When it comes to your retirement plan, taxes still need to be included in this plan. But with the constant shift in what's available to employees now, the change in how long employees are staying with one company, and what some companies are and are not offering, are you prepared for the end of your career and for a new way of paying taxes?
For some of our readers and clients, retirement may be many years away. For others, it might be right around the corner. Either way, it's always important to be informed and be prepared. Saving for your retirement is something you'll be doing for the entirety of your professional career, and isn't something you'll stop worrying about once that retirement fund is what you're living off of permanently. In our last blog, we talked about what a 401(k) is and how taxes may or may not affect it. In this blog, we will be discussing what a pension is and how they may or may not be affected by taxes. After reading both of these blogs, we would be interested in hearing what your preference is between the two if you have the option of choosing.
Today the 401(k) is much more common than the pension. For newer companies, a pension might never have been in their plan to offer to their employees to begin with. But, as you begin saving for retirement, or you are planning on retiring soon, it's good to know and understand what your options are and what you might be facing when tax season approaches during retirement. Sadly, you won't get to stop paying taxes. Retirement funds will provide you and your family many wonderful opportunities and a chance to live peacefully, but you'll still be dealing with the IRS. But what exactly will you be dealing with, and what do you need to be aware of before you get there?
Let's start at the very beginning. What is a pension? A pension is a type of retirement plan that pays and provides a monthly income to someone in retirement. As we have talked about previously, they're not as common as they used to be. Today, it is the most common to find pensions for those retiring from government or big company jobs. Through your time working for a company that does provide a pension plan as their form of retirement, the company is responsible for putting money into a pension plan throughout the time you work for them. Once you reach a certain age of retirement, the money that has been put into this account throughout the years of employment is given back to the employee in the form of a monthly check. This monthly check serves as income through the course of retirement. For many people today, even those who do come from a healthy pension, this is usually not their only form of income once they are retired. Social security and other forms of income combined with a pension are very common. The amount that you do receive in your pension checks depends on three different things. How long you worked for your employer, how much you were paid while you worked for them, and your age. The longer you work for the company paying into a pension, the more you will receive in your pension The amount every company has to put into a pension is decided upon, protected by, and guaranteed by the Department of Labor. They make sure you do receive all the benefits you're owed by the time you retire. You also have the option to put money into your pension as well from your paycheck or other outside sources of income, just like a 401(k).
But what about taxes once you do start taking this money? You've hit the age of retirement and the checks start coming. What now? Once you start taking this money, you will still have to continue to pay taxes. It is not a source of tax-free income once it starts arriving in the mail. There are some exceptions to this rule, and some parts of your pension could remain tax-free. If a pension is being paid based on health reasons or disability, then that could become tax-free. If after taxed money was added to your pension over time, that too could be considered tax free. But these examples and a few other examples are few and far between. You need to be aware of what you may or may not be taxed on. Once living on your retirement plan, how much you'll be expected to pay in taxes cannot be a guessing game. Your fun and exciting plans for retirement might not become a reality if you're not careful. You might end up spending more than you expected on taxes if you aren't careful, and not spending it on the things you want. The safest thing to do is to plan to save money from your pension to pay taxes on it. Pensions are usually funded with pre-taxed cash, making the whole amount taxable once you start receiving the funds. The good news is, that whatever money you contribute from after taxed money, you will not have to pay taxes on!
That being said - let's look at the pros and cons of a pension.
Paying for your retirement starts long before you get to enjoy it. Since you're going to have to pay taxes the whole of your life, what option sounds the best to you? A pension or a 401(k)? With the changes and needs in what people are wanting to do with their careers, their lives during their work years and retirement years, which plan sounds best to you? Now knowing all that you do in how they differ, does it make sense why a 401(k) is more common now than a pension?
We hope you enjoyed this series of blogs. Retirement is not something you should be putting off, start as soon as you can and plan for as long as possible. Be confident and knowledgeable about what taxes look like before and after retirement, and plan accordingly. If you have any questions or concerns about your retirement plan during this tax season or future seasons, we are here to help you in Goose Creek!
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