Retirement can be both exciting and daunting. You’ve spent years saving and investing, but once that steady paycheck stops, the big question looms: how will you replace your salary? Read these practical strategies to ensure you have a stable retirement income, using a simple yet expert approach that’s easy to understand. Let's break down the process of creating a "retirement paycheck."

Why You Need a Plan for Retirement Income

Whether you retire early due to choice or circumstances like a layoff, retirement planning is crucial. The reality is that many of us retire sooner than expected, and living longer means making your retirement savings last for potentially 30 years or more. This becomes even more important if you retire in your 50s because you may still have ongoing expenses like a mortgage, healthcare, or even tuition fees for your children.

So, where do you start? Let’s go through the key steps to ensure your retirement paycheck doesn’t run out.

Step 1: Identify Your Essential Expenses

The first step in planning your retirement income is figuring out how much you’ll need each month to cover the basics. Start by listing your regular expenses:

• Housing (mortgage or rent)

• Groceries

• Insurance

• Transportation

• Utilities

But don’t stop there—include discretionary expenses such as travel, dining out, and gifts. This gives you a realistic snapshot of your required monthly income.

Track your retirement progress with this free, easy-to-use calculator

Step 2: Maximize Social Security Benefits

Maximizing your Social Security benefits is crucial for a steady retirement income. The timing of when you start collecting affects how much you'll receive each month. Here are five strategies to help you get the most from your Social Security.

Timing is Key

Social Security allows you to begin collecting benefits as early as age 62, but there’s a trade-off. Claiming before your full retirement age means permanently reduced payments. For most people, full retirement age falls between 66 and 67, depending on your birth year. By waiting until this age, you receive 100% of your entitled benefit. If you claim earlier, your monthly check could be significantly smaller, which could make a big difference in your long-term financial stability. This reduction lasts for life, so it's crucial to think carefully about when to start.

Increase Benefits by Waiting

If you wait past your full retirement age, you’re rewarded with a higher monthly payout. For every year you delay beyond your full retirement age, your Social Security benefit increases by about 8%, up until age 70. This means if you hold off until you turn 70, your benefits could be up to 32% higher than if you started collecting at 62. For those who can afford to wait, this increase can provide a substantial financial cushion, especially if you expect to live a long life. This extra income can help cover medical costs or unexpected expenses in the later years of retirement.

Married? Delay the Higher Earner’s Benefits

For married couples, a powerful strategy involves delaying the benefits of the higher-earning spouse. This helps ensure that the larger benefit is maximized, which is particularly important for long-term security. If one spouse passes away, the surviving spouse can claim the larger of the two benefits, making this strategy crucial for protecting financial stability later in life. Delaying the higher earner’s benefits helps ensure that the surviving spouse has enough income to live comfortably, reducing the risk of financial hardship.

Widowed or Divorced?

If you’re widowed, you have the option to claim either your own Social Security benefits or up to 100% of your deceased spouse’s benefits, whichever is higher. This allows you to continue receiving a steady income even after your spouse passes away. For divorced individuals, if your marriage lasted at least 10 years, you may still be eligible to collect benefits based on your ex-spouse’s earnings. This is especially helpful for those who may not have a large retirement income of their own but can rely on their former spouse’s Social Security record to help sustain them in retirement.

Get Expert Advice

Deciding when to claim Social Security benefits is a critical financial decision. It’s not a one-size-fits-all choice. Factors like other retirement savings, your health, life expectancy, and income needs all play a role in determining the best time to start collecting. Consulting with a financial advisor can provide personalized guidance to ensure you make the most of your Social Security benefits. They can help you develop a strategy that fits your financial goals and ensures you have the income you need throughout your retirement.

Step 3: Build a Retirement Paycheck with Your Savings

After Social Security, your retirement paycheck will likely come from other sources like pensions, 401(k)s, and IRAs. The key to making these funds last is knowing when to tap into them and how to do so wisely. A well-structured withdrawal plan can ensure you maximize your savings while minimizing taxes. Here’s how to get the most out of your retirement accounts and create a steady income stream for the long term.

Know Your Income Sources

Beyond Social Security, you may have several other sources of retirement income, such as employer pensions, 401(k)s, traditional IRAs, Roth IRAs, or even annuities. Each income source comes with its own rules and tax implications. Understanding these rules is essential for avoiding penalties and ensuring your income lasts. Pensions typically offer either monthly payments or lump-sum distributions, while 401(k)s and IRAs give you flexibility but also require careful planning around when and how much to withdraw.

Track your retirement progress with this free, easy-to-use calculator

Create a Tax-Smart Withdrawal Plan

Taxes play a significant role in determining how long your savings will last. A common strategy is to withdraw from taxable accounts first, followed by tax-deferred accounts like traditional 401(k)s and IRAs, and finally from tax-free accounts like Roth IRAs. This method helps maximize the tax-deferred growth in your retirement accounts, allowing you to keep more of your money invested and growing for as long as possible. The goal is to minimize your tax bill while maintaining a steady income.

Use the Rule of 55

If you leave your job at or after age 55, the Rule of 55 allows you to start withdrawals from your 401(k) without facing the usual 10% early withdrawal penalty. This can be a helpful option for those who retire early and need access to their retirement funds sooner. However, this rule only applies to 401(k) accounts under your current employer, so it's important to understand the specifics of your plan before making withdrawals.

Step 4: Consider a Diversified Investment Portfolio

While it might be tempting to switch to ultra-conservative investments once you retire, doing so could limit your portfolio’s growth, especially in a low-interest-rate environment. A well-diversified portfolio that includes a mix of fixed income, equities, and even real estate can help sustain your retirement income over the long term.

Fixed Income Options:

• Dividend-paying stocks

• Real estate investment trusts (REITs)

• Bonds

These investments offer reliable income streams and can act as a hedge against market volatility. Still, it’s important to consult with your advisor to ensure you’re not over-exposed to risk, especially as market conditions and inflation rates change over time.

Step 5: Regularly Review Your Retirement Plan

One of the biggest mistakes retirees make is assuming that once they have a plan in place, they’re done. In reality, your financial needs and market conditions will change, so it's essential to review your retirement strategy regularly. Sit down with your financial advisor annually to adjust for inflation, market shifts, or any changes in your life circumstances, such as healthcare needs or new financial goals.

This periodic review will help you stay on track and ensure that your retirement paycheck will last for the duration of your retirement—whether that’s 10 years or 30.

Track your retirement progress with this free, easy-to-use calculator

Step 6: Manage Taxes Effectively

Taxes can eat into your retirement income if you’re not careful. As you withdraw from your retirement accounts, you need to be mindful of how these withdrawals affect your tax bracket. A good rule of thumb is to withdraw from taxable accounts first, as mentioned earlier, to maximize your tax deferral benefits.

For those with significant savings in tax-deferred accounts like traditional 401(k)s or IRAs, it may be beneficial to implement a tax-smart Roth conversion strategy or to start withdrawals before reaching the required minimum distribution (RMD) age. Starting earlier may reduce the size of your future RMDs, which are taxed as ordinary income.

Step 7: Factor in Health Care Costs

Health care is one of the most significant expenses retirees face, especially if you retire before becoming eligible for Medicare at age 65. Private health insurance can be costly, so it’s essential to factor this into your retirement budget.

Consider options like Health Savings Accounts (HSAs) to cover qualified medical expenses. If you’ve been contributing to an HSA throughout your working years, you can withdraw those funds tax-free for medical expenses in retirement.

Step 8: Explore Additional Income Streams

In retirement, many people find that Social Security and savings alone might not cover all their expenses. Exploring additional income streams can provide a financial cushion and offer more flexibility. Whether it's through part-time work, consulting, or rental income, these options can help bridge the gap between your retirement paycheck and your lifestyle needs.

Part-Time Work or Consulting

Some retirees choose to stay engaged in the workforce through part-time jobs or consulting work. This can not only supplement your income but also provide a sense of purpose and structure. For those with specialized skills or a wealth of experience, consulting can be a particularly lucrative option, allowing you to work on your terms while earning extra income. However, keep in mind that if you’re under full retirement age and earn more than the annual limit, your Social Security benefits may be temporarily reduced. The limit changes annually, so it’s important to stay informed to avoid surprises.

Rental Property Income

Renting out property, whether it’s a vacation home or an investment property, can be a steady source of income during retirement. However, owning rental property comes with its own set of responsibilities, including property management, maintenance, and dealing with tenants. For some, this can be more of a burden than anticipated, so it’s essential to weigh the pros and cons. Additionally, rental income is taxable, so you’ll need to plan accordingly to avoid any tax surprises.

Consider the Risks and Benefits

While these additional income streams can provide extra financial security, they also come with risks. Part-time work may reduce your Social Security benefits if you haven’t reached full retirement age, and rental properties require ongoing maintenance and could even experience vacancies. Always consider whether these income sources align with your retirement goals and lifestyle. For some, the added responsibility may not be worth the effort, while others might enjoy the extra challenge and income.

Align with Your Retirement Lifestyle

The key to exploring additional income streams is ensuring they fit seamlessly with your retirement lifestyle. If you’re planning to travel frequently or have more leisure time, managing a rental property or working part-time might not be ideal. On the other hand, if you enjoy staying busy and the structure of a job or property management, these options could work well for you. Carefully evaluate your personal goals, energy levels, and financial needs before diving into any new income opportunities.

Bottom Line

Creating a reliable retirement income plan involves more than just saving during your working years. You need to balance withdrawals, investments, and taxes to ensure your retirement savings last. Work closely with a financial advisor to regularly review your plan and adjust it as needed.

A retirement income plan is not set in stone. It should evolve as your financial needs change and market conditions shift. By following these steps, you can replace your salary with a "retirement paycheck" that supports you throughout your golden years.

Reference

Harper, M. J. (2024, January 8). Diversification in retirement planning. Merrill. Retrieved from https://www.merrill.com/articles/diversification-in-retirement.html

Williams, R. (2024, August 16). 5 rules for building a retirement income strategy. Schwab. Retrieved from https://www.schwab.com/articles/retirement-income-strategy

Howard, C. (2024, August 16). Creating a bond ladder for steady income. Schwab. Retrieved from https://www.schwab.com/articles/bond-ladder-income

Schwab. (2024). Retiring early? 5 key points about Rule 55. Schwab. Retrieved from https://www.schwab.com/learn/story/retiring-early-5-key-points-about-rule-55

FINRA. (2024). Sources of retirement income. FINRA. Retrieved from https://www.finra.org/investors/learn-to-invest/types-investments/retirement/managing-retirement-income/sources-retirement-income