Retirement Planning: Retirement Needs Analysis (Module 1)

Difference between medicare part A & part B

- Part A: provides hospital insurance benefits. Covered by social security - Part B: voluntary supplemental insurance. Paid for by individual in the form of premiums

What are the reasons why many practitioners recommend using 70 to 80% of pre-retirement income to estimate retirement income?

- Work related expenses could drop considerably. - Not contributing toward saving for retirement, -such as through 401(K) plans. (You're in retirement) - Not paying payroll taxes on the money that you are receiving. (this amounts to 7.65%) - Mortgage could be paid off. - Children may independent.

Tim Owens, CFP®, works for a money management type firm. The firm has developed various financial products to fit client's needs. The firm has a mathematical method of fitting a client into products. The company has told him that he should follow the computer guidelines. What does the firm not understand? 1. This method will not deal with particular investor biases or fears. 2. This is not the appropriate way to meet client's needs.

1, 2 There is a danger if advisors and their clients concentrate on financial products as a consequence of implementing behavioral finance principals. Rather than products, self-determination is the most important part of applied behavioral finances. It is about building a decision making process to get people to make their own decisions. This means working closely with clients.

Larry and Roberta Young have been told that using a straight-line calculation they will have to save $20,000 per year to meet their retirement goal. Between paying off college debt, raising two children, and just plain living, their budget indicates they can only save $10,000 today. However, they feel they can bring their college debt down and their employment earnings are increasing. What do you suggest they do? 1. Save $10,000 and not worry about the projection 2. Find another financial planner who can do a serial payment 3. Work more years until they retire 4. Increase the projected after-tax return of the projection

2, 3 With a serial payment, the amount of savings increases from year-to-year based on an inflation projection. A serial payment would start smaller today*. *For example, $10,000 today could be $10,800 next year then $11,664 the 3rd year which means they will save 8% more each year. No calculation, concept question only.

Rate of return is 8. Inflation is 3. What is the real rate of return?

8 - 3 = 5. Now divide this result by 1 plus the rate of inflation, expressed as a decimal. 5/1.03 = 4.8544.

Bob and Mary expect to have $300,000 in retirement funds when they retire in 15 years (assuming a 7% investment return rate on current assets). When they retire, they expect to need $22,000 annually which will increase with inflation (3%). They can make an 8.5% after-tax return on their money. They expect their joint life expectancy to be 21 years after retirement. What would you tell them? NOTE: Slightly different calculation. Compare what they expect to have ($300,000) against what they expect to need. a. They are okay. The $300,000 will exceed their needs by more than $10,000. b. They need to increase their pre-retirement investment return rate from 7% to 7.12% to meet their goal. c. They are deficient. The $300,000 will be underfunded by almost $27,000.

A They expect to have when they retire in 15 years $300,000 What they need $22.00 PMT, 5.3398i, 21n = -288,438 PV Excess $11,562 Why begin? Can they wait until the end of the year to get retirement funds? No, always use begin mode for retirement needs unless the question indicates end mode.

Tommy, age 55, plans to retire in 10 years. He plans to convert all his retirement accounts to cash at that time. He has the following accounts. $2,000,000 in profit sharing (currently 60% vested) $500,000 in a deductible IRA $1,000,000 in a non-qualified variable annuity originally purchased for $500,000 Presuming Tommy can make 5% on these accounts and he will be in a 50% federal, state, and local combined tax bracket, how much will he realize after paying the taxes? a. $3,100,566 b. $2,340,508 c. $2,199,008 d. $2,600,566

A 3,500,000 PV, 5i, 10n = $5,701,131 FV [$5,701,131 - 500,000* (basis)] x 50% = 2,600,566 $2,600,566 + $500,000* = $3,100,566 *Why subtract and add the $500,000? The annuity ($500,000) was purchased with after-tax dollars.

Toby Adams has determined he needs $350,000 when he retires in 12 years. He plans to start a level savings program making payments at the beginning of each month. He estimates his pension plan will have accumulated $150,000 in 12 years. He anticipates that he will earn an average 11% after-tax return and that inflation will average 5%. What monthly payments should he make? a. $668 b. $901 c. $1,587 d. $1,557

A The question never says in "today's dollars." Inflation is not a factor in the calculation. Begin mode 10BII/17BII+ 12 P/YR, $200,000 FV, 11 I/YR, 12 gold xP/YR, PMT = $667.66 12C $200,000 FV, 11 enter 12 ÷ i, 12 enter 12 x n, PMT = $667.66

Mr. and Mrs. Nan now have $130,000 in their retirement savings account. They hope to retire in 20 years and want to accumulate sufficient assets to support a 25-year post-retirement period. Assume they make no more additions to the retirement account. They expect to earn on average 10% on the account until they retire and then 7% on the account during retirement. What amount of income should they expect to receive each month during retirement? a. $6,254 b. $6,145 c. $9,955 d. $9,897

B Begin Mode HP 10BII/17BII+ 1 P/YR, $130,000 ± PV, 10 I/YR, 20 N, FV = $874,575 12 P/YR, $874,575 ± PV, 7 I/YR, 25 gold xP/YR, PMT = $6,145 HP 12C $130,000 CHS PV, 10 I, 20 n, FV = $874,575 $874,575 CHS PV, 7 enter 12 ÷ i, 25 enter 12 x n, PMT = $6,145

Joe works at the local PM plant. He is 55 and plans to retire at age 65. He has been a union member but is about to accept a management position. He wants to retire on $2,000 per month (begin). The union estimates his benefits will be $1,000 per month at age 65. PM has a 401(k) with no company matching. How much does Joe need to contribute to PM's 401(k), at the end of each month assuming a 10% return and presuming that he will live to age 95? [Joe has not started contributing to the 401(k) yet.] a. $1,177 b. $561 c. $677 d. $771

B First calculate the amount needed at 65 to pay $1,000 per month (begin). Why begin? A retiree can't wait until year end for benefits. 10BII/17BII+ (Begin) 12 P/YR, $1,000 PMT, 10 I/YR, 30 gold xP/YR, PV = $114,900 Then discount that value back to age 55. (End) $114,900 FV, 10 I/YR, 10 gold xP/YR, PMT = $561 12C (Begin) $1,000 PMT, 10 enter 12 ÷ i, 30 enter 12 x n, PV = $114,900 Then discount that value back to age 55. (End) $114,900 FV, 10 enter 12 ÷ i, 10 enter 12 x n, PMT = $561

Horace Jones has asked a financial planner to do a projection based on a reasonable return but an exceptionally long retirement period plus a large dollar amount remaining when he dies at the end of that period. His concern is that both he and his wife have had family members live well beyond normal life expectancies. The result with inflation is a dollar amount at normal retirement age that is way beyond what Horace can save per year. The financial planner showed both level savings and a serial payment (increased savings each year) but neither could reach the client's goals. What should the financial planner suggest? a. Horace should invest more aggressively to achieve a higher return. b. Horace should work a second job c. Horace should increase his age to retire. d. At retirement, Horace should buy a single life (pure life) annuity.

C Buying a single life (pure life) annuity at retirement will be a level payment for his life but there is no inflation hedge or residual value for his wife. If he increases his years to retirement, he can save more. Then his years in retirement are fewer with more money available to fund his goals

Samantha Kruger asked you, "What is the best way to save for retirement?" How would you answer her? A. A taxable account B. A tax-deferred plan C. Social Security D. Relying on someone else to provide for you

Correct Answer: B. A tax-deferred plan Explanation: In retirement planning, the fact that taxes affect personal financial decisions cannot be overstressed. Of the many options available, using a tax-deferred retirement plan is most beneficial because they allow investment earnings to go untaxed until the earnings are removed at retirement. Social Security, an employer's retirement plan and an IRA may or may not be taxed.

A retirement planner must have detailed information about the client's current and future assets and liabilities. Which of the following is not of much use in developing a retirement plan? A. A court order requiring the client to pay child support for the next 15 years B. The book value of the client's closely held corporation as determined one year ago C. An outstanding judgment from a lawsuit against the client D. A large outstanding federal tax liability of the client

Correct Answer: B. The book value of the client's closely held corporation as determined one year ago Explanation: Book value is of little use in developing a financial or retirement plan. Therefore assets must be valued at the time of retirement planning. In obtaining asset information, liability information must not be overlooked. This includes legal obligations, such as future alimony or child support, that involve a recurring obligation, settlement payments that are outstanding, state or federal tax liabilities outstanding or fines or judgments not yet fully paid.

Russell and Charmin have current living expenses that equal $57,000 a year. Assuming 80% replacement, estimate the amount of income they will need to maintain their level of living in retirement. Assume their average tax rate will be 13%, not including inflation. A. $43,291.84 B. $32,279.83 C. $52,413.79 D. $38,927.32

Correct Answer: C. $52,413.79 Explanation: Russell and Charmin will need 80% of their current living expenditures of $57,000. Tax must then be added at the estimated average tax rate of 13%, using the formula retirement income/(1-tax rate). $57,000 x 0.80 = $45,600 $45,600/(1-0.13) = $45,600/0.87 = $52,413.79

The process of planning for retirement can be effective only if the planner has certain detailed information about the client's expected employee plan benefits. Which of the following is least helpful in accurately forecasting the level of retirement plan benefits that will be available? A. Summary Plan Description for any plan in which the employee participates B. Literature published by a company in its benefits manual, describing the benefits provided to the employee C. Literature describing a benefit plan in which the employee previously participated but no longer participates D. The client's impression of what his or her benefit programs will provide

Correct Answer: D. The client's impression of what his or her benefit programs will provide Explanation: Retirement planning requires complete information about all employee benefit plans in which the client and the client's spouse are currently participating or have ever participated. In order to accurately forecast the level of employee benefits available, the planner needs to see actual benefit plan documents. It is not enough to rely simply on the client's informal impression of what his or her benefit programs provide. ERISA-affected plans provide a Summary Plan Description (SPD). Most companies provide a benefits manual or other literature for non-ERISA plans.

When planning an annuity payout, there are several options from which to choose. Which option provides the retiree's beneficiary with benefits until the end of a specified period, if the retiree dies within that period? A. single life annuity B. lump sum payments C. joint and survivor annuity D. annuity for life with certain period

Correct Answer: D. annuity for life with certain period Explanation: Under an annuity for life with certain period a person will receive payments for life, but if he or she dies before the end of a certain period, payments will continue to beneficiaries until the end of that period. The single life annuity provides a set monthly payment for the person's entire life. The joint and survivor annuity provides payments over the life of both the annuitant and his/her spouse. The lump sum payments are not annual payments.

Investment strategy must be formulated keeping in mind what factors? 1. Time horizon 2. Risk Tolerance 3. Neighbor's Portfolio 4. Tax considerations

Correct Answers: 1, 2, 4 Explanation: Among other things, an investment strategy must take into consideration the time horizon, risk tolerance, and tax considerations. It is dangerous to have too much in stocks and bonds and not enough in emergency reserves as liquid assets. The strategy for investment of retirement funds must reflect the investment time horizon. As the time for retirement approaches, funds must be gradually shifted to less risky investments. An increase in inflation rates will affect the value of stocks and bonds. Selling stocks and mutual funds will result in having to pay capital gains taxes. The chief goal of the investment strategy must be to allow a person to earn enough on retirement savings to offset inflation and not to maximize earnings with risky investments..

Retirement planning is often said to be "interdisciplinary." What disciplines will affect, or should affect, various aspects of an individual's retirement planning needs? 1. estate planning 2. financial planning 3. family planning 4. benefit/compensation planning 5. infrastructure planning

Correct Answers: 1, 2, 4 Explanation: Retirement planning is interdisciplinary. It combines the skills of the traditional estate planner, the financial planner and the benefit/compensation planner. Family planning and infrastructure planning are not done by a retirement planning practitioner.

Which of the following questions are relevant to setting retirement goals? 1. How costly a lifestyle do I want to lead? 2. Will I have major medical expenses after retirement? 3. Under which income tax bracket are each of my children taxed? 4. Do I wish to travel after my retirement?

Correct Answers: 1, 2, 4 Explanation: The income tax bracket of children of the retiree is irrelevant to setting retirement goals. The other questions must be answered to assess the financial goals that must be set before planning for retirement..

What are the main advantages of the Roth IRA? 1. Contributions to Roth IRA are tax deductible. 2. Qualified withdrawals from Roth IRA are tax free. 3. The retiree is never subject to a pre 59 1/2 penalty. 4. Earnings grow tax sheltered.

Correct Answers: 2, 4 Explanation: A Roth-IRA account allows contributions of after tax money to be deposited. These contributions can be withdrawn without taxation or penalty at any time. The earnings on the deposits grow tax sheltered. Untaxed earnings may be withdrawn tax free in the future if certain conditions are met. The Roth-IRA does not provide a tax deduction now but may provide a tax break later, perhaps during retirement. With enough years of growth, a substantial amount of untaxed earnings may be withdrawn tax free, providing a significant income tax advantage during retirement.

For qualified plans, how frequently must an employer provide an individual benefit statement? a. Semi-annually b. Quarterly c. Monthly d. Annually

D. Annually

Sam and Sally (both age 35) plan to retire at age 65. They estimate their annual income need in retirement will be $50,000 in "today's dollars."They expect to receive $30,000 (in "today's dollars") annually from Social Security. They expect to earn 7% after-taxes both before and after retirement. They also expect inflation to be constant at 4%. Table V (Ordinary Life Annuities One Life-Expected Return Multiples) indicates a multiple of 20 years at age 66. Table VI (Two Lives) indicates 25 years at age 65. They expect to live 30 years after retiring. What amount of money will Sam and Sally need at the beginning of the retirement period to fund an annual income need that increases with inflation? a. $1,003,587 b. $3,319,620 c. $2,943,062 d. $1,117,225 e. $1,327,848

E 1st Retirement deficit is $20,000 ($50,000 - 30,000). 2nd The net figure is inflated (PV of $20,000, inflation is 4%, 30 years to retirement); therefore, the income deficit in the first year of retirement (FV) is $64,868. 3rd To determine the lump sum needed: Payment (PMT) $64,868 Inflation-adjusted yield 2.8846% Period 30 Sum needed at beginning of retirement $1,327,848

Which part of medicare coverage includes hospital insurance benefits?

Medicare Part A