Retirement Strategies Pre-Retirees Can Plan Now

By Mark MacGillivray

A 2020 economic study uncovered information that suggests many older workers chose early retirement because of the pandemic. Yet CNBC reported that as of the fourth quarter of 2020, Americans between the ages of 50 and 59 have an average 401(k) balance of only $203,600. However, people in this age bracket should aim to have at least six times their salary saved by that point.

This gap is why many people now need to consider how to stretch their retirement savings. Pre-retirees in particular — those age 50 and older — are likely considering retirement options and strategies that will provide them with the safety and security that currently feels more precarious because of the pandemic.

Pre-retirees should be in retirement planning mode. Although they cannot yet touch their 401(k) without penalty, now is the time to learn about the options that will bolster and protect their savings so that their money will continue to grow in retirement. Essentially, pre-retirees can plan for retirement now in order to make the most of it later.

Turning A 401(k) Into A Payment Stream

Many 401(k) accounts have pre-determined time frames for retirement, where asset allocation gets more conservative the closer one gets to leaving the workforce. That sum of money has been built up over decades, and there are ways to protect it (and grow it) in case of market volatility. Older workers don’t know what to do with their 401(k) beyond letting it sit and build interest, so it’s important to help them understand that there are options for protecting their savings so they can be sure they have it later (or when they need it).

Once someone is of retirement age and separated from the employment where they had their 401(k), they can roll over a portion of their 401(k) into an annuity to accumulate safe interest. Many annuities are actually purchased with pretax funds (also known as qualified funds) such as 401(k)s. For those who don’t have 401(k)s, Roth or traditional individual retirement accounts are also options that can be set up and contributed to by an individual and be used to purchase an annuity.

Even when in retirement, it’s a best practice to protect some of your savings and continue to let it grow. This is why a partial rollover from a 401(k) or other pretax account into a fixed annuity can be a good option. And for those who have potentially saved less, such as the majority of the American population, it’s more important to protect what is there now to help it grow later. (See chart.)

As you can see, the initial deposit of $150,000 grew by $43,000 into more than $193,000 over a 7-year period. Then it was annuitized into a monthly retirement payment stream of $1,121.13. Whether 401(k) funds are limited or not, putting a portion into a fixed annuity helps stretch those savings and make them last longer for a few reasons. Some annuity interest rates do not fluctuate during their fixed period. As interest is credited, those earnings are locked in; funds will never decrease if the market goes down.

By tying an annuity’s interest crediting to the index, the funds can participate in general market gains. At the same time, they are protected from downturns.

Short-Term Annuities

There are both short-term and long-term annuities to choose from, and for pre-retirees it’s good to consider the benefits associated with each.

Deposited funds in a short-term annuity, such as a fixed or index annuity, are protected and guaranteed, and the holder can choose to receive payments immediately or defer payments until a later date. While the annuity holder can decide when to take payments from the amount that has accumulated, interest continues to grow tax deferred until money is withdrawn.

Short-term fixed annuities can make a great bridge for early retirement, providing income before the client touches their 401(k).

Long-Term Annuities

Long-term annuities, such as a fixed deferred annuity, can act as a future payment stream, similar to a pension. As referenced in the chart, as an annuity’s interest builds, so does its future payout. No matter what happens in the market during the chosen annuity duration, the annuity’s principal is protected, as is the guaranteed minimum interest rate.

Fixed annuities can act as a long-term savings plan that provides future income to supplement retirement income. Longer-term annuities typically earn a higher rate because those funds are used to make longer-term investments (which generally pay higher returns). They are a long-term income replacement plan across a fixed amount of time to reduce the odds that someone will run out of money in retirement.

Making A Plan

Those who are approaching retirement age have much to consider, and it’s best to figure out a plan beforehand. Fortunately, it’s never too early to do so. Whether a client is forced to unexpectedly retire early or late, making their funds last is their fundamental goal.

Pre-retirees can educate themselves now so that by the time they retire they can do so with more confidence. After all, the closer one gets to retirement, the better it is to understand which options, such as annuities, help to make the most of it.