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TIPS For Families |
Written by: Mary Ann Holland Extension Educator Parents are the greatest teachers about many areas of everyday life.
Teaching children about money, it’s purpose, value, how to earn it,
save it, and how to spend it, are ongoing lessons parents teach their
kids from a very young age through young adulthood. It is important for children to begin to think about the concept of “retirement
living,” especially the need for income to support living expenses after
the paychecks and career have ended. Today, it is more important than
ever for consumers, especially young people entering the workforce,
to realize they are primarily responsible for planning and financing
their own retirement. The economy has “morphed” traditional retirement savings [formerly called
pension plans] offered by employers into “do-it-yourself models”. “You”—the
consumer--must take an active role in providing income for your own
retirement. Income from a pension plan is used to supplement benefits paid to retired
workers by Social Security. Rarely is a monthly Social Security check large
enough to cover all living expenses. Additional income from some source is
necessary. Learning some “basics” about planning for retirement savings and tax implications
will help parents convey knowledge to their young “savers.” What is an IRA? An “IRA” is an “individual retirement account.” There are
several kinds of IRA’s, but most common are: Traditional and Roth IRA’s.
You would set up an IRA through a financial institution such as a bank or
a credit union. Young wage earners should consider opening an IRA at the
point when annual earned income means they owe the IRS on April 15. Currently, you can contribute a total of $4,000 per year toward a traditional
IRA [the amount increases to $5,000 in 2008]. Doing this provides a tax break
for wage earners because they deduct the amount contributed to an IRA from
taxable income—reducing the amount of taxes owed now on yearly earnings. A
Roth IRA on the other hand, provides tax benefits at retirement rather than
up front. Wage earners continue to pay taxes on funds contributed to a Roth
IRA during their working years, but do not pay taxes on that income when reaching
retirement. Funds from either type of IRA cannot be withdrawn until age 59
½ without a substantial penalty. 401(k) plans are employer-sponsored savings plans that permit wage earners
to set aside money for retirement; all money you save through a 401(k)
is tax-deferred. You only pay taxes when you start to withdraw the
money, after age 59 ½. Some employers contribute an amount [usually
a percentage of salary] toward an employee’s 401(k) plan as part of
their benefits package. Most, however, have provisions about the length
of time an employee must stay with the company in order to be “vested.”
A period of five years or longer is not uncommon for a “vested” retirement
account. Being vested means the worker is entitled to not only to their own contributions
but that of the employer as well. Frequently changing jobs complicates ownership
of a 401(k) plan. However, a 401(k) plan is “portable” meaning you can take
the amount you contributed to your account plus earnings when you change
jobs. Depositing that amount into a new employer’s 401(k) plan is known as
a “rollover”. In other words, you do not declare the amount as “income”;
it is deferred to after-retirement when your annual income is generally lower
which in turn means you pay less in taxes. Saving money for retirement like any other financial goal can also be done
by investing in traditional financial products such as savings accounts,
certificates of deposit, the stock market, bonds, annuities, and life
insurance. Consumers receive no tax break for doing so, and earnings
are subject to tax as well. Significant wealth can be accumulated and
invested through these traditional financial products providing a generous
after-retirement income. Parents may want to seek out the advice of a trusted financial planner
to assist them in understanding various financial products and help
them work with their children in setting long-term financial goals which
could include preparing for after-retirement living. A financial planner
may also be helpful to parents as they assess their own retirement outlook
and identify steps to increase retirement savings and reduce taxable
income. Resources: “A simple guide to what everyone needs to know about Money & Retirement,”
Hounsell, C.; Exec. Director, Women’s Institute for a Secure Retirement; a
project of the Heinz Family Philanthropies. “IRA Basics,” University of Illinois Extension, printed from website, 2006. |
