The selection of a retirement plan is an important task and a responsibility of any employee. When it comes to retirement planning, there are many options from which contemporary workers can choose. However, it is important to have detailed knowledge and understanding of the available retirement plans for one to make the right choice. In this paper, six retirement planning options will be discussed and compared for the purpose of choosing the most appropriate one for the specific employee whose intention is to retire at the age of 60 with 3 million dollars on her savings account.
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403B stands for a savings account with deferred taxes. This plan is commonly offered to public sector employees and workers of non-profit organizations. Practically, this plan represents the investment in an annuity. The investor is obligated to make contributions and, in exchange, they receive a certain percentage of interest repaid on a regular basis throughout the entire term of the investment.
The main benefit of this plan is that a steady level of income may be generated over a lengthy period. Additionally, using this plan, investors are also able to control the amount of income tax that they pay (Phipps, 2018). The calculations for this plan included such variables as employer maximum and employer match which were set to a maximum of 48% of the current annual salary of the given employee (18000 dollars).
With the annual contribution set at 10% (approximately 333 dollars per month) of salary and the current amount of 30000, the employee will have a 1.148.657 dollars balance at retirement. With the current amount of 0 dollars, the balance at retirement equals 1.025.539 dollars. Raising the annual contribution to 20% (666 dollars per month), the employee receives 1.335.933 at retirement. Neither of these options matches the desired 3 million.
401K is another retirement plan option. This is a saving plan that is sponsored by a worker’s employer. The principle underlying this plan resembles the one of 403B. Practically, using this plan, employees have a chance to preserve a portion of their income from taxation because taxes are paid after the account owner withdraws money (“What Is a 401(k)?,” n.d.). The benefits of this plan are also similar to the advantages offered by 403B.
Using this plan, an individual has an opportunity to maintain a savings account with regular contributions and receive a percentage of interest on a regular basis. The calculations for this plan showed that the number that is the closest to the desired 3 million dollars could be reached only if the given employee has an annual salary growth rate of 10%. In this case, in 36 years, she will have a balance of 2.579.199 dollars. These calculations also included the contribution rate of 10% and the 3% inflation. A similar result (2.510.798 dollars) will be achieved with the 30% annual contribution and salary growth rate of 3%. These results show that a 401K plan is a good option, but it requires to be used in combination with some other plan.
Occupational pensions stand for tax-deferred forms of compensation. They are beneficial for employees and workers. A pension scheme revolves around an account where sums of money are added on a monthly or annual basis. After an employee reaches pension age, periodic payments are made to them using this pension account. This way, an employee creates a retirement plan for themselves making contributions throughout their working years. However, for the selected employee, this plan does not seem like a suitable option because her desire is to have a savings account with 3 million dollars but not a pension account.
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Annuities are insurance products. Their function is to perform regular payments and provide income to the individuals who invest in them. Annuities represent one of the options for a retirement plan. Often, they are used as parts of retirement strategies (“What is an annuity?,” 2018). The amount of income generated by an annuity usually is in a tight connection with the amount of the investment that underlies it. The major issue with annuities is their high cost. Practically, one needs to be financially secure enough to be able to afford the expenses that come with annuities. For the given employee, this retirement plan option may be unsuitable because her overall annual salary is not high. As a result, it would not be practical to invest in an annuity without the appropriate level of financial security.
An IRA is another tax-free or tax-deferred retirement plan option that is based on the establishment of a savings account at a financial institution. There are three kinds of IRAs, each of which has different kinds of benefits – traditional, Roth, and rollover IRA. The major advantage of an IRA is that it can be used in combination with some other retirement plan option (for example, a plan sponsored by the employer such as 401K or a 403B).
In order for an IRA option to be beneficial, it is important for the employee to raise the regular contribution rates to the maximum so that the generated level of income is as high as possible. A Roth IRA with a 5% rate of return, a starting balance of 10000, and a 10% annual contribution (4000 dollars) would generate 460.431 dollars balance at retirement. Combined with a 401K plan with another 10% contribution, this option could bring the given employee to the desired 3 million dollars on her account at the age of 60.
Estate planning is one of the options that most employees prefer to use even on a basic level. The main benefit of estate planning in terms of income is that it can be arranged in a way to reduce taxation as much as possible. However, estate planning is not suitable for being the only option for one’s retirement plan. Moreover, it is only suitable for individuals who have valuable possessions and are estate owners. The given employee is in her early 20s and thus is highly unlikely to be an estate owner. As a result, estate planning may become a viable and advantageous option as a part of her retirement plan in the future. Currently, this option is not of much use for this worker.
Having done some calculations, it is possible to conclude that the best retirement plan option for the given employee is the combination of an IRA and a 401K plans. However, using this option, she would have to be prepared to make a 20% contribution to her accounts every year. These estimations are based on her current direct compensation size. It is likely that as her career progress, her salary might grow and it would be easier to match the requirements of her retirement plan. These are the factors that she would need to consider choosing the plan, alongside the rate of inflation and her potential housing options.
Phipps, M. (2018). Explanation of a 403(b) retirement plan. Web.
What is a 401(k)? (n.d.). Web.
What is an annuity? (2018). Web.