Written by Christopher Price

Introduction

For John and Sarah Matthews, retirement is fast approaching. At 55 years old, with $1 million saved
in their 401(k), their dream is to retire by age 62 and enjoy traveling, spending time with family, and
pursuing their passions. They currently earn $150,000 annually and spend $8,000 per month—or
$96,000 a year. They plan to rely on Social Security and their 401(k) to fund their retirement.

However, there are several key factors that need to be accounted for in their plan: healthcare costs
before Medicare eligibility, the potential impact of inflation, building a safety net, and how to
withdraw from their retirement savings in a tax-efficient way. Only after considering these elements
can they fully assess and solve for the projected shortfall in their retirement income.

Step 1: Defining John and Sarah’s Retirement Vision

John and Sarah envision a comfortable retirement filled with travel, particularly within the U.S., and
spending more time with their family and grandchildren. They are outdoor enthusiasts who want to
explore national parks and stay active in their community through volunteer work.

They estimate that their current expenses of $96,000 per year will remain relatively stable, though
certain costs—like commuting—will decrease, while other costs—like healthcare and travel—
might rise. Their goal is to ensure that they can maintain their lifestyle throughout retirement.

Step 2: Estimating Income in Retirement

Social Security Benefits

John and Sarah plan to claim Social Security benefits at age 62, which will provide them with a
combined annual income of $42,000. They understand that claiming early results in a reduced
benefit compared to waiting until full retirement age, but this aligns with their goal to retire at 62.

401(k) Withdrawals and Growth Projections

John and Sarah have saved $1 million in their 401(k) and contribute 6% of their annual income, with
their employer adding 4%. Together, they are contributing $15,000 per year. They expect an average
growth rate of 7% on their investments over the next seven years.

By age 62, their 401(k) is projected to grow to $1.74 million. Using the 4% withdrawal rule, they
could withdraw $69,424 per year from their 401(k) in retirement.

Combining their 401(k) withdrawals with Social Security, they can expect an annual income of:

• $69,424 from their 401(k)
• $42,000 from Social Security

Their total estimated retirement income would be $111,424 per year.

Step 3: Accounting for Healthcare Costs Before and After Retirement

Healthcare is one of the biggest unknowns in retirement planning, especially for those retiring
before Medicare eligibility at 65. John and Sarah need to account for the cost of healthcare during
the three-year gap between ages 62 and 65 when they will not yet be covered by Medicare.

Healthcare Costs Before Age 65

Between ages 62 and 65, John and Sarah will need private health insurance, which could cost them
an estimated $10,000 to $15,000 per year. They have a few options for covering this expense:

• COBRA: Extending their current employer-sponsored health insurance for up to 18 months
  after retirement. However, COBRA can be expensive.
• Private Health Insurance: Purchasing a plan through the healthcare marketplace may offer
  more affordable options, especially if they qualify for subsidies based on their retirement
  income.

They should plan to budget for these additional healthcare costs, which could increase their
expenses by up to $45,000 over the three-year period.

Healthcare Costs After Age 65

Once they turn 65, Medicare will become their primary source of health coverage. However, they
should still expect to pay premiums, deductibles, and out-of-pocket costs for services that
Medicare does not cover (such as dental and vision care). To mitigate these gaps, they may
consider purchasing a Medigap policy or a Medicare Advantage Plan.

Step 4: Building a Safety Net

While retirement should be a time to enjoy life, John and Sarah understand that unexpected
expenses can arise—such as medical emergencies, home repairs, or other unplanned costs.
Therefore, it’s important for them to maintain a financial safety net.

Emergency Fund

John and Sarah should aim to keep at least 6-12 months of living expenses in a liquid and low-risk
account. This emergency fund will help them manage any surprises without needing to dip into
their retirement accounts prematurely or disrupt their withdrawal strategy.

Long-Term Care Planning

Long-term care is another potential cost that could significantly impact their retirement savings.
While neither John nor Sarah has any current health concerns, it’s essential to plan for the
possibility of needing long-term care in the future. They may want to consider long-term care insurance, which could help cover the cost of extended care services such as nursing homes or in-home care.

Step 5: Tax Planning and Withdrawal Strategy

As John and Sarah begin withdrawing from their retirement accounts, they need to be mindful of the
tax implications. Their 401(k) is a tax-deferred account, meaning they will owe income taxes on
withdrawals. Developing a tax-efficient withdrawal strategy is crucial for minimizing their tax
burden.

Roth IRA Conversions

One strategy they might consider is converting some of their 401(k) funds into a Roth IRA in the
years leading up to retirement. Roth IRAs allow for tax-free withdrawals in retirement, which could
help reduce their taxable income later. Converting to a Roth IRA would require paying taxes on the
converted amount upfront, but it could save them money in the long run.

Required Minimum Distributions (RMDs)

At age 73, John and Sarah will be required to start taking RMDs from their 401(k). Failing to take
RMDs can result in hefty penalties, so it’s essential to factor this into their tax planning. They can
work with a financial advisor to determine the optimal timing and amount of withdrawals.

Step 6: Solving the Shortfall

Now that John and Sarah have accounted for the key factors of healthcare, tax planning, and
building a safety net, they can assess the projected shortfall in their retirement income and
consider solutions.

With inflation estimated at 3%, their current annual expenses of $96,000 will rise to approximately
$118,068 by the time they retire at age 62. This leaves them with a shortfall of around $6,644 per
year based on their projected income of $111,424.

Option 1: Save More Today (Increase 401(k) Contributions)

One way to address the shortfall is to increase their 401(k) contributions now. If they increase their
contributions by 3%, bringing their total annual contribution to $19,500, their 401(k) could grow to
$1.77 million by retirement. This would allow them to withdraw $70,981 per year, reducing the
shortfall significantly.

Option 2: Adjust Retirement Goals (Spend Less in Retirement)

Another option is to reduce their retirement spending to match their projected income. By adjusting
their inflation-adjusted expenses from $118,068 to $111,424, they could eliminate the shortfall.

This might involve downsizing their home, cutting back on discretionary spending, or finding more
cost-effective ways to travel and enjoy their hobbies.

Option 3: Delay Retirement (Work a Few More Years)

If John and Sarah delay retirement by two years—retiring at age 64 instead of 62—their 401(k) could
grow to $2.02 million, allowing them to withdraw $80,725 per year. In addition, delaying Social
Security would increase their benefits, further reducing the shortfall.

Option 4: Make More on Their Money (Take More Investment Risk)

Alternatively, John and Sarah could adjust their investment strategy to aim for an 8% growth rate
instead of 7%. This would increase their 401(k) balance to $1.85 million by age 62, allowing them to
withdraw $73,907 per year, which would nearly eliminate the shortfall.

Conclusion: Creating a Secure Retirement Plan for John and Sarah

John and Sarah are well on their way to a successful retirement, but there are still important
decisions to make to ensure they can meet their goals. By accounting for healthcare costs, building
a safety net, and creating a tax-efficient withdrawal strategy, they can approach retirement with
confidence.

To address the projected shortfall, they can choose to increase their savings, adjust their spending,
delay retirement, or take on more investment risk. Each option has its own trade-offs, and John and
Sarah will need to decide which approach—or combination of approaches—best aligns with their
goals and risk tolerance.

With careful planning, they can enjoy a fulfilling and financially secure retirement, filled with travel,
family, and new adventures.

Representatives do not provide tax and/or legal advice. Any discussion of taxes is for general informational purposes only, does not purport to be complete or cover every situation, and should not be construed as legal, tax, or accounting advice. Clients should confer with their qualified legal, tax, and accounting advisors as appropriate.

Investments or strategies mentioned in this program may not be suitable for you and you should make your own
independent decision regarding them. This material does not take into account your particular investment objectives,
financial situation or needs and is not intended as recommendations appropriate for you. You should strongly consider
seeking advice from your own investment adviser.

Securities and investment advisory services offered through qualified registered representatives of MML Investors
Services, LLC. Member SIPC. www.SIPC.org 1000 Corporate Drive, Floor 7 Fort Lauderdale, FL 33334 Telephone # (954)
625-1531

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