Chapter 3: Securing Your Financial Foundation

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Chapter 3: Securing Your Financial Foundation

Chapter 3 helps you to critically evaluate your financial readiness for retirement, plot strategies for improving your financial foundation, understand Social Security and other retirement programs, and take maximum advantage of Medicare benefits.

3-1      Your Financial Foundation.
Clarifying your financial situation will help you to develop a plan. You will be able to draw on your strengths and address your fears head on. Let’s get focused and start on your journey—a journey that will allow you to accomplish your life list goals and pursue a housing solution that satisfies your living needs within that context.

3-2      Backdrop for the Discussion.
In the prior chapter, you gained a perspective on how long you expect to live and the life list goals you would like to accomplish. You recognize that your life expectancy is an educated guess based on your health, fitness, family history, lifestyle, and so forth. You could live much longer than you expect, or be hit by a bus and die tomorrow. So you need to plan for your expectations while also making provisions for the deviations that could occur.

3-3      Your Balance Sheet.
A balance sheet is a schedule that summarizes your assets, liabilities, and net worth. Assets are what you own, liabilities are how much you owe, and the difference between the two is your net worth. A sample balance sheet template is shown in Downloadable Template 3-1.

Note: Since you are on the website, go to the DOWNLOADS tab and download a blank copy of Template 3.1 that you can edit, and use to input your own numbers as you work your way through Chapter 3.

3-3-1 Some Comments About Line Items on Your Balance Sheet.
You may be only vaguely familiar with how a balance sheet is constructed. To help you assemble data so you can construct your own, this section provides brief explanations of what various line items on the balance sheet represent.

3-4      How Much Do You Need for Everyday Living?

3-4-1 Estimate How Much Money Your are Going to Need.
Some financial advisors recommend that you set your annual post-retirement spending budget at about 70 to 80 percent of your annual pre-retirement income in order to maintain your standard of living after you retire.

3-5      What income Sources Do You, and Will You, Have?
The purpose of this section is to help you start thinking about how your income and expenses will be changing over the coming years. We will apply these thoughts later when we talk about your plan.

3-6      What Expenses Will Your Have?
After you reach retirement, it could take a while for you to gain a comfortable feel for the amount of money you will need to live each month. Most people do not closely track the full extent of their spending while they are working. In retirement, necessity may dictate a change. Your income will likely be relatively fixed; spending will be the factor you can vary and control.

3-6-1 Determining Where Your Are Spending Your Money.
Calculating your cash outflows may be easier than you think. You likely use electronic transfers (ACH), debit cards, and credit cards for much of your spending, which means you have a lot of transaction records from which to draw data. Even the portion of expenses you pay in cash can be estimated pretty closely.

3-6-2 Retirement Reduction of Expenses.
When you retire, the type and level of your expenses will change, in many cases going down. Some key areas where you may have post-retirement expense reductions include:

  • – Reduced costs of commuting to work
  • – Reduced vehicle costs: if you can live without a second car, sell it and save on insurance, license tags, parking, and other fees and costs
  • – Reduced need for professional clothing
  • – Reduced “time saving” costs of convenience items
  • – No office-related costs (lunches out, chipping in for gifts, office pools)
  • – Reduced costs for food and services due to qualifying for senior discounts and promotions, and having more time to look for bargains
  • – Reduced travel costs using senior discounts and taking advantage of having more scheduling flexibility to book ahead
  • – Reduced fees for items you will no longer want or need
  • – Reduced income and sales taxes

3-6-3 Expenses You Will Incur.
The following are some of the major categories of expense you will likely encounter after you reach retirement.

  • – Housing expense
  • – Debt payments
  • – Taxes
  • – Utilities
  • – Insurance
  • – Food
  • – Health care
  • – Transportation
  • – Household
  • – Personal
  • – Emergency
  • – Life list

3-7      Summarizing It All.
Downloadable Template 3-4 will help you to summarize your current and expected income and expenses.

3-8      Other Strategic Actions You Can Take to Achieve Post-Retirement Benefits.
Table 3-3 in this section summarizes actions to take to achieve one or more of the following strategic benefits:

  • – Secure healthcare for the future
  • – Capitalize on pre-retirement opportunities
  • – Protect your assets
  • – Maximize current investments
  • – Maximize benefits received
  • – Simplify, downsize, prioritize, accomplish

3-8-1 Maximize Your 401(k), 403(b), 457, TSP, or SIMPLE IRA Contributions.
In recent years, defined contribution retirement accounts have become more common. Under these plans, you contribute money to the plan through payroll deduction or otherwise. Your employer or another designated entity may be responsible for administering the investment of the contributed funds. You are responsible for picking how the funds will be invested.

3-8-2 Maximize Your Health Savings Account (HSA) Contributions.
If you buy a high-deductible health insurance plan (HDHP) through your employer, you are eligible to fund a health savings account, or HSA. The HSA program allows you to make pre-tax contributions into a health savings account, which is used for payment of qualified medical expenses. Even though you receive a tax deduction for putting the money into your HSA, you will not have to pay tax on money taken out if the money is used for eligible medical expenses. And the money earned on your savings is also not taxed when earned, and not taxed when withdrawn if used for medical expenses. HSA’s are triple-tax-advantaged savings plans!

3-8-3 Buy Long-Term Care Insurance Now.
The average age that someone goes into a skilled nursing facility is 80, with a typical stay of 3 years. The average cost for that stay could be about $700,000. Maybe a wealthy person can afford that, but most people cannot.

Long-term care insurance can help meet these costs. Under a long-term care policy, you pay premiums for the insurance, and if you get hurt or sick and incur costs for care, the insurance will pay many of the costs and may also pay you for lost income while you are laid up.

3-8-4 Keep Funding Your Existing Whole Life Insurance.
As you grow older, your need for life insurance changes. When you were a young adult, you had to worry about what would happen to those dependent upon your income just to live and perhaps to afford big expenses, like college and weddings. Life insurance was the vehicle to provide that protection.

Your needs for term life insurance may be diminished or no longer exist, but there are many uses and values of whole life insurance policies that go well beyond death benefits.

3-8-5 Make Sure Your Are Properly Insured Against Relevant Risks.
In addition to long-term care and whole life coverage, other types of insurance you should consider are medical, dental, vision, homeowner’s or renter’s, auto, personal property, general liability, business, and other forms of specific coverage that may be relevant to your circumstances, such as for flood or earthquake damage. A prudent course is to obtain insurance against risks to which you have the greatest exposure.

3-8-6 Avoid One-Time or Recurring Large Cash Outflows for the Benefit of Others.
A common mistake that people nearing retirement make is giving too much money to adult children and having little left for their own retirement savings. Parents are in the habit of paying for things for their kids, and it is difficult to stop. Paying out large sums for the benefit of adult children at this age, however, can be a big retirement killer.

3-8-7 Keep a Diversified Portfolio.
Do not become too conservative with your investments too soon. Manage your investments so that you have exposure and opportunity in diverse asset classes, so you are less likely to be wiped out by a single big market move against you.

3-8-8 Avoid Making Withdrawals in a Down Market.
Markets are prone to overreacting to news and events. Do not overleverage yourself to the point that you are forced to sell assets when they are down in price.

3-8-9 Look for Investments with Dividends and Interest.
Do not rely solely on capital gains from your investments. Look for current income as well.

3-8-10 Buy an Annuity – If the Costs Are Not Excessive.
An annuity is an insurance or investment contract under which you receive a fixed sum of money each year, typically for the rest of your life. Annuities are a popular choice for investors who want to receive a steady income stream in retirement.

3-8-11 Take Advantage of Senior Discounts.
Many companies and organizations will offer price discounts and special services to you once you reach a certain age, which is usually 60, 62, or 65. Take advantage of these offers where they exist.

3-8-12 Get rid of Your Stuff Now While You Can Still Do So in an Orderly Fashion.
Chapter 4 is devoted to helping you find outlets for your belongings and come to grips with parting with it all. As such, we will not spend much time on it here. To the extent you would like to sell your items, start now.

3-8-13 Make Charitable Contributions Now While You Are Still Earning Income Against Which You Can Get a Tax Deduction.
Think about what items you might want to donate to charity over the next few years, and consider donating them now. Charitable contributions are generally tax deductible, but they only have a deduction value to the extent that you have income.

3-8-14 Consider a Reverse Mortgage.
Chapter 10 is devoted to the topic of reverse mortgages. This type of mortgage is not for everybody, but it can be a very helpful tool to help you replace amortizing debt as well as generate a tax-free monthly income.

3-9      Bibliography for Chapter 3.

Appendix 3.1: Create Your Retirement Plan.
Money, health, housing, and family are primary topics that you need to consider when planning what you are going to do as you grow older. A good retirement plan considers where you will live, how you want to spend your time, and how to communicate financial plans to your children.

A 3.1-1   Modeling John and Karen’s Retirement Scenarios.
John and Karen determined that since they were born in 1960 and 1961, according to Social Security Administration guidelines, their “Normal Retirement Age” in order to receive 100% of their Social Security benefits is 67 (as shown in Appendix Table 3.2-1).

Appendix 3.2: Government Retirement Plans and Medicare.

A 3.2-1   Federal Employees Retirement System (FERS).
FERS is a retirement plan that provides benefits to federal government employees from three different sources:
• A Basic Benefit Plan
• Social Security
• The Thrift Savings Plan (TSP)

Social Security and the TSP can go with you to your next job if you leave the federal government before retirement. The Basic Benefit and Social Security parts of FERS require you to pay your share each pay period.

A 3.2-2   Social Security.
If you spent any portion of your working career in the private sector, you likely saw a significant portion of your earnings going to a tax line item called FICA, which is an acronym for Federal Insurance Contributions Act. FICA tax is the mandatory amount withheld from your paycheck to pay for Social Security retirement benefits.

A 3.2-2-1   How Social Security Works.
Social Security benefits include monthly retirement, survivor and disability benefits. Retirement benefits are targeted to start when you are about 65 – 67 (“Normal Retirement Age”, or “NRA”), depending on when you were born. The monthly amount received if you begin drawing benefits at your NRA is called your Primary Insurance Amount, or PIA.

A 3.2-2-2   The First Question – What is Your Expected Monthly Full Retirement Benefits Amount (PIA)?
Your Social Security PIA payments are calculated based on the 35 years in which you earned the most and were paying FICA tax. If you did not work 35 years, or were not working in the private sector and paying FICA taxes for 35 years, zeros are averaged into the calculation for any shortfall years, and result in a smaller payout.

A 3.2-2-3   The Big Question – When Should You Start Drawing Benefits?
Appendix Table 3.2-1 below was taken from the Social Security Administration website at The table shows the percentage of your expected PIA that you will receive monthly, dependent on the age at which you choose to begin drawing benefits.

A 3.2-2-4   Some Other Factors to Consider.
You should spend some time on the Social Security Administration website. It is easy to navigate and very informative. Here is a sampling of further information that may factor into your Social Security benefits decisions.

A 3.2-2-5   Taxation of Social Security Benefits.
Part of your Social Security benefits may be taxable. As of this writing, to find out whether any of your benefits may be taxable, you need to compare the sum of the two items with a so-called “base amount” for your tax return filing status.

A 3.2-2   Medicare.
Aside from FICA tax, it is likely that you also paid a Medicare tax on earnings from your employment. Medicare is the federal health insurance program primarily for people who are 65 or older. Similar to Social Security, Medicare is an entitlement program. Most U.S. citizens earn the right to enroll in Medicare by working and paying their taxes for a minimum required period.

A 3.2-3-1 The Four Parts of the Medicare Program.
There are four different parts to the Medicare program. Parts A and B are often referred to as Original Medicare. Medicare Part C, or Medicare Advantage, is private health insurance, while Medicare Part D offers coverage for prescription drugs.

A 3.2-3-2 Medicare has Enrollment Deadlines – Do not be Late, or it will Cost You.
If you sign up for Social Security benefits by the age of 65, you will be automatically enrolled in Medicare parts A and B, and coverage will begin the month you turn 65. But if you have not claimed Social Security by age 65, you will need to take action to sign up for Medicare.

A 3.2-3   Medigap Plans.
Medigap policies are private supplemental insurance plans that can be used to pay for some of Medicare’s cost-sharing requirements and sometimes services that Original Medicare does not cover.