Aug
02
2023

Rollover IRA vs Traditional IRA: What’s the Difference?

By | Growing Wealth, invest, Investing, Preparing for Retirement | Comments Off on Rollover IRA vs Traditional IRA: What’s the Difference?

If you’re leaving a job, you may hear the term “rollover IRA.” But exactly what is a rollover IRA? Employees have the option of moving their retirement savings from their employer-sponsored 401(k) plan to an individual retirement account, or IRA, at another financial institution when they leave a job. This IRA, where they transfer their 401(k) savings to, is called a rollover IRA. If the 401(k) plan was not a Roth 401(k), you’ll likely want to open what’s called a traditional IRA.

In this scenario, a rollover IRA is also a traditional IRA. But they aren’t always the same. You can have a traditional IRA that is not a rollover IRA. Read on for the differences worth noting between a rollover IRA and a traditional IRA.

Key Points

•   A rollover IRA is an individual retirement account created with funds rolled over from a qualified retirement plan, like a 401(k), usually when someone leaves a job.

•   A traditional IRA is funded by direct contributions by the account holder, and contributions are tax-deductible up to a cap and subject to eligibility limitations.

•   Directing rollover funds from an employer-sponsored plan to a traditional IRA that holds your direct contributions is called commingling funds, which you may not want to do, especially if you want to transfer the rollover funds to a new employer’s plan.

•   Withdrawals from either type of IRA before age 59.5 are subject to both income taxes and an early withdrawal penalty, except for certain eligible expenses.

•   The IRS requires owners of both types of IRAs to start making withdrawals at age 73 (for people born in 1951 or later); these withdrawals are also called required minimum distributions (RMDs).

Is There a Difference Between a Rollover IRA and a Traditional IRA?

When it comes to a rollover IRA vs. traditional IRA, the only real difference is that the money in a rollover IRA was rolled over from an employer-sponsored retirement plan. Otherwise, the accounts share the same tax rules on withdrawals, required minimum distributions, and conversions to Roth IRAs.

💡 Recommended: Here’s a complete list of retirement plans to compare.

What Is a Rollover IRA?

A rollover IRA is an individual retirement account created with money that’s being rolled over from a qualified retirement plan. Generally, rollover IRAs happen when someone leaves a job with an employer-sponsored plan, such as a 401(k) or 403(b), and they roll the assets from that plan into a rollover IRA.

In a rollover IRA, like a traditional IRA, your savings grow tax-free until you withdraw the money in retirement. There are several advantages to rolling your employer-sponsored retirement plan into an IRA, vs. into a 401(k) with a new employer:

•   IRAs may charge lower fees than 401(k) providers.

•   IRAs may offer more investment options than an employer-sponsored retirement account.

•   You may be able to consolidate several retirement accounts into one rollover IRA, simplifying management of your investments.

•   IRAs offer the ability to withdraw money early for certain eligible expenses, such as purchasing your first home or paying for higher education. In these cases, while you’ll pay income taxes on the money you withdraw, you won’t owe any early withdrawal penalty.

There are also some rollover IRA rules that may feel like disadvantages to putting your money into an IRA instead of leaving it in an employer-sponsored plan:

•   While you can borrow money from your 401(k) and pay it back over time, you cannot take a loan from an IRA account.

•   Certain investments that were offered in your 401(k) plan may not be available in the IRA account.

•   There may be negative tax implications to rolling over company stock.

•   An IRA requires that you start taking Required Minimum Distributions (RMDs) from the account at age 73, even if you’re still working, whereas you may be able to delay your RMDs from an employer-sponsored account if you’re still working.

•   The money in an employer plan is protected from creditors and judgments, whereas the money in an IRA may not be, depending on your state.

Recommended: This guide can help you financially prepare for retirement.

What Is a Traditional IRA?

Now that you know the answer to the question of what is a rollover IRA?, you’ll want to familiarize yourself with a traditional IRA. To understand the difference between a rollover IRA vs. traditional IRA, it helps to know some IRA basics.

From the moment you open a traditional IRA, your contributions to the account are typically tax deductible, so your savings will grow tax-free until you make withdrawals in retirement.

This is advantageous to some retirees: Upon retirement, it’s likely one might be in a lower income tax bracket than when they were employed. Given that, the money they withdraw will be taxed at a lower rate than it would have when they contributed.

A Side-by-Side Comparison of Rollover IRA vs Traditional IRA

  Rollover IRA Traditional IRA
Source of contributions Created by “rolling over” money from another account, most typically an employer-sponsored retirement plan, such as 401(k) or 403(b). For the rollover amount, annual contribution limits do not apply. Created by regular contributions to the account, not in excess of the annual contribution limit, although rolled-over money can also be contributed to a traditional IRA.
Contribution limits There is no limit on the funds you roll over from another account. If you’re contributing outside of a rollover, the limit is $6,500 for tax year 2023, plus an additional $1,000 if you’re 50 or older. Up to $6,500 for tax year 2023, plus an additional $1,000 if you’re 50 or older.
Withdrawal rules Withdrawals before age 59 ½ are subject to both income taxes and an early withdrawal penalty (with certain exceptions , like for higher education expenses or the purchase of a first home). Withdrawals before age 59 ½ are subject to both income taxes and an early withdrawal penalty (with certain exceptions , like for higher education expenses or the purchase of a first home).
Required minimum distributions (RMDs) You’re required to withdraw a certain amount of money from this account each year once you reach age 73 (thanks to the SECURE 2.0 Act of 2022). You’re required to withdraw a certain amount of money from this account each year once you reach age 73 (again, thanks to the SECURE 2.0 Act).
Taxes Since contributions are from a pre-tax account, all withdrawals from this account in retirement will be taxed at ordinary income rates. If contributions are tax deductible, all withdrawals from this account in retirement will be taxed at ordinary income rates. (If contributions were non-deductible, you’ll pay taxes on only the earnings in retirement.)
Convertible to a Roth IRA Yes Yes

Can You Contribute to a Rollover IRA?

By now you’re probably wondering, can I contribute to a rollover IRA?, and the answer is yes. You can make contributions to a rollover IRA, up to IRA contribution limits. For tax year 2023, individuals can contribute up to $6,500 (with an additional catch-up contribution of $1,000 if you’re 50 or older). If you do add money to your rollover IRA, however, you may not be able to roll the account into another employer’s retirement plan at a later date.

Can You Combine a Traditional IRA With a Rollover IRA?

A rollover IRA is essentially a traditional IRA that was created when money was rolled into it. Hence, you can combine two IRAs by having a direct transfer done from one account to another, or by rolling money from one IRA to the other IRA.

There’s one important aspect of the transfer or rollover process that will help prevent the money from counting as an early withdrawal or distribution to you—and that’s being timely with any transfers. With an indirect rollover, you typically have 60 days to deposit the money from the now-closed fund into the new one.

A few other key points to remember: As mentioned above, if you add non-rollover money to a rollover account, you may lose the ability to roll funds into a future employer’s retirement plan. Also keep in mind that there’s a limit of one rollover between IRAs in any 12-month period. This is strictly an IRA-to-IRA limit and does not apply to rollovers from a retirement plan to an IRA.

How to Open a Traditional or Rollover IRA Account

Opening a traditional IRA and a rollover IRA are identical processes — the only difference is the funding. Open a traditional or rollover IRA by doing the following:

•   Decide where to open your IRA. For instance, you can choose an online brokerage firm where you can choose your own investments, or you can select a robo-advisor that will offer automated suggestions based on your answers to a few basic investing questions. (There’s a small fee associated with most robo-advisors.)

•   Open an account. From the provider’s website, select the type of IRA you’d like to open — traditional or rollover, in this case — and provide a few pieces of personal information. You’ll likely need to supply your date of birth, Social Security number, and contact and employment information.

•   Fund the account. You can fund the account with a direct contribution via check or a transfer from your bank account, transferring money from another IRA, or rolling over the money from an employer-sponsored retirement plan. Contact your company plan administrator for information on how to do the latter.

The Takeaway

Both a rollover IRA and a traditional IRA allow investors to put money away for retirement in a tax-advantaged way, with very little difference between the two accounts.

One of the primary questions anyone considering a rollover IRA should consider is, will you keep contributing to it? If so, that would prevent you from rolling the rollover IRA back into an employer-sponsored retirement account in the future.

Whether it’s a rollover IRA you’ve created by rolling over an employer-sponsored retirement account or a traditional IRA you’ve opened with regular contributions, either account can play a key role in your retirement game plan.

Ready to invest for your retirement? It’s easy to get started when you open a traditional or Roth IRA with SoFi. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).

Easily manage your retirement savings with a SoFi IRA.

FAQ

Can you take money out of a rollover IRA?

You can, but if you take money from a rollover IRA (or a traditional IRA for that matter) before age 59½, those withdrawals are subject to income tax and an early withdrawal penalty of 10%. There are certain exceptions, however. If you withdraw the money for certain higher education expenses or to buy your first home, for example, the penalty may not apply.

Why would you rollover an IRA?

A rollover is when you move money between two different types of retirement plans. Typically, you might roll over an IRA if you leave a job with an employer-sponsored plan, such as a 401(k) or 403(b). You would roll the assets from that plan into a rollover IRA where your savings grow tax-free until you withdraw the money in retirement. You could instead choose to leave the money in your former employer’s plan, if that’s allowed, or roll it over into your new employer’s 401(k) or 403(b) plan, if they have one. However, a rollover IRA may offer you more investment choices and lower fees and costs than an employer-sponsored plan.

Can I roll over assets into my traditional IRA?

Yes, rolled over money can be contributed to a traditional IRA. It’s also worth noting that you can also combine a traditional IRA and a rollover IRA. You can do this with a direct transfer from one account to another, or by rolling money from one IRA to another, for instance. Just keep in mind that there is a limit of one rollover between IRAs in any 12-month period.

SoFi Invest®
INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

External Websites: The information and analysis provided through hyperlinks to third-party websites, while believed to be accurate, cannot be guaranteed by SoFi. Links are provided for informational purposes and should not be viewed as an endorsement.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

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Jul
28
2023

What Is the Average Retirement Age?

By | Budgeting & Goals, invest, Preparing for Retirement | Comments Off on What Is the Average Retirement Age?

The average retirement age in the US is age 65 for men and age 62 for women, but those numbers don’t reveal the extremely wide range of ages at which people can and do retire.

Some people retire in their 50s, some in their 70s; some people find ways to keep pursuing their profession and thus never completely “retire” from the workforce. The age at which someone retires depends on a host of factors, including how much they’ve saved, their overall state of health, and their desire to keep working versus taking on other commitments.

Still, having some idea of the average age of retirement can be helpful as a general benchmark for your own retirement plans.

What Is the Average Age of Retirement in the US?

Overall, the average retirement age in the U.S. is 64.

Age 65 may be what most of us think of as the best age to retire, but not all regions of America are hitting this goal. According to the U.S. Census Bureau’s American Community Survey, the average U.S. retirement age in:

•   Hawaii, Massachusetts, and South Dakota is 66.

•   Washington, D.C., is 67.

•   Residents of Alaska and West Virginia it’s 61.

A lower cost of living may be what’s helping West Virginia residents retire so young. West Virginia was one of the 10 most states in the country with the lowest costs of living, according to a 2023 study by Consumer Affairs.

Recommended: Cost of Living by State

While those previously mentioned states give a look at two ends of the average retirement age spectrum in the United States, many states have an average retirement age that falls closer to what one might expect.

Colorado, Connecticut, Iowa, Kansas, Maryland, Minnesota, Nebraska, New Hampshire, New Jersey, North Dakota, Rhode Island, Texas, Utah, Vermont, and Virginia all have an average retirement age of 65.

Expectations vs Reality

Expectations can lead to disappointment. Any kid with an overly ambitious wishlist for Santa Claus knows that.

Now imagine a person spending most of their adult life expecting to retire at 65 and then realizing their retirement savings just isn’t enough. Ideally, that won’t happen, but it has happened to many.

According to The Employee Benefit Research Institute’s Retirement Confidence Survey Summary Report, the expected average age of retirement in 2023 was 65. However, as noted previously, the Census places the average retirement age in the US at 64. Retiring earlier than planned could lead to not having enough money to retire comfortably.

How to Know When to Retire

Not everyone retires early by choice. More than four in 10 people retired earlier than they expected, mostly because of health problems, disabilities, or changes within their organizations.

It can be difficult for workers to exactly predict at what age they will retire due to circumstances that may be out of their control.

In order to bridge any financial gap caused by not having enough retirement savings, 51% of pre-retirees expect they will earn an income during their retirement by working either full time or part time.

While the survey found that respondents are aware of what they need their retirement savings to look like, there is a gap between their expectations and their actions.

Seventy-nine percent of pre-retirees reported that they agree they should be doing more to prepare for their retirement. However, only 48% reported having a strong retirement plan in place, with 19% of Gen Xers and 31% of millennials admitting to not saving for retirement at all.

A lack of awareness seems to be leading to a lack of preparedness: 25% of pre-retirees surveyed said they aren’t sure how much money they are currently saving for retirement.


💡 Quick Tip: Before opening any investment account, consider what level of risk you are comfortable with. If you’re not sure, start with more conservative investments, and then adjust your portfolio as you learn more.

How Much You Should Have Saved for Retirement?

To retire comfortably, the IRS recommends that individuals have up to 80% of their current annual income saved for each year of retirement. With the average Social Security monthly payment being $1,177, retirees may need to do a decent amount of saving to cover the rest of their future expenses.

This is something to keep in mind when choosing a retirement date.

It’s Never Too Early to Start Saving for Retirement

Retirement can last 30 years or more. As lovely as that sounds, financial security is key to enjoying a relaxing retirement.

Any day is a good day to start saving, but saving for retirement while a person is young could help put them on the path toward a more secure retirement. The more years their savings have to grow, the better.

“A very helpful habit,” explains Brian Walsh, CFP® at SoFi, “Is truly automating what you need to do. Recurring contributions. Saving towards your goals. Automatically increasing those contributions. That way you can save now and save even more in the future.”

The Department of Labor (DOL) estimates that for every 10 years a person waits to begin saving for retirement, they will have to save three times as much every month to play catch-up.

3 Steps to Start Preparing for Retirement

It’s not enough to have an idea of the best time to retire. To really reach that goal, it’s important to have a financial plan in place. These steps break down how to prepare for retirement.

Step 1: Estimate how much money you’ll need

One of the first steps a person could take toward their retirement saving journey is to estimate how much money they need to save. There is a retirement savings formula that can help you estimate: Start with your current income, subtract your estimated Social Security benefits, and divide by 0.04. That’s the target number of retirement savings per year you’ll need.

Step 2: Set up retirement saving goals

It might be worth considering what retirement savings plans are available, whether that is an employer-sponsored 401(k), an IRA, or a simple savings account. Contributing regularly is key, even if big contributions can’t be made to retirement savings right now.

Making small additions to savings can add up, especially if extra money from finishing car payments, getting a holiday bonus, or earning a raise can be diverted to a retirement savings account.

If an employer offers a 401(k) match, it might be beneficial to take advantage of that feature and contribute as much as the employer is willing to match.

Along with receiving free money from an employer, there are also tax benefits of contributing to a 401(k). Contributions to a 401(k) happen pre-tax — that lowers taxable income, which means paying less in income taxes on each paycheck.

In addition, 401(k) contributions aren’t taxed when deposited, but they are taxed upon withdrawal. Withdrawing money early, before age 59 ½, also adds a 10% penalty.

Step 3: Open a Retirement Account

If access to an employer-sponsored 401(k) plan isn’t available — or even if it is — investors might want to consider opening an IRA account. For investors who need a little help sticking to a retirement savings plan, they could consider setting up an automatic monthly deposit from a checking or savings account into an IRA.

In 2023, IRAs allow investors to put up to $6,500 a year into their account ($7,500 if they’re older than 50). There are two options for opening an IRA — a traditional IRA or a Roth IRA, both of which have different tax advantages.

Traditional IRA

Any contributions made to a traditional IRA can be either fully or partially tax-deductible, and typically, earnings and gains of an IRA aren’t taxed until distribution.

Roth IRA

For Roth IRAs, earnings are not taxable once distributed if they are “qualified”—which means they meet certain requirements for an untaxed distribution.

Late to the Retirement Savings Game?

Starting to save for retirement late is better than not starting at all. In fact, the government allows catch-up contributions for those over the age of 50. Catch-up contributions of up to $7,500 in 2023 are allowed on a 401(k), 403(b), SARSEP, or governmental 457(b).

A catch-up contribution is a contribution to a retirement savings account that is made beyond the regular contribution maximum. Catch-up contributions can be made on either a pre-tax or after-tax basis.

As retirement gets closer, future retirees can plan their savings around their estimated Social Security payments. The official Retirement Estimator tool provided by the U.S. Social Security office could help by basing the estimate on an individual’s actual Social Security earnings record.

While this estimate is not a guarantee, it might give a retiree — or anyone planning when to retire — an idea of how much they might consider saving to supplement these earnings.

Social Security benefits can begin at age 62, which is considered the Social Security retirement age minimum. However, full benefits won’t be earned until full retirement age, which is 65 to 67 years old, depending on birth year.

Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), mutual funds, alternative funds, and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).

Invest with as little as $5 with a SoFi Active Investing account.

FAQ

Does the average retirement age matter?

The age at which you retire affects your Social Security benefit. For instance, if you retire at age 62, your benefit will be about 30% lower than if you wait until age 67.

What is the full retirement age for Social Security?

The full age of retirement is 67 for anyone born in 1960 or later. Before that, the full retirement age is 66 for those born from 1943 to 1954. And for those born between 1955 to 1959, the age increases gradually to 67.

How long will my retirement savings last?

One strategy you could use to help determine how long your retirement savings might last is the 4% rule. The idea behind the rule is that you withdraw 4% of your retirement savings during your first year of retirement, then adjust the amount each year after that for inflation. By doing this, ideally, your money could last for about 30 years in retirement. However, your personal circumstances and market fluctuations may affect this number, which means it could vary. It’s best to use the 4% rule only as a general guideline.

SoFi Invest®
INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

External Websites: The information and analysis provided through hyperlinks to third-party websites, while believed to be accurate, cannot be guaranteed by SoFi. Links are provided for informational purposes and should not be viewed as an endorsement.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

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Jul
26
2023
Purchasing Power 101: Examining the Value of the US Dollar

Purchasing Power 101: Examining the Value of the US Dollar

By | invest, Investing, Preparing for Retirement | Comments Off on Purchasing Power 101: Examining the Value of the US Dollar

Purchasing power is a concept used to express the amount of goods and services a consumer or business can buy with a given unit of currency. In the United States, purchasing power is directly linked to the value of the dollar.

Due to inflation, a dollar today typically won’t go as far as it did last year. And a dollar next year won’t buy the same things that it did this year. This fluctuation in US dollar purchasing power is constant, and goes unnoticed, except in times of extreme inflation.

How Does Purchasing Power Impact Investors?

Once you understand the purchasing power definition, you can start to understand its context for investing. The purchasing power of a dollar affects investors because it makes an impact on virtually every aspect of the broader economy. When the dollar buys less, it changes the shopping decisions of consumers, the hiring practices of employers, the strategic decisions of corporations, and the monetary policy of the Federal Reserve.

One way to track inflation and purchasing power of a dollar is the Consumer Price Index (CPI), a statistic compiled by the US Bureau of Labor Statistics (BLS), which reports the figure every month. The statistic measures the average of prices of a set of goods and services in sectors such as transportation, food, and healthcare. Economists consider it a valuable gauge of the ever-changing cost of living, though it does exclude some important spending categories, including real estate and education.

Investors, executives and policymakers use CPI as a lens through which to scrutinize other economic indicators, including sales numbers, revenues, earnings and so on. It also determines the payments made to the millions of people on Social Security, which gets adjusted for the cost of living every year, and retirees drawing a pension from the military or the Federal Civil Services.

💡 Quick Tip: Look for an online brokerage with low trading commissions as well as no account minimum. Higher fees can cut into investment returns over time.

Why Does the Value of the Dollar Change?

A number of factors drive the value of the US dollar, including large scale factors having to do with economic cycles, government politics and international relations. But the dollar has also experienced inflation for most of the last century.

Inflation rose after World War I amid increased demand for food and other raw materials, which raised prices of most consumer goods up until the Great Depression, in which the country experienced prolonged deflation.

That’s when President Franklin Roosevelt stepped in with a surprising policy decision: He banned private ownership of gold, and required people to sell their holdings to the government. That allowed the Federal Reserve to increase the money supply and stop deflation in its tracks.

Since 1933, through World War II, the Cold War, and a host of changing monetary and economic policies, the US dollar has seen various rates of inflation. It reached its peak during the late 1970s and early 1980s oil and gas shortages exacerbated existing inflation and led to a gas shortage, and an increase in the price of manufacturing and shipping of nearly every single consumer good.

Inflation rose at a more steady pace through the 1990s, falling to historically low levels in the past decade. One reason for the ongoing inflation is that the Federal Reserve continually increased the money supply via economic stimulus. The logic is simple supply and demand: If there are more dollars, then each one is worth less in terms of purchasing power.

In response to the Covid-19 pandemic and the ensuing lockdowns, the Federal Reserve injected trillions into the economy. That, along with other stimulus measures, has had many investors worried about the impact on the purchasing power of the dollar, and what that might mean for the broader economy. In 2022, inflation rose at the fastest pace in 40 years, making prices more expensive and resulting in many consumers having less money to spend.

What Purchasing Power Means for Investors

Generally, investors consider inflation a headwind for the markets, as it drives up the costs of materials and labor, boosts the cost of borrowing and tends to reduce consumer spending. That all tends to translate to lower earnings growth, which can depress stock prices.

But after decades of steady inflation, the markets have priced in a certain amount of shrinkage when it comes to the purchasing power of the dollar. Inflation has a great impact when it occurs suddenly and unexpectedly.

But inflation can have benefits for investors as well. During an economic upswing, inflation is a reliable side effect of prosperity, since economic booms produce higher profits, which drives up the markets. Historically, some experts say that the decades when the S&P 500 Index has delivered the highest returns have been when inflation has been between 2% to 3% annually.

Investors saving for long-term goals, such as retirement, must take declining purchasing power into account when determining how much they’ll need to reach those goals.

💡 Quick Tip: It’s smart to invest in a range of assets so that you’re not overly reliant on any one company or market to do well. For example, by investing in different sectors you can add diversification to your portfolio, which may help mitigate some risk factors over time.

How Does Inflation Influence Stocks?

Inflation impacts different types of stocks differently, and there are several strategies that investors can use to hedge against inflation. During periods of high inflation, growth stocks tend to underperform, simply because so much of their value is tied up in the expectation of future earnings, and inflation diminishes those expectations.

Value stocks, on the other hand, typically boast steadier earnings, and are valued in line with those earnings. As a result, value stocks, as a category, tend to hold up better during periods of high inflation.

Other investments to consider during periods of high inflation include dividend-paying utility stocks and REITs, gold and other commodities. And because periods of high inflation usually brings higher interest rates, it can be a good time to buy bonds, especially government bonds

The Takeaway

The value of the dollar, in terms of what it can buy, changes over time, but inflation isn’t always bad news for investors. Some stocks may perform better than others in an inflationary environment, and higher interest rates may be good news for bond investors and savers.

Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), mutual funds, alternative funds, and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).


Invest with as little as $5 with a SoFi Active Investing account.

Photo credit: iStock/pcess609

SoFi Invest®
INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

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Jul
25
2023
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When Will Social Security Run Out?

By | Investing, Preparing for Retirement | Comments Off on When Will Social Security Run Out?

While it’s unlikely that Social Security will ever run out completely, current predictions are that benefits could be reduced by as much as 20% by 2034 — unless Congress intervenes.

Why is that?

Imagine the Social Security system as a bucket of water. Current workers pay Social Security tax that’s added to the bucket, while retired workers withdraw their benefits from the resources in the bucket.

Throughout Social Security’s almost 90-year history, there was always a surplus of funds. More people were paying into the system than were withdrawing from it.

Over time, for various reasons — including a smaller pool of younger workers and a longer-living pool of retirees — those excess resources have been slowly depleted. Given the demands on the system, it’s unclear how to keep Social Security functioning unless benefit payouts are cut, or the government takes some kind of action.

How Social Security Works

The American Association for Retired Persons (AARP) describes Social Security as a “pay-as-you-go” system, meaning that the contributions made by workers now (through the Social Security payroll tax) are actually used to pay the benefits of today’s retirees. Currently some 180 million workers pay into the system, which provides Social Security and Disability benefits for 66 million people.

When today’s workers retire, the idea is that they will receive benefits based on what the next generation contributes. Any money that’s left over goes into one of two Social Security trust funds.

According to the Social Security Trustees report published in March 2023, total costs of the OASI and DI Trust Funds (Old Age and Survivors Insurance, and Disability Insurance) the system began to outstrip total income in 2021, and the reserves of the OASI and DI Trust Funds declined by $22 billion in 2022 to $2.83 trillion.

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Understanding Social Security Tax

The amount each individual worker contributes to Social Security depends on their income. Employees who work for a traditional employer split the Social Security tax payment with their employer at 6.2% each up to $162,200 in annual salary, and self-employed workers are responsible for the entire 12.4%.

As employees contribute to the tax, they earn Social Security “credits” — with a max of four per year.

Those employees become eligible for benefits when they reach 40 credits, which equals roughly 10 working years, or they reach full retirement age. For Americans born in 1960 or later, that’s 67 years old.

At What Age Are You Eligible for Social Security?

Getting the most out of Social Security benefits becomes a numbers game as workers get close to retirement age, because workers are technically eligible at age 62. But for each month previous to full retirement age that someone starts drawing benefits, they’re reduced by one-half of one percent.

According to the SSA, that means if a worker’s full retirement age is 66 and 8 months and they start drawing Social Security at age 62, they’ll only get around 71.7% of their full benefit.

The benefits stop increasing at age 70, and the AARP reports that workers who are able to wait that long get the most return — full benefit plus delayed retirement credits — but individual decisions should be made on a number of factors, including employment outlook and health.

Recommended: When Can I Retire?

Social Security Trust Funds

After all the contributions have been paid in and benefits paid out, any remaining funds are divided up between two trust funds, divided up between the Old-Age and Survivors Insurance (OASI) Trust Fund and the Disability Insurance (DI) Trust Fund, where they earn interest in government-guaranteed Treasury bonds.

The larger of the two funds, the OASI, pays benefits to retired workers, their surviving spouses and eligible children, and covers administrative and other expenses. It’s the largest fund that takes care of retirees who don’t face special circumstances, and deposits are made daily. It’s been around since 1940.

The smaller DI Trust Fund handles monthly benefit payments to disabled workers and their spouses and children until they’re eligible for full benefits through the OASI.

Even though both funds are a part of the overall federal budget, they’re handled separately and the SSA isn’t allowed to pay out more than what’s in the trust fund.

Recommended: Top 5 Social Security Myths

Risk of Social Security Running Out

Media headlines in recent years have highlighted concerns over a potential Social Security funding shortfall. But it’s important to separate fact from fiction when understanding how Social Security works.

Myth 1: There won’t be any money to pay benefits

As mentioned, the odds of Social Security running out of money completely are low. Remember, Social Security is pay as you go with today’s workers paying in funds that are used to provide retirement benefits for today’s retirees.

When you retire, your benefits would be paid by those still working. So unless the system itself is abolished, Social Security benefits would continue to exist and be funded by workers.

Reality: Social Security surplus funds may be exhausted

While workers pay into Social Security, the program also has a surplus of trust funds that it can use to pay benefits, as described earlier. The program has begun using those funds to pay some benefits as of 2021, with payroll taxes continuing to pay the majority of benefits to retirees.

While Social Security itself is unlikely to end, the trust funds may eventually be spent down to $0, which presents the possibility of a reduction in future benefits.

Myth 2: People who aren’t eligible for Social Security can receive it

Another concern about the possibility of Social Security running out stems from the mistaken belief that undocumented individuals can illegally claim Social Security benefits.

The idea is that some people might unfairly claim benefits they’re not entitled to, putting a burden on the system and reducing benefits for eligible workers.

Reality: Documentation is required to obtain benefits

A Social Security number or Individual Taxpayer Identification Number is required for the Social Security Administration to create a benefits record for a citizen or non-citizen who’s authorized to work in the U.S. Someone who has either could legally obtain benefits through Social Security since they’ve technically paid into the system.

Myth 3: The current system can’t support an aging population

As life expectancies increase and the birth rate declines, it’s natural to assume that living longer may affect Social Security’s ability to continue paying out benefits. Someone who’s 25 now, for example, may be wondering what year will Social Security run out and how will it time up with my retirement?

Reality: Social Security can adapt

While there’s little the government can do to change the demographic makeup of the population, lawmakers can be proactive in proposing changes to Social Security. That includes measures that can help to preserve benefits for as many workers as possible while minimizing the odds of running out of funding.

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Problems With Social Security

Because benefit payouts are tied to the SSA’s reserve balance, it begs a question for many working Americans — what happens when that balance hits zero? The SSA itself acknowledges that benefits will likely only be available in full until 2035. That’s just 11 years away.

Reasons for the depletion of fund reserves are attributed to a number of challenges, including a rise in program costs. Cost-of-living adjustments, or COLA, have been steadily increasing. Life expectancy for Americans has grown longer, while the number of workers hasn’t kept pace with the number of retirees.

How to Avoid Social Security Running Out

Lawmakers, financial experts, and retirement advocates are starting to float ideas for how to save the program. To date, the two ideas that have been floated include raising the Social Security tax or reducing the benefit — two options that are likely to be unpopular with both workers and retirees.

There are many details on how to implement those two ideas. Some business publications say that the deficit could be eliminated with a combination of both that aggregate to 2.84% of payroll — that equals less than 3 cents for each dollar earned, and it would be split by workers and employers.

Another proposed fix, called the Social Security 2100 Act, would make a number of changes to the current system, such as changing the formula for COLA to use a Consumer Price Index for the Elderly (versus its current price index for wage earners).

It would also involve setting the new minimum benefit at 25% above the poverty line. Advocates say the result would be like getting a 2% raise of the average benefit.

History of Early Social Security

The need to secure a financial future for ourselves and our loved ones isn’t new — or uniquely American. Across the pond, the English passed a series of “Poor Laws” around 1600 intended to ensure that the state provided for the welfare of its poorest citizens.

Americans were quick to embrace the idea that the country should take care of its people, but at first it wasn’t society at large. In 1862, for example, a post Civil War-era program offered pensions to disabled Civil War soldiers, and widows and children of the deceased.

Around the late 1800s, some private companies were starting to offer pension plans too. The first company to offer a real pension plan was the Alfred Dolge Company, which made pianos and organs. They took 1% of an employee’s salary and put it into a pension plan, and then added 6% interest per year.

In 1935, President Franklin D. Roosevelt signed into law the Social Security Act. The government then started collecting Social Security taxes two years later. Then on January 31, 1940, the first monthly retirement check of $22.54 was issued to Ida May Fuller in Ludlow, Vermont.

This Isn’t the First Social Security Shortfall

The retirement en masse of America’s Baby Boomers and parallel decline in birth rate is taking the blame for Social Security’s current problems. But this isn’t the first time the fund has been in trouble.

When the program first began phasing in, for example, workers were contributing but no one was retiring yet, so the fund grew a nice little surplus. Congress, seeing those nice big numbers, were generous with increasing benefits every time they had the chance.

When the 1970s rolled around, however, and those workers reached retirement age, that upward momentum came to a screeching halt. On top of that, a flaw in the program’s COLA formula caused benefits to double-index, or increase at twice the rate of inflation rather than matching it.

It became such a mess that task forces were created, the error got its own name “The Notch Issue,” and instead of making changes to Social Security during even years, because increases and expansions were good for election campaigns, Congress made changes on odd-numbered years.

Social Security Amendments of 1983

Amendments in 1983 addressed the financing problems to the Social Security system. These changes were the last major ones to the program and were based on recommendations from a commission chaired by Alan Greenspan.

The Greenspan Commission adjusted benefits and taxes. The resulting reforms have generated surpluses and the buildup of a trust fund. However, many experts project that the retirement of the baby boomers, along with other demographic factors, will exhaust the trust.

What Can I Do About Social Security?

The SSA allows contributors to keep track of their Social Security accounts online, work with retirement and benefits estimation tools, and even apply for retirement benefits online.

Perhaps the two most important tools in the journey toward retirement are education and planning — knowing where you are, where you want to be, and what you need. Understanding the ins and outs of the ideal retirement age, whether that’s through Social Security or private retirement savings plans, and how to avoid penalties can help form a solid plan.

Aside from government benefits, one of the easiest steps for traditionally employed workers is to take full advantage of their employer’s 401(k) matching plans. These are programs in which the employer can match what you contribute to the 401(k).

If your employer doesn’t offer a 401(k) or matching plan, consider setting up an IRA or Roth IRA. Regular IRAs are tax-deductible like 401(k)s, meaning you’re not taxed until your withdrawal in retirement. Meanwhile, contributions to Roth IRAs are not tax-deductible, but you can withdraw money tax-free in retirement.

The Takeaway

Without fixes, the cash reserves of the SSA will become depleted and workers who reach full retirement age after 2034 will likely receive a reduced benefit amount.

It can be a scary proposition for some, but knowing that the deadline is approaching is a huge advantage in that members of the workforce who have time to take measures to counter the expected shortfall by saving more and adjusting their financial plans.

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Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

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Getting a Mortgage in Retirement

By | Home Ownership, mortgage, Preparing for Retirement | Comments Off on Getting a Mortgage in Retirement

With an abundance of Americans reaching retirement age—10,000 people will turn 65 every day for the next two decades—some of those will be looking for a new place to call home and a way to finance it.

You might think of the young and middle-aged as typical homebuyers and older people as more likely to have paid off, or nearly paid off, their homes and wanting to stay put. But with opportunity in the air and a desire to downsize—and sometimes upsize—more retirees could well be in the market for a new home.

Lenders and Age: No Legal Gray Area

Mortgage lenders look for a variety of things when qualifying a home loan applicant. What they can’t do is take age into consideration when making a lending decision.

The Equal Credit Opportunity Act bans creditors from using age to influence a loan application decision.

Retirees applying for a home loan, like people still working, generally just need to have good credit, minimal debt, and enough ongoing income to repay the mortgage.

Here are some of the main factors you need to buy a house that lenders look for:

•   Proof of income
•   Low debt-to-income ratio
•   Decent credit profile
•   Down payment
•   If it’s a primary or secondary home

Let’s take a look at each.

Proof of Income

While many retirees live on a fixed income, putting multiple sources of income together can help establish income that is “stable, predictable, and likely to continue,” as Fannie Mae instructs lenders to look for.

Social Security. The average monthly Social Security payout was $1,827 in 2023, enough to contribute to a mortgage payment. But if Social Security is an applicant’s only source of income, they may have trouble qualifying for a certain loan amount.

Investment income. Sixty-nine percent of older adults receive income from financial assets, according to the Pension Rights Center. But half of those receive less than $1,754 a year, the center says.

But for those who do receive investment income, it’s important to know that a lender generally looks at dividends and interest, based on the principal in the investment. If an applicant plans to use some of the principal for a down payment or closing costs, the lender will make calculations based on the future amount.

Lenders may view distributions from 401(k)s, IRAs, or Keogh retirement accounts as having an expiration date, as they involve depletion of an asset.

Home loan applicants who receive income from such sources must document that it is expected to continue for at least three years beyond their mortgage application.

And lenders may only use 70% of the value of those accounts to determine how many distributions remain.

Annuity income can be used to qualify, as well, as long as the annuity will continue for several years (three years is likely the minimum).

Part-time work. Retirees who earn money driving for a ride-share service, teaching, manning the pro shop, and so forth add income to the pot that a lender will parse.

Clearly, the more income a retiree can note on a mortgage application, the better the odds of a green light.


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Debt

If your income level falls into a gray area, mortgage lenders are even more likely to focus on your debt-to-income ratio.

Debt-to-income is a straightforward proposition. It’s calculated as a percentage and it’s vetted by lenders and creditors as a percentage. Simply divide your regular monthly expenses by your total monthly gross income to get your debt-to-income ratio.

Let’s say you have $5,000 in regular monthly gross income and your regular monthly debt amount is $1,000. In that scenario, your debt-to-income ratio is 20% (i.e., $1,000 is 20% of $5,000.)

By and large, the higher your DTI ratio, the higher the risk of being turned down for a mortgage loan.

If you have a spouse who also has regular income and low debt, adding that person to the mortgage application could help gain loan approval. Then again, married couples applying for a loan may want to consider how a spouse’s death would affect their ability to keep paying the mortgage.

Lenders, though, cannot address that matter in the loan application.

Recommended: 11 Work-From-Home Jobs Great for Retirees

Credit Profile

Mortgage lenders also give great weight to consumer credit scores when evaluating a home loan application. That’s understandable, as a high FICO® credit score—740 or above is considered generally quite mortgage-worthy—shows lenders that you pay your bills on time and that you’re not a big credit risk.

It might be smart to take some time before you apply for a mortgage to review your credit report, making sure all household bills are up-to-date and no errors exist that might trip you up. And it’s a good idea to limit credit inquiries on big-ticket items.

You can get a free copy of your credit scores at annualcreditreport.com and at any of the “big three” credit reporting agencies: Experian, Equifax, and Transunion.

The Property

Mortgage lenders will also take a close look at the home you wish to purchase.

In general, it’s easier to obtain a mortgage for a primary residence, as it represents the home you’ll live in long term and there’s only one mortgage to pay.

A second home, either as a vacation or investment property, is a riskier proposition, as it represents another mortgage to pay and may bring more debt to the lender’s mortgage approval score sheet.

💡 Quick Tip: Because a cash-out refi is a refinance, you’ll be dealing with one loan payment per month. Other ways of leveraging home equity (such as a home equity loan) require a second mortgage.

Down Payment

Using the asset depletion method, a lender will subtract your expected down payment from the total value of your financial assets, take 70% of the remainder (if it’s a retirement account), and divide that by 360 months.

Then the lender will add income from Social Security, any annuity or pension, and part-time work in making a decision.

For borrowers, putting at least 20% down sweetens the chances of being approved for a mortgage at a decent interest rate.

Recommended: Home Affordability Calculator

The Takeaway

As a retiree, if your income, debt-to-income ratio, and credit score are solid, you’re as likely as any other borrower to gain approval for a new home loan. Lenders cannot legally take age into consideration when making their decisions.

Looking for an affordable option for a home mortgage loan? SoFi can help: We offer low down payments (as little as 3% - 5%*) with our competitive and flexible home mortgage loans. Plus, applying is extra convenient: It's online, with access to one-on-one help.


SoFi Mortgages: simple, smart, and so affordable.


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Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

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