(Article from Fall 2006 Profit Zone)

Everyone wants to have a comfortable and enjoyable retirement, but without adequate planning it probably won’t happen. People are living longer than ever, which is obviously good news, but that means retirement is becoming more expensive.

Some people believe that they can count on Social Security and don’t need to plan on their own. This is a dangerous strategy, as it will cover only a fraction of a typical retiree’s expenses. The long-term health of the Social Security is very much in doubt. Millions of Americans are trying to build their own nest egg in the event that Social Security will not supply them with adequate resources during retirement.

For the better part of the last century, many American workers depend on company pensions for their retirement years. One type of pension plans is a defined benefit plan. A defined benefit plan is where a retired employee receives a specific amount based on salary history and years of service, and in which the employer bears the investment risk. Contributions may be made by the employee, the employer, or both. These types of plans are quickly becoming relics of the past. According to the ERISA Industry Committee which represents the retirement, health and compensation plans of the nation’s largest companies. The number of pension plans in America has slipped from 112,000 in 1985 to less than 30,000 in 2004. Pension programs have suffered from many companies under funding their plans. Without proper funding, retirees are faced with possibly reduced benefits.

As pension plans began to decline, individual retirement plans increased. These are considered defined contribution plans. These company-initiated retirement plans, such as a 401(k) or 403(b), puts the burden back on the employee who elects to defer some amount of his/her salary into the plan and bears the investment risk. Companies elect how much they will contribute to the plans in addition to what the employee does. For individuals not working for companies who offer these types of plans, they have the option of opening and contributing funds to their own retirement plan such as an Individual Retirement Account (IRA).

With the burden shifted to the employee, it is important for individuals to understand and envision what their financial needs will be during their retirement years.

The first step in retirement planning is estimating how much money you’ll need. A popular rule-of-thumb claims that you will only need about 70 percent of your pre-retirement income to maintain your lifestyle in retirement. While you will probably save some money currently being spent on work-related items (such as formal clothes and commuting), other costs go up in retirement (health care, hobbies, etc). Seventy percent may be a useful rule of thumb, but some people find 50 percent is plenty while others feel they need 100 percent.

The second step is figuring out where the money you’re going to need will come from. Visit the Social Security Administration site to get an estimate of how much you’ll receive, and add to this any pension or other income you’ll be receiving from your employer.

Younger people should be cautiously optimistic about receiving Social Security benefits. The long-term viability of the program has been the subject of debate recently.

This is why it’s so important to take your financial matters into your own hands. If you have a 401(k) program at work (or a 403(b) or 457), it’s usually wise to contribute as much as you can. This is even more important if your employer provides some matching of your contributions. If you have no retirement plan at work, contribute to a traditional IRA or a Roth IRA. Contributions to a 401(k) or IRA are tax-deferred, so that you don’t pay any income taxes on your contributions until the money is withdrawn.

If you think you will be in a higher tax bracket upon retirement, you may want to consider funding a Roth IRA with post-tax dollars today. Also, ask your employer if they offer a Roth 401(k). Roth plans offer tax-free withdrawals in the future.

Regardless of which type of retirement plan you have, defined contribution or defined benefit, a retirement plan is better than no plan at all.