Retirement 101: Understanding the Language of Retirement

May 8, 2020

Retirement jargon can be complicated to understand and, sometimes, even a tiny bit confusing, yet it is necessary to decipher. We want to lay out the basics of retirement for you, explain what the most common terms mean, and try to break it down so that it is easier to understand. Retirement doesn’t need to be more overwhelming than it already is, so it is essential to know what you are getting into before making any decisions. To start, we have outlined a few standard “Retirement 101” terms you need to know.

IRA (Individual Retirement Account / Arrangement)

The Merriam-Webster dictionary simplifies the definition of an IRA in this manner, “a retirement savings account in which income taxes on certain deposits and all gains are deferred until withdrawals are made.” Nearly any income-earning adult is eligible to open an IRA, making the option an especially helpful retirement-planning vehicle if your company doesn’t offer an employer-sponsored retirement plan such as a 401(k).

The two most well-known IRA types are traditional and Roth. The traditional option is an IRA in which investments grow tax-deferred, and contributions can be tax-deductible. With a Roth IRA, money grows tax-free, and withdrawals in retirement are also tax-free. The Internal Revenue Service (IRS) limits individuals’ annual contributions to their retirement plans, including Roth IRAs, traditional IRAs, and 401(k) plans, with IRA contribution limits lower than a 401(k). Some IRAs have other restrictions, such as income requirements. It is wise to seek education about all IRA options before deciding what is best for you. The Retirement Industry Trust Association (RITA) offers Retirement 101 education, focusing on best practices for self-directed IRA retirement planning.

Tax-Deferred

Tax-deferred means that you don’t have to pay taxes on the retirement funds until later, often when you withdraw funds. The idea behind this is that, at a later time, you may be in a lower tax bracket and therefore owe fewer taxes.

401(k)

A 401(k) is an employer-sponsored retirement savings plan offered to a company’s employees. Employers are not required to offer 401(k) plans, but many companies do. Some companies will even match a percentage of the amount you contribute from each paycheck, which can be one of the top benefits of a 401(k) plan — you can get free money from your employer based on how much you contribute! Employers can match a percentage of your contributions up to a set portion of total salary or contribute up to a specific dollar amount, regardless of your salary. To avoid paying early withdrawal penalties, an investor should wait until (at least) age 59½ to withdraw 401(k) money. Because rules about accessing your 401(k) plan after retirement are determined by both the IRS and the company that set it up, it’s best to consult your employer’s 401(k) plan administrator for details when approaching the age you plan to retire.

Rollover

If you move your assets from one investment to another, it’s called a rollover. For instance, moving funds from one IRA to another IRA is considered a rollover, as is moving money into an IRA from a qualified retirement plan such as a 401(k) if you leave an employer in whose 401(k) you participated. You will not lose your 401(k) funds when you leave a company, but you can no longer contribute to the plan once you leave the plan-sponsoring employer. When you leave a 401(k) plan-sponsoring employer, you have the option of leaving the money in your former employer’s plan, rolling it over to your new employer’s plan (if you prefer the benefits of the new employer’s plan), or opting for an IRA rollover. The main advantage of the latter two options is the consolidation of all your funds into one place.

IRA Custodian

In general terms, a custodian is one who has custody — a keeper or guardian responsible for keeping something (or someone) safe and secure. In investment terms, a custodian is the financial services company that maintains records of financial assets or has physical possession of specific securities. In terms of an Individual Retirement Arrangement/Account, the IRA custodian is the bank, brokerage firm, or other financial services company that holds your account. IRA custodians, also called trustees, are different depending on the type of IRA. For customer-directed (or self-directed) IRAs, a directed IRA custodian serves as a passive, non-discretionary custodian that executes investment directions from you, the IRA owner. A directed IRA custodian also performs the many custodial and administrative duties necessary to preserve the tax-deferred status of an IRA.

Retirement 101 FAQs

Now that you know a little more about some standard “Retirement 101” terms, let’s address a few questions you might have:

At what age should I begin saving for retirement?

There is no right or wrong answer to this question. You are never too young or old to save for retirement. Of course, as a rule, the best solution is always “the earlier, the better.” Ideally, it is best to regularly contribute to an outside fund if you are financially stable enough to part with a portion of your income, albeit temporarily. You must also remember that you cannot touch these funds before retirement without paying some hefty penalty fees. If you can handle both things, then you are ready to begin investing.

How long will my money last?

For this question, there is no absolute answer because it depends on the person. You can generally estimate how much you need every month and then add an average sum for medical and emergency. Just remember, it is always better to have more than you need. You want to be able to relax in retirement and not feel stressed or worried about money.

Do I need more than one retirement plan?

Once again, this depends on the individual. It is a good idea to have an account outside of your 401(k) as a backup; for instance, an IRA is an excellent complement to a 401(k). If you have financial resources to invest, it never hurts to plan for additional retirement savings.

If you have questions about saving for retirement (realistically, who doesn’t have retirement questions?), please contact RITA online or give us a call today. Retirement is a complicated process for everyone, so don’t hesitate to ask questions and do your research! It is always better to be informed.