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Source: Is it Worth the Money to Hire a Financial Advisor? The Balance
Starting to save as early as possible matters. Time on your side means compounding can have significant impacts on your future savings. And, once you’ve started, continuing to increase and maximize your 401k contributions is key.
Income in Retirement
Merck provides valuable benefits to help you plan for a healthy and financially secure retirement.
The Pension Plan is a defined benefit pension plan that calculates benefits under a cash balance formula. Your pension is determined as an account-based benefit that grows with:
• Annual company-provided pay credits based on the sum of your age and your cash balance service as of Dec. 31 (see table below), and
• Annual interest credits based on the percent change in the Consumer Price Index-Urban (CPI) each year plus 3% (minimum 3.3%).
Both pay credits and interest credits will be applied to your pension account effective Dec. 31 each year.
Cash Balance Formula
When your benefit is paid, you can choose to receive it as a lump sum or as an annuity. Generally, you can elect to receive your pension benefit at any time after you terminate employment.
You are 100% vested in your pension benefit after three years of service.
Lump Sum vs. Annuity
Retirees in your city, your state who are eligible for a pension are often given the choice to receive either pension payments for life or a lump sum amount all at once. The lump sum is equivalent to the present value of your monthly pension income stream. The idea for those who choose a lump sum is that you could take the money, roll it over to an IRA, invest it, and generate your own cash flows that enable you to take systematic withdrawals throughout your retirement years.
On the plus side, a lump sum payments gives you complete flexibility over the funds, allowing you to invest and potentially generate a greater retirement cash flow than you would receive with an annuity. Additionally, if something happens to you, any unused account balance will be available to a surviving spouse or heirs. However, if you fail to invest the funds for sufficient growth, there’s a danger that the money could run out altogether and you may regret not having held onto the pension’s “income for life” guarantee.
For its part, a pension annuity provides you with monthly payments that are guaranteed to continue for life, as long as the pension plan itself remains solvent and doesn’t default. So whether you live 10, 20, 30, or more years after retiring from Merck, you don’t have to worry about the risk of outliving your money.
The major downside of the monthly pension is the loss of income if you and/or your joint annuitant pass away early. This often triggers a reduction in the benefit or results in the pension ending altogether. Additionally, unlike with Social Security, company pensions rarely contain a cost of living allowance (COLA). As a result, a monthly pension that pays the same dollar amount over time ultimately loses purchasing power as inflation rates rise.
Ultimately, the risk assessment involved in choosing between a lump sum or guaranteed lifetime payments depends on what kind of return must be generated on the lump sum to replicate the payments of the annuity. After all, if a return of only 1% to 2% on your lump sum could create the same monthly cash flow you'd see with an annuity, you're at less risk of outliving the lump sum. However, if the pension payments can only be matched by earning a higher and possibly riskier rate of return, there is greater risk those returns won’t manifest and you could run out of money.
Interest Rates and Life Expectancy
Current interest rates, as well as your life expectancy, have a significant impact on lump sum payouts of defined benefit pension plans.
Rising interest rates have an inverse relationship to pension lump sum values. The reverse is also true: decreasing or lower interest rates will increase pension lump sum values. Interest rates are important for determining your lump sum option within your pension plan.
The Retirement Group believes all Merck employees should get a detailed RetireKit Cash Flow Analysis comparing their lump sum value versus their monthly annuity distribution options, before making their pension elections.
As enticing as a lump sum may seem, the monthly annuity for all or a portion of the pension may still be an attractive option, especially in a high interest rate environment.
Each person’s situation is different, and a complimentary Cash Flow Analysis from The Retirement Group will show you how your pension choices stack up and play out over the course of your retirement years, which may last two, three, four, or more decades.
By knowing where you stand, you can make a more prudent decision regarding the optimal time to retire, and which pension distribution option best meets your needs.
Almost half of plan participants in your city, your state say they don’t have the time, interest, or knowledge needed to manage their 401k portfolio. But the benefits of getting help go beyond convenience.
A Charles Schwab study found that 95% of plan participants would feel more confident making the right financial decisions with professional help. Additionally, 73% say they would like personalized investment advice for their 401k plan. That was particularly true in the following areas:
- Calculating how much money is needed to save for retirement.
- Receiving specific advice on how to invest in a 401k.
- Determining at what age they can afford to retire and how to create an income stream during retirement.
- Figuring out anticipated expenses and taxes during retirement.
- Understanding how new legislation affects retirement planning.
- Managing current expenses to save more money for retirement.
With retirement obstacles mounting, including concerns about inflation, market volatility, and unexpected expenses, the need for professional guidance grows. Don’t try to do it alone. Get help with your company's 401k plan investments. Your nest egg will thank you.
Net Unrealized Appreciation (NUA)
When you qualify for a distribution from your 401k plan, you have three options:
- Roll over your qualified plan to an IRA and continue deferring taxes.
- Take a distribution and pay ordinary income tax on the full amount.
- Take advantage of NUA and reap the benefits of a more favorable tax structure on gains.
How does Net Unrealized Appreciation work?
First, you must be eligible for a distribution from your qualified company-sponsored plan, which typically happens at retirement age. Another prerequisite is that NUA only applies to company stock that has been offered as a part of the 401k plan. In other words, if you're an employee, manager, or executive who has acquired Merck stock through the company 401k plan, NUA could be a viable strategy for you.
To leverage the NUA strategy, you would start by taking a lump sum distribution from your 401k plan, withdrawing all the assets from the plan during a one-year period. The portion of the plan that is made up of mutual funds and other investments can be rolled into an IRA for further tax deferral. The highly appreciated company stock is then transferred to a non-retirement account.
The tax benefit comes when you transfer the company stock from a tax-deferred account to a taxable account, such as a brokerage account.
For income tax purposes, the shares you received in your 401k have two parts: the cost basis, which is what you paid for the shares; and the appreciation, which is the current value of the shares minus the cost basis.
When you transfer stock from your 401k to a taxable account, you trigger a taxable event. However, with the NUA strategy, regular income tax rates only apply to the cost basis of your stock. The appreciated value of the stock is taxed at the lower long-term capital gains rate, which currently falls between 0% and 20%. If you pay income tax at the highest bracket of 37%, this means the NUA strategy could potentially save you 20% or more.
If you'd like to learnmore about NUA, reach out to set up a complimentary one-to-one session with a financial advisor from The Retirement Group in your city, your state.
IRA Withdrawals
Your retirement assets are likely dispersed across an array of retirement accounts, including IRAs, 401ks, taxable accounts, and others. So, what is the most efficient way to take your retirement income after leaving Merck?
You may want to consider meeting your income needs in retirement by first drawing down taxable accounts rather than tax-deferred accounts. This may provide a longer runway for your retirement assets to grow on a tax-deferred basis.
That said, you will need to take required minimum distributions (RMDs) from any company-sponsored retirement plans and traditional or rollover IRA accounts due to IRS requirements. If you were born between 1951 and 1959, you must start taking RMDs by age 73 or risk facing penalties as high as 25%.
Current rules also allow account owners to delay taking their first RMD until April 1 following the later of the calendar year they reach age 73 or, in a workplace retirement plan, retire.
Two flexible distribution options for your IRA
When you need to draw on your IRA for income or to take your RMDs, you have a few choices. Regardless of what you choose, IRA distributions are subject to income taxes and may be subject to penalties and other conditions if you’re under 59½.
1. Partial withdrawals: Withdraw any amount from your IRA at any time. If you’re 73 or over, you’ll have to take at least enough from one or more IRAs to meet your annual RMD.
2. Systematic withdrawal plans: Structure regular, automatic withdrawals from your IRA by choosing the amount and frequency to meet your income needs after retiring from Merck. If you’re under 59½, you may be subject to a 10% early withdrawal penalty (unless your withdrawal plan meets Code Section 72(t) rules).
Your financial advisor in your city can help you understand distribution options, determine RMD requirements, calculate RMDs, and set up a systematic withdrawal plan.
Medicare Coverage
You and your Medicare-eligible dependents must enroll in Medicare Parts A and B when you first become eligible. At this point, medical and MH/SA benefits payable under Merck's plan will be reduced by the amounts Medicare Parts A and B would have paid whether you actually enroll in them or not.
The Reality of Medical Costs in Retirement
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