[h] CPCU 553 – Module 7
[q] Steps in the retirement planning process
[a] Steps (in order):
Determining retirement goals.
Analyzing financial needs.
Monitoring and revising the plan.
[q] Factors used to determine retirement savings needed
[a] Factors used to determine savings needed:
Amount of income needed at retirement.
Estimated retirement period.
Pension and Social Security estimates.
Estimated future value of existing resources.
Lump sum necessary to fund any shortfall.
Additional amount that must be saved annually.
[q] Section 401(k) plan
[a] A qualified retirement plan that permits employees to contribute to the plan with pre-tax dollars.
[q] Section 403(b) plan
[a] A tax-advantaged retirement plan sponsored by tax-exempt organizations. Permits employees to contribute to the plan with pre-tax dollars.
[q] Section 457 plan
[a] A deferred compensation arrangement sponsored by tax-exempt organizations. Permits employees to contribute to the plan with pre-tax dollars.
[q] Municipal bond
[a] A debt obligation of a state or local government that pays the investor tax-exempt interest income.
[q] Certificate of deposit
[a] A type of time deposit issued by a financial institution.
[q] Factors to consider when determining how often a retirement plan should be monitored
[a] Factors to consider:
Individual’s current financial situation.
Tax law changes.
Investment performance of retirement assets.
[q] Methods used to estimate retirement income needs.
[a] Methods used:
Income replacement ratio method.
[q] Income replacement ratio method
[a] A method used to estimate needed retirement income that applies a percentage (usually 60%-80%) to average income to approximate the income required in the first retirement year.
[q] Expense method
[a] A method that estimates an individual’s retirement income needs based on total estimated expenses in the first year of retirement.
[q] Defined contribution plan
[a] A category of qualified retirement plan that does not promise a specific benefit to a participant at retirement. Each participant has their own retirement account, and each participant bears the investment risk within the account.
[q] Defined benefit plan
[a] A category of qualified retirement plan that promises a specific benefit to a participant at retirement. The benefit is funded through employer contributions to the plan.
[q] Pension plan
[a] A category of qualified retirement plan that requires annual employer contributions. These plans are limited to investing not more than 10% in the sponsoring company’s stock.
[q] Profit sharing plan
[a] A category of qualified retirement plan that often bases the employer’s contribution on the earnings of the company.
[q] Unit benefit formula
[a] A formula used to calculate the participant’s benefit in a defined benefit plan. The formula takes into account the participant’s income and years of service.
[q] Cash balance plan
[a] A type of defined benefit plan in which each participant has their own hypothetical account. The employer makes contributions into each account and credits each account with investment earnings.
[q] Employee Stock Ownership Plan (ESOP)
[a] A type of qualified profit sharing plan that is primarily funded using employer stock. These plans permit participants to receive distributions in the form of employer stock.
[q] Simplified Employer Pension (SEP) plan
[a] A retirement plan that is established by the employer and that is funded through contributions to individual IRA accounts for each plan participant.
[q] SIMPLE plan
[a] A type of retirement plan that permits both employee pre-tax and employer contributions. Only businesses with 100 or fewer employees can establish. The plan can be established in the form of an IRA.
[q] Salary reduction plan
[a] A type of nonqualified deferred compensation plan that permits executives to defer their compensation into the future, thereby deferring the tax liability on that compensation.
[q] Supplemental executive retirement plan (SERP)
[a] A type of nonqualified plan in which the employer promises to pay a specified dollar amount to an executive beginning at the earlier of the participant’s death or retirement.
[q] Similarities between traditional IRA and Roth IRA
[a] Both IRAs have the following in common:
Loans are prohibited.
Immediate vesting of contributions.
[q] Traditional IRA
[a] A type of IRA in which the participant can make either pre-tax or after-tax contributions. Plan distributions of earnings and deductible contributions are taxable.
[q] Roth IRA
[a] A type of IRA in which the participant can make after-tax contributions. Distributions can be completely tax-free if certain conditions are satisfied.
[q] Requirements for qualifying Roth IRA distributions
[a] Qualifying distributions must meet two tests:
1) Distribution is made after the five-year period beginning with the first tax year of contribution -AND-
2) Meets ONE of the following conditions:
Participant is age 59½ or older.
Participant is deceased.
Participant is disabled.
Distribution made to pay first–time homebuyer expenses (lifetime limit of $10,000).
[q] Stretch IRA
[a] An IRA that is established in such a way that it maximizes the tax deferral of IRA assets. The strategy reduces the level of required minimum distributions required over multiple generations.
[q] Required minimum distribution rules
[a] Rules that specify when distributions must begin from retirement plans. Qualified plans and traditional IRAs generally require distributions to begin by April 1 after the year the participant attains age 72. Roth IRAs do not require minimum distributions while account owner is alive.
[q] Required minimum distribution penalty
[a] Failure to take a required minimum distribution will result in a 50% penalty.
[q] Decisions that must be made when retiring
[a] Decisions that must be made:
Whether to purchase an annuity.
How and when to spend down savings.
When to begin pension benefits.
When to begin Social Security benefits.
[q] Immediate life annuity
[a] An annuity designed to provide guaranteed income for life, in which payments begin within one month (or one year) after the purchase of the annuity.
[q] Liquidation order of assets when spending down savings
[a] Assets should be liquidated in this order:
Investments that have been losing money.
Investments that will produce long-term capital gains.
Investments that will produce short-term capital gains.
Tax-deferred assets such as 401(k) plans.