All investments are subject to risk and loss of principal. When sold, investments may be worth more or less than their original cost.
Mutual funds are sold by prospectus. Please consider the investment objectives, risks, charges, and expenses carefully before investing. The prospectus, which contains this and other information about the investment company, can be obtained from your financial professional. Be sure to read the prospectus carefully before deciding whether to invest.
*Interest earned on tax-free municipal bonds is generally exempt from state tax if the bond was issued in the state in which you reside, as well as from federal income tax (though earnings on certain private activity bonds may be subject to regular federal income tax or to the alternative minimum tax). But if purchased as part of a tax-exempt municipal money market or bond mutual fund, any capital gains earned by the fund are subject to tax, just as any capital gains from selling an individual bond are.
Note also that tax-exempt interest is included in determining if a portion of any Social Security benefit you receive is taxable.
Common Factors Affecting Retirement Income
When it comes to planning for your retirement income, it's easy to overlook some
of the common factors that can affect how much you'll have available to spend.
If you don't consider how your retirement income can be impacted by investment
risk, inflation risk, catastrophic illness or long-term care, and taxes, you may
not be able to enjoy the retirement you envision.
Different types of investments carry with them different risks. Sound retirement
income planning involves understanding these risks and how they can influence
your available income in retirement.
Investment or market risk is the risk that fluctuations in the securities
market may result in the reduction and/or depletion of the value of your
retirement savings. If you need to withdraw from your investments to supplement
your retirement income, two important factors in determining how long your
investments will last are the amount of the withdrawals you take and the growth
and/or earnings your investments experience. You might base the anticipated rate
of return of your investments on the presumption that market fluctuations will
average out over time, and estimate how long your savings will last based on an
anticipated, average rate of return.
Unfortunately, the market doesn't always generate positive returns. Sometimes
there are periods lasting for a few years or longer when the market provides
negative returns. During these periods, constant withdrawals from your savings
combined with prolonged negative market returns can result in the depletion of
your savings far sooner than planned.
Reinvestment risk is the risk that proceeds available for reinvestment
must be reinvested at an interest rate that's lower than the rate of the
instrument that generated the proceeds. This could mean that you have to
reinvest at a lower rate of return, or take on additional risk to achieve the
same level of return. This type of risk is often associated with fixed interest
savings instruments such as bonds or bank certificates of deposit. When the
instrument matures, comparable instruments may not be paying the same return or
a better return as the matured investment.
Interest rate risk occurs when interest rates rise and the prices of some
existing investments drop. For example, during periods of rising interest rates,
newer bond issues will likely yield higher coupon rates than older bonds issued
during periods of lower interest rates, thus decreasing the market value of the
older bonds. You also might see the market value of some stocks and mutual funds
drop due to interest rate hikes because some investors will shift their money
from these stocks and mutual funds to lower-risk fixed investments paying higher
interest rates compared to prior years.
Inflation is the risk that the purchasing power of a dollar will decline over
time, due to the rising cost of goods and services. If inflation runs at its
historical long term average of about 3%, the purchasing power of a given sum of money
will be cut in half in 23 years. If it jumps to 4%, the purchasing power is cut
in half in 18 years.
A simple example illustrates the impact of inflation on retirement
income. Assuming a consistent annual inflation rate of
3%, and excluding taxes and investment returns in general, if
$50,000 satisfies your retirement income needs this year, you'll
need $51,500 of income next year to meet the same income
needs. In 10 years, you'll need about $67,195 to equal the
purchasing power of $50,000 this year. Therefore, to outpace
inflation, you should try to have some strategy in place that allows your income stream to
grow throughout retirement.
(The following hypothetical example is for illustrative purposes only and
assumes a 3% annual rate of inflation without considering fees, expenses, and taxes. It does not
reflect the performance of any particular investment.)
Equivalent Purchasing Power of $50,000 at 3% Inflation
Long-term care expenses
Long-term care may be needed when physical or mental disabilities impair your
capacity to perform everyday basic tasks. As life expectancies increase, so does
the potential need for long-term care.
Paying for long-term care can have a significant impact on retirement income and
savings, especially for the healthy spouse. While not everyone needs long-term
care during their lives, ignoring the possibility of such care and failing to
plan for it can leave you or your spouse with little or no income or savings if
such care is needed. Even if you decide to buy long-term care insurance, don't
forget to factor the premium cost into your retirement income needs.
A complete statement of coverage, including exclusions, exceptions, and limitations, is found only in the long-term care policy. It should be noted that carriers have the discretion to raise their rates and remove their products from the marketplace.
The costs of catastrophic care
As the number of employers providing retirement health-care benefits dwindles and
the cost of medical care continues to spiral upward, planning for catastrophic
health-care costs in retirement is becoming more important. If you recently
retired from a job that provided health insurance, you may not fully appreciate
how much health care really costs.
Despite the availability of Medicare coverage, you'll likely have to pay for
additional health-related expenses out-of-pocket. You may have to pay the rising
premium costs of Medicare optional Part B coverage (which helps pay for
outpatient services) and/or Part D prescription drug coverage. You may also
want to buy supplemental Medigap insurance, which is used to pay Medicare
deductibles and co-payments and to provide protection against catastrophic
expenses that either exceed Medicare benefits or are not covered by Medicare at
all. Otherwise, you may need to cover Medicare deductibles, co-payments, and
other costs out-of-pocket.
The effect of taxes on your retirement savings and income is an often overlooked
but significant aspect of retirement income planning. Taxes can eat into your
income, significantly reducing the amount you have available to spend in
It's important to understand how your
investments are taxed.
Some income, like interest, is taxed at ordinary income
tax rates. Other income, like long-term capital gains and qualifying dividends,
currently benefit from special--generally lower--maximum tax rates. Some
specific investments, like certain municipal bonds,* generate income that is
exempt from federal income tax altogether. You should understand how the income
generated by your investments is taxed, so that you can factor the tax
into your overall projection.
Taxes can impact your available retirement
income, especially if a significant portion of your savings and/or income comes
from tax-qualified accounts such as pensions, 401(k)s, and traditional IRAs,
since most, if not all, of the income from these accounts is subject to income
taxes. Understanding the tax consequences of these investments is important when
making retirement income projections.
Have you planned for these factors?
When planning for your retirement, consider these common factors that can affect
your income and savings. While many of these same issues can affect your income
during your working years, you may not notice their influence because you're not
depending on your savings as a major source of income. However, investment risk,
inflation, taxes, and health-related expenses can greatly affect your