Life consists of three phases for most US citizens: childhood, working life, and retirement. And much like the education you receive during childhood prepares you for your adult life, your working years should prepare you for retirement. That means putting some money aside for later, as you won't have the same income stream as a retiree. You could simply put your retirement savings into a long-term savings account, or maybe you'll want to rely on Social Security retirement benefits. That being said, there are multiple financial vehicles specifically designed with the requirements of retirees in mind, which might provide you with a steadier income stream. These can give you more financial freedom to live the rest of your life in the manner you’re accustomed to.
Most options for retirement become more lucrative if you start investing in them early in your life – start your retirement planning now!
Depending on which type of retirement account you have, you will likely have to pay taxes on any income derived from it. The total amount of taxes you owe typically depends on how much money you receive from your retirement account, whether you're married and whether you file joint income tax. One notable exception to this are withdrawals from Roth IRAs, which don't incur income tax.
Tax laws are complicated and subject to change. Make sure to check in with a financial advisor or lawyer experienced in US tax laws to get a clear picture of the amount of taxes your chosen investment vehicle will incur.
Retiring isn't cheap. That's why, you should consider all long-term options in retirement planning. Let's look at some of the most common ways to prepare for retirement financially.
Relying on Social Security Retirement Benefits
When you make money and pay taxes, some of those taxes go towards the Social Security Administration. The SSA uses this money to pay benefits to eligible US citizens. The amount of money you receive as a retiree is calculated using the highest 35 years of earnings and the age at which you have retired. So the more money you make in your job and the later you retire, the more retirement income you receive.
Keep in mind, however, that you will only receive benefits if you've earned a specific number of credits towards retirement benefits during your working life. So if you had a high-paying job, but you haven't accumulated enough credits – perhaps because you were unable to work for a significant amount of time due to chronic illness – you may not be eligible for benefits from the SSA as a retiree, despite having paid taxes on all of your earnings.
Another big disadvantage of relying on this system is that you cannot effectively influence the amount of money you receive (other than trying to hold well-paying jobs). Since the SSA takes your tax money and redistributes it to eligible US citizens, you can't effectively invest that money long-term to increase your benefits, allowing you to retire early. This is why high net-worth individuals rarely rely solely on Social Security benefits to prepare for life as a retiree.
One old-fashioned way of saving money for retirement is savings accounts. You put your capital in and receive interest every year, slowly growing your wealth. Unfortunately, the amount of growth you can get from a savings account these days is almost negligible, due to low interest rates. In fact, your wealth may actually diminish as inflation may outpace interest rates.
There is almost no situation where keeping your money in a retirement savings account is preferable to actively investing it to build wealth for retirement.
If you're an avid investor, you may want to keep relying on your investing skills once you've turned retiree. For example, you can keep investing your money in our sophisticated quants with 15%+ targeted returns using the CARL app – there's no age restriction here. The app makes researching hedge funds and investing your money easy. And no worries, investing with CARL isn’t a nine-to-five job that keeps you from enjoying your retirement.
The disadvantage here is that returns from stocks, mutual funds, hedge funds, etc., can vary according to how well your investment does. Imagine you're investing all of your money, relying solely on the returns to pay your rent, your mortgage, or any other regular financial obligation. Now imagine the economy falls into a recession. If you want to play it safe, then the stock market, hedge fund investments, etc., should only be used as a supplement for your regular income derived from a retirement plan with a steady, dependable retirement income.
Withdrawing Money from your Life Insurance
The primary purpose of a life insurance policy is to benefit your heirs. You pay a monthly premium, and should you pass away, the amount of money in your life insurance account will be paid out to your next of kin. However, you can also withdraw money from your life insurance account to provide you with an effective regular retirement income.
Simply put, you pay money into your life insurance to ensure your family will be taken care of if the worst were to happen. But once you reach retirement age, your children are probably financially stable with their own incomes, so you might as well take advantage of the money you put into your life insurance.
Many companies offer 401(k) plans, either as traditional or Roth 401(k) plans. This means part of your monthly paycheck goes into a retirement account. This is a popular way of investing for retirement, as contributions to the retirement account are automatically taken, and depending on the exact nature of the plan, your employer may match your contribution. Qualifying contributions may even be tax-free in a Roth 401(k).
The main disadvantage of this type of investment for retirement is the simple fact that not all employers sponsor 401(k)s. You cannot benefit from a 401(k)-retirement plan by definition if you're self-employed.
There are a large variety of other annuities which function similar to Social Security retirement benefits. You either pay a lump sum or a monthly premium into an account, and the annuity pays out a specified amount of money to you over a specified period of time or until your death.
Immediate annuities start paying out money immediately, while deferred annuities start paying out beginning at a specified age (e.g., your retirement age). While standard "fixed" annuities pay out a fixed amount of money, variable annuities can pay out different amounts of money, depending on how well the investments made with the money in the account pan out. Every annuity operates on a system of three phases:
- The surrender period is a set time frame in which you cannot withdraw money from the annuity – unless you can pay the penalty to withdraw.
- The accumulation phase describes the timeframe over which you contribute monthly tax-deferred premiums to your annuity.
- The annuitization phase starts once you start receiving your regular payments.
Annuities effectively work the same as Social Security benefits, except you're not reliant on the SSA calculating your benefits based on your previous income. You can seek out different offers from different providers and choose the one which is most in line with your financial requirements.
Individual retirement accounts are a type of investment account that benefits from tax advantages to facilitate being used as a retirement fund. The money you put into your traditional IRA is tax-deductible – you'll only pay tax on the withdrawals you make. Traditional IRAs also follow several rules designed to prevent the system from being used for non-retirement purposes. For example, there is a maximum amount of money you can put into your IRA per year. And once you turn 72, you need to withdraw a minimum amount of money every year or incur a penalty (required minimum distributions).
Meanwhile, Roth IRAs aren't tax-deductible, but the withdrawals are tax-free. Contribution limits are identical to traditional IRAs, though there are no required minimum distributions. However, there is a maximum income level for eligibility for a Roth IRA. Put simply, the advantage of a Roth IRA is that it makes your withdrawals during retirement tax-free, but this type of IRA is only open to people of lower-income brackets.
Either of these types of IRAs may be set up as a "self-directed IRA". This type of account gives you greater control over what your money is invested in, and it opens up alternative investment options for you. For example, standard IRAs aren't allowed to invest in real estate or hedge funds, while self-directed IRAs are. This allows a self-directed IRA to take advantage of the 15%+ targeted returns and the in-built risk controls which CARL's quant hedge funds offer. In turn, this may increase the value of your self-directed IRA significantly compared to what you might be able to achieve with a standard IRA, which is limited to investing in stocks, bonds, mutual funds, etc.
Should you invest in a traditional IRA or Roth IRA? How about life insurance or your 401(k)? Nobody can answer these questions for you. You're the one who gets to decide when to retire and how much money you'll need. CARL can't give you investment advice, so you'll need to determine which investment vehicle best suits to your personal needs.
However, CARL believes that self-directed IRAs are the most advantageous solution for most retirees. This is because, on the one end of the spectrum, Social Security benefits are often too low to keep your standard of living, and this retirement plan doesn't offer you the freedom to proactively increase the amount of money you'll receive as a retiree. On the other end, relying on your investments with CARL does provide you with great returns, but the precise amount of money you receive may vary from month to month. So relying solely on investments is risky when your financial obligations remain constant.
Self-directed IRAs are somewhere in the middle of this dichotomy. They offer you the freedom to draw on the power of quants and to make your investment plan independent of low interest rates. At the same time, clever investments can ensure your returns aren't outpaced by inflation. CARL can help you set up your self-directed IRA. We also offer several sophisticated quantitative hedge fund strategies that you can use to potentially multiply the money in your account, thanks to 15%+ targeted returns.
But don't forget: Self-directed IRAs have to abide by annual contribution limits, so if you want to make the most out of your investment and ensure financial stability in your retirement, then this is the right time to start investing with CARL!