COLUMN-Out of work and under 65? Here's how to retool your retirement plan

Reuters

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By Mark Miller

CHICAGO, April 10 (Reuters) - We reached a milestone last week when the government reported that the U.S. economy has regained all the jobs lost during the Great Recession. Yet for many older workers the recession never ended; long-term joblessness has morphed into de facto premature retirement. Now, millions are performing financial triage on retirement plans that had been based on assumptions of working longer.

The overall job market does look promising. Although the national unemployment rate was unchanged in March at 6.7 percent, 192,000 jobs were added. And the Bureau of Labor Statistics reported that the private sector has gained 8.9 million jobs since the employment low in February 2010, just over the 8.8 million jobs lost during the economic meltdown.

On the surface, the outlook for older workers doesn't look bad. The jobless rate for workers over 55 was 4.7 percent last month, well below the national rate. But older workers who lose their jobs still face a much longer search for work; the average duration of unemployment was 49.4 weeks in March, compared with 36.2 weeks for all workers. And the number of unemployed people over 55 rose more than any other age group during the recession, according to an AARP analysis - 1.5 million in January this year compared with 832,000 in 2007.

Nothing hits a retirement plan harder than job loss in the last years of work. These are the years of peak earnings and - one hopes - peak contributions to retirement accounts. Yet the Employee Benefit Research Institute reports that 49 percent of retirees leave the workforce earlier than planned. The most frequent reasons include health problems or disability (61 percent), job loss (18 percent) or needing to care for another family member (18 percent).

Repairing a retirement plan is difficult for premature retirees, but there are ways to mitigate the damage. Here's what to consider if you find yourself among the involuntarily retired.

- Create a detailed spending projection. Retirement spending forecasts often use back-of-the-envelope assumptions about the amount of pre-retirement income that needs to be replaced, typically 80 percent. Yet research by Morningstar shows that needed replacement rates vary from under 54 percent to over 87 percent - and that spending declines over time, especially as people reach advanced ages when they have less interest in and ability to spend on travel, entertainment and clothes.

Many financial services websites offer online calculators that can help with this task; an excellent resource is former New York Times retirement columnist Fred Brock's book "Retire on Less Thank You Think" (Times Books, 2007).

- Be strategic about meeting short-term income needs. You'll want to minimize early withdrawal penalties and taxes, so if you have a liquid emergency fund, that's the first place to go. Taxable accounts are a good second choice, since there are no early withdrawal penalties, and stocks you've held for more than a year are taxed at the low long-term capital gain tax of 15 percent.

A Roth IRA drawdown is less desirable because you want to benefit from that account's tax-free growth as long as possible. But it's a reasonable choice if you've reached 59 1/2 and can make withdrawals without generating the 10 percent early withdrawal penalty. That's because Roth withdrawals don't generate income tax liability, since contributions are made with post-tax dollars.

Tapping a traditional IRA or 401(k) would come next. Keep in mind that withdrawals are taxed as ordinary income, and you may owe a 10 percent early-withdrawal penalty if you are under 59 1/2. However, if you are at least 55 and retire, quit or get fired, you can make penalty-free withdrawals from the 401(k) plan of your last employer under section 72(t) of the IRS code.

This is done by moving the funds to a rollover IRA, and taking distributions on a schedule of equal distributions over time. (The 72(t) payments must continue for five years or until an individual reaches 59 1/2, whichever is longer.) These distributions can also be made from regular IRA accounts. Consult a tax expert; 72(t) distributions done incorrectly can generate sizable penalties.

-Avoid taking Social Security early if possible. This is a tempting source of cash, and many Americans file before the full retirement age of 66. But most retirees can generate greater lifetime income from Social Security by waiting at least to 66 - especially married couples, who can take advantage of valuable spousal and survivor benefit rules. That's because claimers receive about 8 percent in additional payments for each year they delay filing, up to age 70.

Delayed filing also can stretch your retirement savings, since the higher Social Security income reduces pressure to use savings to meet living expenses.

- Manage health insurance expenses carefully. Retirees 65 or older are covered by Medicare. Younger retirees may be able to get coverage through a working spouse's insurance, or they can buy a policy through the Affordable Care Act (ACA) insurance exchanges. Although open enrollment for this year has ended, you can qualify for a special enrollment for 60 days following loss of health coverage from a former employer.

The ACA offers a huge improvement in economic security for retirees not yet eligible for Medicare. Insurers can't turn down enrollees due to preexisting conditions, and overall premium costs will be held down for many by the law's cost-sharing subsidies and advanceable, refundable tax credits on premiums. This year the subsidies are available for individuals with annual income of $11,490 to $45,960, and from $23,550 to $94,320 for a family of four. The definition of income is modified adjusted gross income, which includes wages, salary, foreign income, interest, dividends and Social Security benefits.

For more from Mark Miller, see http://link.reuters.com/qyk97s (Follow us @ReutersMoney or at http://www.reuters.com/finance/personal-finance. Editing by Douglas Royalty)

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