounts are considered safe because they are insured by the Federal Deposit Insurance Corporation (FDIC). The FDIC is an agency that is supported by the US government. It is your guarantee that if your financial institution were to become insolvent, you would get your money back up to $250,000. The FDIC does not insure accounts for investment purposes, such as mutual funds, annuities or stocks. Money in checking accounts and savings accounts are protected along with IRAs and CD’s.
There are many different methods for investing funds to boost your retirement cushion. A few of the more popular investment choices are discussed here.
Insurance can protect a person’s standard of living in the event of a loss of income. Insurance can also help a person prepare for the future. The decision to purchase insurance should be based on the needs of the individual. Analyze your current situation carefully before making a decision. A person whose home is paid for and who has very few financial obligations will not have the same insurance needs as someone who has a mortgage and a young family to support. While there are many different types of insurance policies, most life insurance policies will fit into one of three categories – whole life, term life or universal life. For research purposes, A. M. Best issues ratings which measure the strength of an insurance company. This rating is an analysis of the company’s ability to pay claims. It also rates the financial instruments, such as bonds, and notes issued by the insurance company. If you are thinking of doing business with a particular insurance company, check out their rating first.
A whole life insurance policy pays a sum of money to a beneficiary upon the death of the insured. It provides coverage for the “whole life” of the insured. The insured is covered until death or until the policy matures. The policy matures or endows when the insured becomes 100 years of age. At this time, the insured receives the full face value of the policy and no additional premiums are paid. Because of its various features, whole life is usually the most expensive type of coverage. Many whole life policies build cash value which can be tapped in an emergency. The funds can often be converted into an annuity, or the entire policy can be surrendered for its cash value.
Term life insurance offers coverage for a certain period of time – usually 5, 10, 15 or 20 years. A basic term life policy will pay a sum of money to a beneficiary upon the death of the insured. The term policy is beneficial for someone who wants to be sure a large debt such as a mortgage is paid for at the time of their death. A term policy has helped many families maintain their lifestyle upon the death of the primary breadwinner. Term insurance is usually the least expensive type of coverage, however there is no cash value associated with term life policy.
This type of policy earns cash value. It maintains flexibility which allows the insured to change the components as their needs change throughout life. A universal life policy or flexible life policy gives the insured numerous options in terms of benefit amount, investment choices, and premiums. This type of coverage is attractive because it is less expensive than whole life and it provides versatility that allows the insured to make adjustments as circumstances change.
It is also important for homeowners and renters to protect themselves against losses in connection with their place of residence. Homeowners insurance can provide coverage in the event of damage to property. It can also protect the insured against liability for injuries that involve other people at their home. Basic policies include coverage for the structure of the home, personal belongings, payment of expenses if you have to get temporary housing due to a disaster, and liability protection. Renters insurance protects the belongings of the renter. The owner of the property usually carries a policy to cover structural damage.
A good health insurance policy is another wise investment. Health insurance can protect your financial cushion in cases of serious illness. Most policies carry a provision to cover medical expenses, disability, long-term care, and prescription drugs. If you are shopping for health insurance, take some time to assess your needs. Be sure to select a company that has a reputation for honesty, excellent customer service, and for handling claims efficiently.
Adequate, up-to-date information is an essential part of making wise decisions. Books and articles offering suggestions for retirement planning are readily accessible. There are calculators available at several Web sites that allow you to evaluate progress based on your current financial information. Enter “retirement calculator” in your search engine window for a list of these sites.
There are many strategies to help us answer the question “How can I be sure I will have enough money to live comfortably after I retire?” The key steps are to set goals, take action and to stay informed. Remember to consult a professional before making any major decisions regarding your finances.
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Consumer Education Services, Inc. (CESI) is a non-profit service provider of comprehensive personal financial education and solutions for all life stages and for all of life’s milestones. Our goal is enhanced economic security for everyone we serve.
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