The Tortoise and the Hare: How Fast Investments Can Slow Down Your Goals

When planning for retirement, you need to look at multiple sources of income and be sure that some of the income sources are tax-free. The more, the better. So, how do you plan for a retirement income stream that minimizes overall taxation?

Four Instruments that Provide tax-free Retirement Income

Here are four great ways to provide yourself with tax-free.

1. Roth IRA is a great retirement investment that can result in a steady stream of tax-free retirement income as long as they are considered qualified. However, you must qualify for an IRA and the requirements are adjusted year by year as is the amount eligible for savings. Withdrawals prior to age 59 ½ or prior to the account being opened for 5 years, whichever is later, may result in a 10% IRS penalty tax. Future tax laws can change at any time and may impact the benefits of Roth IRAs. Their tax treatment may change.

If you do qualify, money put into a Roth IRA is taxed when you receive it, so it is not taxed again when it is withdrawn. In 2018, the eligibility requirements are:

1. Single or head of household, earning less than $120,000 to fully contribute to a Roth IRA.
2. Married filing jointly or a qualified widow(er) earning less than $189,000 to fully contribute to a Roth IRA.
3. Married filing separately earning less than $10,000 to fully contribute to a Roth IRA. (Note that those married but filing separately can use the limits for single people as long as they have not lived with their spouse in the past year)
4. Municipal Bonds and Funds provide income distributions not taxable by the federal government though they are may be subject to state income tax. Because they are not subject to federal income tax, interest paid on these bonds is typically less than taxable bonds.

There is no income limit to investing in tax-free municipal bonds and funds.

3. Health Savings Accounts (HSAs) are available if your employer offers health insurance using an HSA. Combined contributions by the employer and employee to this account as of 2018 can be as high as $6,900.00 for qualifying plans.

Following the rules about which expenses are reimbursable, no taxes are paid on withdrawals.

In addition, the HSA funds and earnings can be held until retirement then uses to provide tax-free income by reimbursing the holder for past and current allowable expenses which include Medicare premiums.

4. Roth 401(k) or 403(b) allow Roth contributions inside these accounts making those contributions and their subsequent retirement earnings, tax-free. These accounts are not subject to income eligibility limits but they are subject to taxes in the year that contributions are made.

Making the Most of Your Home

Another way to make a smart investment for your retirement is to pay off any mortgage that you have on your home before you retire which allows you to live in your home for the cost of property taxes and home insurance alone.

For many retirees, this is a huge reduction in their monthly expenses allowing the money be used elsewhere.

Re-evaluating your plan and re-evaluating your opportunities is really important. According to Northwestern's 2020 Planning and progress study, 71% of Americans feel their financial plan could use some improvement. So maybe you have a plan, but you're saying, “Maybe I can use some improvement”. At Trilogy Financial we look at the work that's been done in the past. Remember that we're not judging what was done in the past, but we'll look at that and say, is there any way that we can make improvements upon what's been done in the past to help you plan for the future. Understanding that is really important. A plan is not static, it's a living, breathing document, and you want to make sure that you're updating and reevaluating your opportunities on a regular basis.

Another thing to think about is interest rates is we don't know what's going to be in the future. I think this is an interesting one as well. Many Americans for 2020 stayed at home a lot and a lot of them spent less money. Matter of fact, Northwestern Mutual did a study for 2020 on average, people say it's about 10% more money in their personal savings than they did in 2019. Well, why didn't they spend? Some of it was lifestyle – they didn't go out to dinner as much; they didn't go on their vacations- there’s a lot of things that were held back due to all the craziness that had gone on. But there were people that spent on home improvements in other areas as well. People were spending more on their houses because they were living in their houses more. There's a lot of people that saved more or in that period. You might want to evaluate what to do with that savings. Maybe that's the first step in building out a financial plan. Maybe that's the money that should be put towards the college plan. Maybe that's the money that should be put towards lowering your debt overall. Maybe that's money that you should use to increase your path to financial independence. Re-evaluating your opportunities, your long-term financial plan.

I would highly encourage you to re-evaluate those opportunities again. At Trilogy Financial, we do that all the time. We look at current plans and make sure they make sense. Then when you have extra money that's saved, we look at is it working hard for you and is it working hard for your financial why. Maybe you're in a place where you can refinance. Saving money, and refinancing is another really good tool to help create more cash flow and help you get on that path to financial independence.

I'm big on this thing called Financial date nights. Earlier, I talked about the fact that people argue about money, financial date nights once a month, get out of the house, go do something different. I've had people do financial date drives that live in big cities – go have a cup of coffee, have dinner, whatever it is. Get out of the house and talk about your financial whys, talk about your planning, and talk about your goals. Don't argue about them. This is an opportunity for big picture, global type discussions within the couple and then work through those things. And when you need help and more clarity, that's where a financial advisor can really jump in and help you jump-start whatever is going on in your financial plan.

Another thing is to be flexible and willing to adapt. I said this earlier but good financial plans are living breathing documents. In regard to this, all of our clients at Trilogy Financial have their own portal. Inside that financial portal is their financial plan that updates on a regular basis. We can put paperwork in there or documents in there and it's something that's living and breathing. You may need to be flexible with what's going on in your world. Timeframes constantly are getting adjusted. We've had people come in and say, “You know what? I'm thinking about retiring early” or “My companies offering me an early retirement package.”, or “I have to work a little bit longer” for whatever reason. That's just something you update in the plan. College scenarios too. Some kids are deferring going to college and I don't blame them. You didn't pay for online college, and you may want the experience. If that’s the case, you’d go in a different direction. Whatever those things are, be willing, flexible, and adjustable and in communication with your spouse, your partner, or business partner.

Meet and talk with your financial advisor regularly. They should be asking you those questions and they will be updating you on the markets and current events. what I would say are the unknowns or the instability side. The other thing about having that advisor is that joyful accountability. Have an advisor, have a coach, have a financial team – they'll help you stay accountable to do what you say. They're not going to be bugging you, they're going to be reminding you of the good things that you've said during those planning discussions. They're going to be reminding you where you are and they're also going to be praising you when you're doing what you said you were going to do. And when you do that, you make great progress, and when you make great progress, then the plan progresses year after year after year.

How much closer are we to financial independence, that's the conversations that happen over time. So, take action on what you can do, be in control of your knowns, and plan for the unknowns. Again, insurance is a great thing for that. Work with your advisor on the unknown, so you have less anxiety. Be flexible and will be willing to adapt and remember the financial planning documents and plans are living, breathing documents. Life happens, life events happen, and you've got to plan for those things. If you're not working with a trust or a financial advisor investment fiduciary, look to find one that can help you build your own personal plan.