Thanks to the Great Resignation trend over the past year, there is a high availability of jobs. Therefore, now is a good time for retirees who would like to go back to work to ease into the job market. However, if you’ve already begun drawing Social Security benefits, you should understand how earning income will affect those payouts.

First of all, you have two options if you’d like to stop receiving Social Security. One option is available only if you’ve been drawing benefits for a year or less. In this case, you may cancel your application; but be aware that you must repay all the benefits that you and your family have received to date. That includes spousal benefits and even Medicare premiums that were deducted from your payout. You will still be able to reapply for Social Security later.

The second option is available only if you have reached full retirement age but have not yet turned 70 years old. In this case, you may request to have your Social Security payouts suspended.

There are two benefits associated with these strategies: 1) foregoing Social Security income will likely reduce your tax bill; and 2) your Social Security benefits will start accruing again based on the delay and calculations that include your new wages.

However, you may continue receiving Social Security while you work, which could be important if your spouse is receiving benefits based on your earnings record. Under this scenario, a portion of your benefit may be withheld or even subject to higher taxes. It all depends on how much you earn. If your annual income is $19,560 or less (2022), it won’t impact your Social Security benefits.

Note that only wages from a job or self-employment count toward your Social Security income limit for withholding purposes. Distributions you receive from pensions, annuities, investment income, interest, veterans benefits or other government or military retirement benefits are not considered earned income.

Once your income totals more than $19,560, the impact depends on your age. If you have not yet reached “full retirement age,” Social Security will withhold $1 in benefits for every $2 you earn over the limit.

During the year you reach full retirement age, your annual total earnings limit increases to $51,960 (2022), and the subsequent benefit reduction drops to $1 for every $3 you earn over that amount. In fact, they count only how much you’ve earned up to the month before your birthday – not what you end up earning in a whole year. Once you’ve reached full retirement age, it doesn’t matter much how you earn, there will no longer be any withholding of benefits.

Better yet, starting in January of the year after you turn full retirement age, regardless of whether you continue working or not, your Social Security benefit will increase to reflect any previously withheld benefits due to your income exceeding the limit. And if the years you subsequently worked rank among your 35 highest earning years, your payout will increase even more to reflect a higher benefit calculation (since you paid FICA taxes on that income).

Tax Considerations

In the case of all beneficiaries, at least 15 percent of Social Security income is exempt from federal income taxes. Be aware though, that for tax purposes, your reportable income includes half of your Social Security benefit plus all other forms of income, such as a job, pension or investment income. If your total annual income is between $25,000 and $34,000, then as much as 50 percent of your Social Security benefit is taxable. If you earn more than $34,000 in a year, then up to 85 percent of your Social Security benefit is subject to taxes.

This is a general overview of what happens to your Social Security benefits when mixed with earned income. There are additional details, so it’s a good idea to work with a Social Security expert to decide if you should cancel or suspend payouts, and to understand how your income and tax situation may be impacted by going back to work.

With that said, if your portfolio has taken a beating this year, you might want to stop investment distributions for now and give it time to grow. Fortunately, the United States is currently enjoying a robust job market in which highly experienced candidates can negotiate a flexible work schedule, job site and higher salary, so it may be worth it to go back to work for another year or two to help secure your long-term retirement plans.

Starting in 2020, new legislation increased the age to begin Required Minimum Distributions (RMDs) from 70½ to 72. More recently, the IRS updated the Uniform Life Table for alignment with longer life expectancies. Note that it takes years for actuaries to work up new data for this table, and the recent changes do not reflect the downturn in life expectancies resulting from the pandemic. These updates were established pre-pandemic and scheduled to take effect in 2022.

The good news is that retirees who prefer not to withdraw from their retirement portfolios now have a couple more years of growth opportunity before they are forced to take distributions.

Because retirement portfolios fluctuate based on market performance, and your life expectancy changes with each year you continue to live, your RMD amount also changes each year. To calculate your annual RMD, you need your retirement plan’s previous year-end account balance and the most updated Uniform Life Table. To determine the correct amount, divide the year-end value by the estimated remaining years of your lifetime, based on your age on Dec. 31. This is the formula: Account balance ÷ Life expectancy factor = RMD.

The new Uniform Life Table is updated with a longer average life expectancy than the prior table, so the divisors have increased. This means that the amount required to be withdrawn is now reduced from what would have been required under the previous table.

The following are some guidelines to keep in mind when calculating, withdrawing and managing your required minimum distributions.

• Once you reach age 72, you have until March 31 of the following year to take your first RMD. After that, RMDs must be withdrawn before Dec. 31.
• An annual RMD may be taken as a lump sum, on as-needed basis or as regularly scheduled payouts.
• Consider that if you delay taking the distribution until the end of the year, your portfolio has more time to grow tax-deferred before you reduce the balance.
• As long as you don’t own more than 5 percent of the company you work for, you may delay taking RMDs from the retirement plan sponsored by your current employer as long as you continue working and contributing to the account. RMDs are not compulsory from that account until you stop working.
• If you have multiple IRAs, including SEP and SIMPLE IRAs, you can withdraw the combined RMD amount from just one account (or any combination thereof).
• If you have multiple 403(b) accounts, you can withdraw the combined RMD amount from just one account (or any combination thereof).
• However, if you have multiple 401(k) accounts, you must withdraw RMDs from each account starting at age 72.
• Married couples may not combine their RMDs and withdraw them from one account.
• RMDs from an inherited IRA also may not be aggregated unless they were inherited from the same decedent.
• You do not have to take an RMD from a Roth IRA because the original contributions were already taxed.
• In the year you first quality for an RMD, it may not be a good to wait until March 31 of the following year to take it because you’ll have to take your second RMD by Dec. 31 of that same year. Two RMDs in one year could yield a substantially higher tax bill.

If you really want to make impact in your new grad’s life, make an investment in his or her future with a 529 College Savings account. There are two versions: an investment account and a prepaid account. Assuming you are opening an account now and don’t have time for investment growth, you may need to fund it with a significant chunk of money for it to be useful. The savings plan is good for building an investment balance over time, including while the student is in college. On the other hand, the prepaid option is a good way to reinvest a windfall – such as an inheritance or proceeds from the sale of property.

A 529 College Savings Plan allows the account owner to open, fund, choose the investments and name the account beneficiary – yet you still retain control of the assets. Be aware that contributions do not qualify for a federal tax deduction, but more than 30 states allow a limited tax deduction or credit. While earnings and withdrawals used for qualified education expenses are not taxed at the federal level, there are a handful of states that do impose state taxes.

However, because you – the giver – retain control of the account, you can be assured that the money won’t be wasted on a trip to Cancun or a gap year backpacking through Europe. You determine when, how much and what distributions are used for. If you’re not happy with the student’s choices, you can change the beneficiary to someone else or keep it for yourself.

Gift Strategies for Retirees

There is generally no annual contribution limit to a 529 plan, but the total amount in a beneficiary’s account may not exceed the balance limit determined by each state. 529s are state-sponsored, but most states let non-residents open a plan. In addition, some states allow anyone who contributes to a 529 plan to take a state tax deduction. This way you also can invite friends and family to enjoy a tax deduction while contributing to the account for one big, combined graduation gift.

In 2022, you can contribute up to $16,000 per beneficiary ($32,000 per married couple) to a 529 plan without having to file a gift-tax return. However, if you want to stockpile the account for a big splash on graduation day, the IRS allows you to frontload up to five years’ donations in one year (up to $80,000; $160,000 for a married couple) outside the gift tax limit, although no other gifts can be made to the same beneficiary over the next five years. In this case, you must make the required election on a gift tax return that year to be allocated over five years. This five-year front-loading approach can be an effective estate planning strategy to remove assets from your taxable estate, yet retain control over them.

You also can maximize your gift by making it a two-for-one. In other words, gift it to your high school grad, then keep funding it during his university years. Any leftover balance can be his college graduation gift if he’s planning to go to law school or get an MBA. If not, you always have the option to keep the balance or gift it to him anyway – although proceeds not used for education expenses will be subject to taxes on earnings and a 10 percent penalty.

Student’s Choice

The 2019 SECURE Act enhanced the College 529 plan with additional options. Your new graduate can now use the money to pay for expenses associated with a registered apprenticeship program, or use up to $10,000 to repay student loans. Note that if proceeds are used to pay student loans, the loan interest cannot be used as a deduction that tax year.

The 529 gives your new graduate the option of how and when to use the funds. After all, the pandemic has thrown many young adults off course in different ways. Some are opting to go straight into the job market without a degree, while others are taking a gap year or two to get a feel for what type of career they want to pursue. With the College Savings investment plan, your contributions have the opportunity to grow tax-deferred indefinitely. Some states place time or age limits on the use of a prepaid plan. However, you can always retrieve unused assets from a 529 (subject to earnings and penalty taxes), so they are not lost by any means.

One of the easiest ways to save for retirement is to participate in an employer-sponsored retirement plan. You simply select a percentage of your paycheck that you would like transferred to your 401(k) (or similar) account. Not only does your employer make the transfer for you, but it comes out of your paycheck before income taxes are taken out. This way, you avoid paying taxes on that income from each paycheck, and those taxes are not due until you withdraw the money from your retirement plan. This usually happens once people retire and enter a lower tax bracket.

That’s the simple beauty of investing in a 401(k) plan. However, with a little more effort, you can do a better job of maximizing its potential. The following are strategies to consider.

Take Advantage of an Employer Match

Most employers offer to match your 401(k) contribution up to a certain percentage. For example, an employer might contribute an additional dollar for every dollar you contribute, up to 3 percent of your pay. Although the plan may allow you to defer more than 3 percent, it’s always a good idea to contribute at least the same percentage as your employer agrees to match. After all, the employer contribution is basically free money. Be aware, however, that your contributions, employer matches and all interest, dividends and capital gains earnings in the account will eventually be taxed as income when distributed. If your employer offers a matching contribution to your 401(k) plan, try to defer at least the percentage of your income required to take full advantage of that match.

Contribute More Each Paycheck

The best way to maximize your 401(k) is to deter the maximum amount of income you can from each paycheck. Remember, it comes out of your income before it ever hits your bank account, so you can learn to live on less while building up your retirement savings. In 2022, employees may contribute up to $20,500 for the year; those age 50 and older can save up to $27,000 (an increase for each group of $1,000 versus 2021). Another benefit is that employer matches do not count toward that contribution limit.

If you are not currently maxing out your 401(k) plan contribution, consider these tactics to help you get there.

• Increase your deferral rate gradually, such as once a year or each time you receive a raise, promotion or bonus. This will enable you save more without changing your take-home pay. Just be sure that increasing your deferral rate does not cause you to exceed the annual contribution limit.
• Some companies implement an automatic escalation feature, such as increasing your deferral rate by one percentage point each year – unless you opt out. If this is the case, don’t opt out of the automatic increase.
• A good time to increase your deferral rate is during the annual enrollment period when you are thinking about the cost of other benefits and how they will impact your household budget.

Consider an Annuity Option

The SECURE Act of 2019 included a provision that limits employers’ liability when they offer an insurer-issued retirement annuity option. A 401(k) annuity option typically offers the ability to convert that portion of your retirement account into a stream of income guaranteed (by the issuing company) for a certain period, or even for as long as you live. It’s usually recommended to put only a portion of your 401(k) savings into an annuity, as it has higher expenses and might have growth potential limitations. However, the annuity option is appealing because it can continue paying out income after your other investment options have dwindled, which ironically works much the same as a traditional pension (which the 401(k) was designed to replace). Not every employer offers an annuity option in their 401(k) plan, but thanks to the new legislation it could become more prevalent.

Invest More Aggressively

Americans are currently seeing the dramatic impact that a rise in inflation can have on their household budget. Now imagine that impact when you’re in retirement and living on a fixed income. One way to increase your potential earnings for a larger retirement nest egg is to invest in more growth-oriented assets now, while you’re still working. That generally means a higher allocation to stocks to help your 401(k) investment surpass the growth of inflation. In fact, many stocks are issued by companies that tend to increase revenues as inflation rises.

With additional effort and strategic planning, it’s not that difficult to get your 401(k) to work harder to help you save more for a long, fulfilling retirement.

If you pay $250 a month for cable and premium channels, that’s $3,000 a year. Over a 30-year period, the total cost would be $90,000. We don’t tend to think about how much we pay in regular expenses over the long term.

However, that’s how various industry analysts report the cost of healthcare during retirement. Recent estimates for a retiring 65-year-old couple fall between $300,000 and $400,000 to cover healthcare expenses in retirement. At first glance, that’s an intimidating number and implies that pre-retirees need to have this much saved by the time they retire.

Fortunately, when you break down the numbers, that’s not the case. First of all, that estimate includes premiums for Medicare with prescription drug coverage, which are typically deducted from Social Security benefits before they ever hit your bank account. According to T. Rowe Price, Medicare premiums account for 76 percent to 82 percent of most retiree’s healthcare expenses, so a large portion of these costs are paid for outside of your household budget.

The true cost of retiree healthcare expenditures is based on how healthy you remain during retirement. And actually, that’s not necessarily related to savings – it’s more a combination of genetics and peoples’ penchant for healthy living before and during retirement. However, it’s always best to prepare for the worst, so the more money you save and earmark for healthcare expenses, the better off you’ll be.

One way to control your monthly premiums in retirement is to shop and compare Medicare plans each year during open enrollment. It helps to keep a running tab of your out-of-pocket expenses each year so that you can increase your Medicare coverage if your costs start trending higher. Higher coverage might mean higher premiums, but that will lower out-of-pocket costs each year.

The following guide was developed by T. Rowe Price. It estimates how much retirees spend based on different types of Medicare plans using 2021 premiums and data from the Health and Retirement Study (HRS). Among retirees who enroll in either (1) Medicare Parts A, B and D; (2) Medicare Advantage HMO and Drug Plan; or (3) Medicare Parts A, B, D and Medigap:

• 25 percent will pay less than $500/year in out-of-pocket expenses
• 50 percent will pay less than $1,200/year in out-of-pocket expenses
• 25 percent will pay more than $1,900/year in out-of-pocket expenses
• 25 percent will pay more than $3,900/year in out-of-pocket expenses

As for paying those out-of-pocket expenses, remember that you pay them over time, so it’s not as if you’re paying a large lump sum all at once. One strategy is to fund a savings account with enough money to pay out-of-pocket expenses for the year, based on your prior year’s spending. Then replenish this account each year from other funding sources, such as an annual required minimum distribution (RMD) from a retirement account.

If you have access through your current health plan, pre-retirees can save for healthcare expenses with a health savings account (HSA). Contributions are tax deductible and, over time, you can invest your savings for earnings accumulation. These funds, including investment gains, are never taxed as long as they are used to pay eligible healthcare expenses. The account is particularly useful if you don’t tap it until retirement, when the money can be used to pay for things like dental and vision care, hearing aids, long term care insurance premiums and nursing home costs.

 

Despite those alarming projections about how much healthcare will cost you in retirement, remember that it can be manageable because it is paid out over time.