Long gone are the days when you could count on a job with a single employer for most or all of your career, then retire with a healthy defined benefit pension plan when you hit age 60 or 65. A defined benefit plan is one that provides a specified monthly benefit, without regard to how well the underlying investments have performed.
Instead, you’re likely to be faced with the prospect of creating a pension for yourself. Trying to come up with a plan to do so can be a bit overwhelming, and it’s difficult to know where to start. These days the basic Social Security benefit that most people get does not provide sufficient income to live comfortably during retirement.
Here is some retirement advice and basic tips for starting the process of creating your own personal pension.
Identify Your Goals. Even if you’re looking to mirror a traditional defined benefit pension, you should still give some thought to identifying your goals. What is the goal amount that you’d like your monthly benefit to be? Do you want the monthly benefit payable to your spouse after you die? Do you want to have funds left to pass along to your heirs after you and your spouse have passed away? Do you want to make any significant gifts to charity? The answers to these questions can significantly impact how you structure your self-made pension.
Use Different Investment Products. Almost without exception, you will be creating your own pension through a mix of investment vehicles. Different investment products will fulfill different requirements of your overall investment strategy. Consider the various advantages and disadvantages of index funds, annuity contracts, Treasury bills, CDs and charitable remainder trusts, and how these can be used to reach your goals.
Avoid the Traps that Doomed Traditional Pensions. Since you’re relying on your own investment decisions, it’s important to avoid some of the traps that led to the downfall of traditional pension plans. Keep your expectations in check. Don’t chase after higher returns within a particular asset class if it means that you have to accept too much risk in return. Make sure that you’re not overly invested in a particular investment type, and that the downturn of a particular company or industry won’t destroy the value of your portfolio.
Build in Some Flexibility. Finally, you don’t want your self-funded pension to be overly rigid. For example, while it might be tempting to immediately invest a significant portion of the assets you’ve earmarked for creating your pension into annuities or other long term contracts, this might end up causing problems for you later. If you’re still more than a few years away from retirement, what happens if your needs and goals change significantly before you retire? If your spouse passes away or one of your children need significant financial help then you might not want to have too much of your wealth tied up in inflexible contracts.
Building a pension for yourself requires careful planning, honest goal identification, and being realistic about how much income you can expect your retirement planning to generate. Follow the guidance above to give yourself the best chance to reach your goals.