Annuity - Harding University

GITMAN/ JOEHNK/ BILLINGSLEY

PFIN

4

14

Planning for

Retirement

Copyright ©2016 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

LEARNING OUTCOMES

1 Recognize the importance of retirement planning, and identify the three biggest pitfalls to good planning

2 Estimate your income needs in retirement and the level of retirement income you’ve estimated from various sources

3 Explain the eligibility requirements and benefits of the Social Security program

Copyright ©2016 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly acce ssible website, in whole or in part.

PFIN4 | CH14 2

LEARNING OUTCOMES (continued)

4 Differentiate among the types of basic and supplemental employer-sponsored pension plans

5 Describe the various types of self-directed retirement plans

6 Choose the right type of annuity for your retirement plan


PFIN4 | CH14 3

Steps in Retirement Planning

• Describe:

• Things a person wants to do in retirement

• Standard of living that is hoped to be maintained

• Level of income wished to receive

• Retirement goals


PFIN4 | CH14 4

Role of Retirement Planning

• Formulating an investment program

• Creating a savings plan in which a certain amount of money is saved each year

• Identifying the investment vehicles that will meet the retirement needs

• Tax planning

• Maximizes the accumulation of retirement funds

PFIN4 | CH14 5


Pitfalls in Retirement Planning

Starting too late

Saving less

Investing conservatively


PFIN4 | CH14 6

Estimating Income Needs

• Strategies for forecasting retirement needs

• Plan for retirement over a series of short-run time frames

• State retirement income objectives as a percentage of the present earnings

• Follow a long-term approach

• Formulate the level of income expected to receive

• Identify the required amount of funds needed to achieve a desired standard of living

PFIN4 | CH13 7


Exhibit 14.1

Sources of Income for the

Average Retiree

Source: Federal Interagency Forum on Aging-Related Statistics, Older Americans 2012: Key Indicators of Well-Being, Indicator 9, June 2012, p. 14, http://www aoa.gov/Agingstatsdotnet/Main_Site/Default.aspx, accessed November 2014.


PFIN4 | CH14 8

Social Security Coverage

• Classes of employees exempted

• Federal civilian employees hired before 1984 and are covered under the Civil Service

Retirement System

• Employees of state and local governments who have chosen not to be covered

• Marginal employment positions

• Newspaper carriers under age 18 and full-time college students working for a university

PFIN4 | CH14 9


Social Security Payroll Taxes

• Cash benefits provided are derived from the payroll (FICA) taxes paid

• Tax rate in 2014

• 6.2 percent for Social Security

• 1.45 percent for Medicare


PFIN4 | CH14 10

Old-Age Benefits

• Received by fully covered workers

• Full retirement age as defined by the Social

Security Administration is 67 years

• Ways of receiving in a two-income family

• Take the full benefits to which each is entitled from his or her account

• Take the husband and wife benefits of the higher-paid spouse

PFIN4 | CH14 11


Survivor’s Benefits

• Received by the spouse if a covered worker dies

• Small lump-sum payment of several hundred dollars, followed by monthly benefit checks

• Eligibility criteria

• Surviving spouse must be at least 60 years of age

• Having a dependent and unmarried child of the deceased worker in his or her care

PFIN4 | CH14 12


How Much Are Monthly Social

Security Benefits?

• Social Security Administration’s computerized service estimates the benefits

• Social Security Statement provides credit information under the scenarios

• Retirement at age 62 and receive 70 percent to

80 percent of the full benefit

• Full benefit at age 65 to 67

• Increased benefit available if the retirement is

delayed until age 70

PFIN4 | CH14 13


Exhibit 14.2

Average Monthly Social

Security Benefits Paid in 2014

Source: “Understanding the Benefits,” SSA Publication No. 05-10024, ICN 454930, http://www.socialsecurity.gov/pubs/EN-05-

10024.pdf#page51&zoom5auto,0,576, accessed November 2014.


PFIN4 | CH14 14

How Much Are Monthly Social

Security Benefits?

• Taxes on benefits

• Applicable if the beneficiary’s annual income exceeds:

• $25,000 for a single taxpayer

• $32,000 for married taxpayers filing jointly

• Zero for married taxpayers filing separately


PFIN4 | CH14 15

Pension Plans and Retirement Programs

• Employee Retirement Income Security Act of 1974 (ERISA)

• Ensures that workers eligible for pensions actually receive benefits

• Permits uncovered workers to establish individual tax-sheltered retirement plans


PFIN4 | CH14 16

Types of Employer-Sponsored Retirement

Programs

• Basic plans

• Employees automatically participate after a certain period of employment

• Supplemental plans

• Voluntary programs

• Enable employees to increase the amount of funds being set aside for retirement


PFIN4 | CH14 17

Basic Plans

• Participation requirements

• Eligibility criteria

• Years of service

• Minimum age

• Level of earnings

• Employment classification

• Vested rights : Employees’ nonforfeitable rights to receive benefits in a pension plan


PFIN4 | CH14 18

Basic Plans

• Employee contribution

• Noncontributory pension plan : Employer pays the total cost of the benefits

• Contributory pension plan : Employee bears part of the cost of the benefits

• Defined contribution

• Specifies the contributions that both employer and employee must make

PFIN4 | CH14 19


Basic Plans

• Defined benefit

• Involves formula for computing benefits is stipulated in its provisions

• Qualified pension

• Meets specified criteria established by the

Internal Revenue Code


PFIN4 | CH14 20

Types of Supplemental Plans

Profit-sharing

• Employees of a firm participate in the company’s earnings

Thrift and savings

• Supplements pension and other fringe benefits

• Firm contributes an amount equal to a set proportion of the employee’s contribution

Salary reduction or 401(k)

• Agreement by which part of a covered employee’s pay is withheld and invested


PFIN4 | CH14 21

Features Used to Evaluate Employer-

Sponsored Pension Plans

• Eligibility requirements

• Defined benefits or contributions

• Vesting procedures

• Contributory or noncontributory

• Retirement age

• Portability

• Voluntary supplemental programs


PFIN4 | CH14 22

Self-Directed Retirement Programs

• Keogh plan

• Account to which self-employed persons may make specified payments that are deducted from taxable income

• Earnings also accrue on a tax-deferred basis

• SEP plan

• Aims at small business owners, requiring a plan which is simple and easy to administer

PFIN4 | CH14 23


Self-Directed Retirement Programs

• Individual retirement account (IRA)

• Open to any working American

• Person may contribute a specified amount each year

• Types

• Traditional (deductible)

• Nondeductible (after-tax)

• Roth


PFIN4 | CH14 24

Annuity

• Investment product created by life insurance companies

• Provides a series of payments over time

• Accumulation period : Premiums are paid for the purchase of an annuity

• Distribution period : Annuity payments are made to an annuitant

• Survivorship benefits : Portion of premiums and interest unreturned to the annuitant before his or her death

PFIN4 | CH14 25


Classification of Annuities

Single premium

• Purchased with a lump-sum payment

Immediate

• Annuitant begins receiving monthly benefits immediately

Installment premium

• Purchased through periodic payments made over time

Deferred benefit

• Payments are postponed for a certain number of years


PFIN4 | CH14 26

Disposition of Proceeds

Life annuity with no refund

• Annuitant receives a specified amount of income for life, regardless of the length of the distribution period

Guaranteed-minimum annuity

• Provides a guaranteed minimum distribution of benefits

• Life annuity, period certain

• Refund annuity

Annuity certain

• Provides a specified monthly income for a stated number of years without consideration of any life contingency


PFIN4 | CH14 27

Fixed versus Variable Annuity

• Fixed-rate annuity

• Insurance company agrees to pay a guaranteed rate of interest on the money

• Variable annuity

• Monthly income provided by the policy varies as a function of the insurer’s actual investment experience


PFIN4 | CH14 28

KEY TERMS

• Employee Retirement

Income Security Act of

1974 (ERISA)

• Vested rights

• Noncontributory pension plan

• Contributory pension plan

• Defined contribution plan

• Defined benefit plan

• Qualified pension plan

•

•

•

Profit sharing plan

Thrift and savings plan

Salary reduction or

401 (k) plan

• Keogh plan

• Individual retirement account (IRA)

• Annuity

• Accumulation period

• Distribution period

• Survivorship benefit


PFIN4 | CH14 29

KEY TERMS

• Single premium annuity contracts

• Deferred annuity

• Life annuity with no refund (pure life)

• Guaranteed-minimum annuity (life annuity with refund)

• Life annuity, period certain

• Refund annuity

• Annuity certain

• Fixed-rate annuity

• Variable annuity

PFIN4 | CH14 30


SUMMARY

• The pitfalls to good planning are starting too late, saving less and investing conservatively

• The sources of retirement income are Social

Security, earnings from income producing assets, earnings from full and part time jobs, and pension plans

• Social Security provides old-age and survivor benefits to retired people and their dependents

PFIN4 | CH14 31


SUMMARY

• Employer-sponsored retirement programs

• Basic plans - Employees automatically participate after a certain period of employment

• Supplemental plans are voluntary programs

• Self directed retirement programs include

Keogh plan, SEP plans and IRAs

• Annuities are classified based on payment of premiums, disposition of proceeds, inception date of benefits, and methods used in calculating benefits

PFIN4 | CH14


32

Annuity - Harding University

Planning for

Retirement

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Planning for

Retirement

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