Savers hoping to be able to sock away more money in retirement accounts in 2021 than they could in 2020 are out of luck.
Most contribution limits for common workplace retirement and individual retirement accounts, or IRAs, are subject to inflation adjustments. But for the 2021 tax year, none will budge.
The IRS announced Oct. 26 that the contribution limits for these accounts will not increase for 2021, meaning the year for which your tax return is due by April 2022.
Most income limits for IRAs — which determine whether and how much you can contribute to an IRA — will increase, however.
Contribution limits for workplace plans
For 2021, the base contribution limit for the following types of workplace retirement accounts will remain $19,500, the same as it was for 2020:
Most 457 plans
Thrift Savings Plan
The base contribution limit for Savings Incentive Match Plan for Employees (SIMPLE) retirement accounts also will remain the same: $13,500.
Catch-up limits for workplace plans
Each year, folks who are 50 or older can save more money in their tax-sheltered retirement accounts by also making additional contributions, known as “catch-up contributions.”
For 2021, the catch-up contribution limit for the following types of workplace retirement accounts will remain $6,500, the same as it was for 2020.
Most 457 plans
Thrift Savings Plan
This means that someone who is at least 50 years old could contribute $19,500 plus $6,500 to those types of accounts — for a total of $26,000 — in 2021, as was the case the prior year.
Contribution and catch-up limits for IRAs
The base contribution limit for individual retirement accounts remains the same as it has been since the 2019 tax year: $6,000.
The catch-up contribution limit for IRAs also remains the same, at $1,000. The IRS notes that this is because the catch-up limit for IRAs is not subject to an annual cost-of-living adjustment, unlike various other types of retirement accounts.
Income limits for IRAs
Income limits for IRAs will change for 2021. These limits determine whether you’re eligible to contribute at all to a Roth IRA and whether you can make tax-deductible contributions to a traditional IRA.
The income phase-out ranges for Roth IRA contributions will increase as follows for 2021:
Single and head of household tax-filing statuses: $125,000 to $140,000 — up from $124,000 to $139,000
Married couple filing a joint return: $198,000 to $208,000 — up from $196,000 to $206,000
Married couple filing separate returns: $0 to $10,000 — unchanged
This means that a single taxpayer, for example, who earns less than $125,000 in 2021 can contribute to a Roth IRA up to the full limit — $6,000 or $7,000, depending on his age. But if that taxpayer earns $125,000 to $140,000, he can contribute only a reduced amount. If he earns more than $140,000, he cannot contribute to a Roth IRA.
The income limits for tax-deductible contributions to a traditional IRA depend not only on your tax-filing status and income but also on whether you or your spouse is covered by a workplace retirement account. For specifics, see the bullet points in the IRS’ announcement.
Wondering how else traditional and Roth IRAs differ? Check out “Which Is Better — a Traditional or Roth Retirement Plan?“
Disclosure: The information you read here is always objective. However, we sometimes receive compensation when you click links within our stories.
March 9, 2019Posted By: growth-rapidly Tag: Financial Advice
There are times you don’t need the help of a financial advisor to achieve some financial goals. For instance, some thing as simple as saving money to buy a house can be done on your own. However, there are some turning points in your life when consulting with a financial advisor may be helpful.
For example, you might be thinking about starting a family soon. You might be thinking about retiring early. Or your finance might just be a mess and needs some direction. If any of these situations below apply to you, then you may need to work with a financial advisor.
Find out now: How to Find an Advisor in Your Area.
Before we delve more into the topic, what is a financial advisor? In other words, what does a financial do?
A financial advisor (sometimes known as financial planner) is a licensed professional authorized to help you make major financial decisions in order to reach your financial goals. They help you with all types of financial planning like budgeting, retirement planning, investing, tax planning, etc. The advice can be a simple, focus on one aspect of your finance (for example, the best way to save for retirement). Or it can be general advice, involving a comprehensive plan to help you set financial goals.
If you’re looking for a financial advisor in your area click here.
1. You’re planning for retirement.
Perhaps the best time you need to consider hiring a financial advisor is when you’re approaching or planning for retirement. It is so because a bear market could come just as soon as you retire leading you to lose most if not all of your money. Your investment portfolio may not be well balanced.
A professional can help you balance your investment portfolio, making it more conservative. That means allocating money to different stocks, bonds, mutual funds, etc. That way you don’t to stand to lose all of your money in a bear market.
Another reason why you need the help of a financial advisor is that you may outlive your money. The average life expectancy is around 90 to 95 years. So there is a chance you might live to 30 years after you retire at 65. A financial advisor can come up with a plan to help you generate extra income to prolong the life of your retirement portfolio.
Related: 5 Reasons Why You Will Retire Broke.
2. You’re ready to invest.
Investing can be intimidating for most people. A financial advisor can help you with developing an investment plan. While sometimes you don’t need one to invest, but if you’re a beginner and don’t know what you’re doing, it makes sense to have someone with more expertise in the area.
A financial advisor can help you identify short term and long term investment goals that you alone may not have thought about. A short-term investment goal can simply be paying off your credit card bills to free up some money.
That extra money can be deposited into a safe investment such an high interest online savings account. A long term investment goal can be investing in retirement, tax-deferred account.
3. You’re starting a family.
Another sign that you need a financial advisor is when you’re planning for a major life event like starting a family. While exciting, starting a family can be very expensive. You have to think about childcare, housing expenses, medical expenses, mortgages. Moreover, if you something were to happen to you, you would want to make sure that your spouse and/or your children are financially protected. That means you have to make sure you have a health insurance and life insurance.
So if you’re planning to start a family, now is the time to sit down with a financial advisor to discuss the right insurance polices that is right for you; to discuss savings/trust funds for your children’s education, and so on.
4. You have a lot of Debt.
You can probably handle having a few thousands dollars in credit card debt or other forms of bad debt. But if you’re dealing with hundreds of thousands or millions in debt, get advice from professionals who have helped others in similar situations.
A financial advisor can help you make a budget and set up a repayment plan to pay off your debt. They can help you find extra money in your budget that can go towards your debts. So, if you’re having trouble paying your bills or need to sort out your debts, you might need to seek professional advice.
5. You’re building a business.
Investment or retirement advice is not the only thing financial advisors are equipped to do. Many are also capable to give you advice on your business needs. If you’re just starting a new business, an advisor can offer you financial advice on how to structure your business, the type of business to form, etc…
So consult with a financial advisor now so you can reach your financial goals.
Read More: 5 Mistakes People Make When Hiring a Financial Advisor.
Additional Money Tips:
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2. Second, If you’re thinking of buying a house, estimate how much you may be able to borrow. Get pre-qualified.
3. Open a high yield savings account. Having an online, high yield savings account allows you to save money and earn over 15 times the national average in interest. Check out CIT Bank online savings account, which has a 2.45% APY. Learn more.
4. Connect with a financial advisor. Getting financial advice can help you plan and manage your saving goals. This tool here will match you with up to three advisors after you answer some questions.
The July 2018 issue of the AAII Journal — the monthly publication of the American Association of Individual Investors — includes an intersting article about how to “increase your retirement resources”. This plain English piece summarizes some of the findings from the authors’ research paper “The Power of Working Longer“.
According to the article, there are three primary factors that determine “the adequacy of retirement resources”. Those are:
When a person begins participating in an employer-sponsored saving plan,
What percentage of their earnings they save in such a plan (i.e., their saving rate), and
At what age they retire and begin taking Social Security benefits.
Until Elon Musk invents a time submarine, it’s impossible for a worker to go back to their youth and begin saving for retirement earlier. Because of this, the authors focused their research on the relative power of saving more and working longer.
Note: To simplify matters, the authors make some assumptions. For instance, instead of investing in the highly-variable stock market, they assume their hypothetical subjects invest in a vehicle with a fixed rate of return: an annuity. This is a little goofy, but helps them come up with more precise numbers than they’d otherwise be able to achieve. Just keep this in mind as we talk about the article’s conclusions.
The Power of Working Longer
First, the authors look at what happens when a person decides to delay retirement by a year — or more. Generally speaking, each extra year worked brings roughly a 7.5% increase to standard of living during retirement. And that’s assuming a real (inflation-adjusted) investment return of 0%!
When you consider that stocks produce a long-term annual real return of about 6.8%, working an extra year has an even greater impact on standard of living in retirement.
Here’s a table from the article that shows the potential increases in standard of living that come from delaying retirement. (All of these numbers assume 0% real returns.)
As you an see, if a 62-year-old opted to work an additional three years instead of retire, they’d enjoy an increased standard of living of nearly 24%. Working longer is a powerful way to increase your “retirement resources”.
The authors’ research found that while investment returns do have an effect on retirement standard of living, they’re not nearly as large as the effect of working longer. Assuming 0% real returns on investments, delaying retirement age from 66 to 67 leads to a 7.75% increase in standard of living. With a 7% real return (similar to average stock market returns), that one-year delay in retirement brings an increased standard of living of 9.56%. It’s a boost, yes, but not even a boost of two percentage points over assuming zero investment returns.
The bottom line? Each extra year you work past your target retirement age brings a boost of roughly 10% to your post-retirement standard of living. Not too shabby.
The Power of Saving
The real reason this article caught my eye was the authors’ discussion of saving. They dismiss saving rate as being less powerful than working longer, but I’m not sure that I agree. (Remember, I believe that your saving rate is the most important number in personal finance.)
Why are the authors dismissive of saving rate? Their research shows that for each bump of one percentage point in saving rate over thirty years, a person can expect a 2.16% increase in standard of living at retirement — assuming a 0% real return. This same increase could be achieved by working an extra 3.3 months past target retirement age.
But what if instead of assuming a 0% real return on investment, we assume a 7% real return on investment (which is close to the long-term return of stocks)? Then each increase of one percentage point in saving rate over thirty years leads to a 4.79% increase of standard of living during retirement. In this case, it would take six months of extra work to match a one percentage point jump in saving rate.
I think the authors are far too quick saving rate in favor of working longer. They’re working with tiny, tiny fractions. Instead of talking about increasing savings by one percentage point, why not talk about something meaningful, such as an increase to saving rate of ten or twenty percentage points?
Assuming average stock-market returns (instead of 0% returns) — where every one percentage point increase to savings is equivalent to six months of extra work — then we find that by boosting your saving rate for ten percentage points over thirty years means you can retire five years earlier. If you boost your saving rate by twenty percentage points, you can retire ten years earlier. These are significant amounts of time!
To summarize, this article gives us two new financial rules of thumb. First, for each year you work past standard retirement age, you’ll enjoy roughly a 10% increase to your post-retirement standard of living. Second, each percentage point bump to your saving rate is roughly equivalent of six months you don’t have to work.
What if You Start Late?
To me, there shouldn’t be an argument about whether it’s better to work longer or to save more. Both strategies produce notable increases to standard of living in retirement. If we save more now, we’ll have more later. And if we work a little longer, that’ll provide a boost to our standard of living too.
Last of all, I’d like to point out that the authors correctly conclude that the later you start saving, the less powerful saving actually is. If you don’t begin saving for retirement until age 56, there’s far less time for the power of compounding to grow your wealth snowball. As a result, for older folks each percentage point increase to saving rate is equivalent to about a month-and-a-half of extra work (as opposed to between three and six months).
This doesn’t mean that you shouldn’t start saving in your forties and fifties. It just means that the power of saving is diminished. And it means that, realistically speaking, you’ll probably have to work beyond your desired retirement age.
[Increasing your retirement resources: The Power of working longer, AAII Journal]
The average American is not saving enough for retirement, and this can easily lead to financial stress and even a scarcity mindset. Life expectancy rates are increasing and many retirees are finding that they under-saved and are running out of money. There are creative ways out there to fund your retirement account.
While retirement is a long time away for me and this may be the case for you as well, it’s important to contribute something for your financial future and aim to increase contributions each year. This can be challenging when you’re facing everyday expenses like housing and food as well as debt payments.
Luckily, you can fund your retirement account well without thinking about it all the time. I actually prefer to save for retirement automatically and just let my account grow in the background. Here are some of the easiest and most creative ways to fund your retirement over the years without overworking and obsessing about it.
Increase Your 401(k) Contributions By Your Annual Raise Amount
Contributing to your 401(k) offered through your job can be an excellent way to fund your retirement account. Contributions are automatic and pre-tax so you won’t even notice the money coming out. Plus, some employers even offer to match your contributions which is extremely helpful.
If you start off contributing a small percentage of your income to your 401(k), see if you can increase that amount each year if you get a raise. Create a budget that allows you to live comfortably on your existing salary. Then, take the difference from your raise and use it to increase your retirement contributions. For example, if you get a 5% raise one year, you may want to increase your retirement savings by up to 5% of your paycheck. That way, you’re automatically saving more and you won’t miss the money you didn’t have.
RELATED: 6 Financial Moves to Make During COVID-19 for Overall Financial Health
Earn Cash Back on Your Spending With EvoShare
EvoShare is a program that helps you earn cashback for purchases you make at popular retailers. The money you earn can be automatically added to your retirement account or put toward another financial goal. How it works is you’ll connect your Visa or Mastercard so purchases can be tracked. EvoShare partners with over 10,000 online and local merchants ad well as 700,000+ hotels worldwide.
When you spend money with a partnering retailer or hotel for travel, you’ll get cashback that will go directly toward your investments. EvoShare can be offered through your employer so be sure to ask them to sign up. Your entire team could likely benefit from an extra way to generate income to invest for retirement.
Easy and most creative ways to fund your retirement accounts over the years. Click To Tweet
Invest the Change With Acorns
Acorns is a free app that has put a whole new spin the saying ‘keep the change’. Instead of disregarding the change leftover from your purchases, Acorns will invest it on your behalf. Of course, Acorns works with your debit and credit cards so it won’t invest your physical change. Rather, your purchases will get rounded up to the nearest dollar so the difference can be invested.
For example, say you go through the drive-through and spend $4.50 at Starbucks. Acorns will round up the purchase to the nearest dollar and invest $0.50 for you. You can even set Acorns to round up your purchases to the nearest $2 or $3 to save at a more aggressive rate and you can also make regular contributions.
I’ve been adding an extra $5 per week to my Acorns account but you can do more or less depending on your preferences. The best part is that it’s small amounts of money that you likely won’t even miss. Yes, your balance can really add up over time.
RELATED: Acorns Review: Why It’s one of my Favorite Investment Strategies
Fund Your Retirement With Rebates
I love rebates because it’s basically like getting paid to spend money. Usually, how it works is you earn a percentage of your purchase back or a fixed rate. Yes, rebates are often small especially when you’re awarded for everyday spending. However, the key is to keep multiple rebates coming in from different places.
Rakuten is my favorite site to earn cash back for regular online spending. Rakuten sometimes awards up to $14 cash back or a fixed rate for certain purchases. Plus, they automatically help you find coupon codes when you’re shopping online. Rakuten pays members a ‘big fat check’ once every quarter so long as your balance is over $5. This is money that can be added to your retirement account 4 times per year.
Another popular rebate app I like is Fetch Rewards. You earn rewards for your purchases at local grocery stores so it’s super easy to use.
Sell Things Online and Invest the Profit
Do you have anything lying around your house that you can sell? I try to sell old stuff all the time online. We try to declutter as much as possible, but there are still items I could find around my home to sell all year round if I wanted to. You can also look into creating things that you can sell online. Consider selling crafts on Etsy or selling printables or e-books online.
This is something can could potentially become a passive stream of income for you. Plus, you can use all the profits you receive and add them to your retirement savings account. Imagine if you are able to earn $300/month by selling various items online. This is $3,600 per year that can be used to fund your retirement in an IRA or other type of account.
Do you feel like you’re saving enough for retirement? What are some of your favorite creative alternative ways to fund your retirement?
When you begin to think about investing, all of the details can seem extremely daunting. And just this one fact alone is enough to keep a lot of people from even embarking upon the journey of investing. But, what if the initial investing journey could be much simpler? It actually can be. This is where robo-advisors come into play. In fact, it’s actually how I got started investing again after my divorce. I didn’t have the time or energy to try and figure everything out. Robo-advisors made it pain-free and had really low fees to boot. So, I’ve put together a list of 6 of the best robo-advisors to begin investing online with to help get you started.
I’ve used Acorns for a little while now and still really like it as an investment supplement. Acorns is extremely easy to use and I love that they have round up possibilities. If you start out with the base account then it’s only $1 per month as a recurring fee. The account you will have is a taxable investment account.
You do not get to pick and choose specific stocks or mutual funds with Acorns, like most of these robo-advisors. But, they will run you through a series of questions upon account activation in order to determine which type of account mix to put you in. And you can always change how aggressive your approach whenever you like on their platform.
There is no minimal deposit to get started, which I really liked. You can set up a recurring monthly deposit to keep yourself rolling and/or deposit funds into your Acorns account whenever you like. The round up feature is helpful for those of us who have a more difficult time saving, as it rounds up to the nearest dollar each purchase and then puts that amount into your investment account. You can also add a multiplier to multiply that round up for each purchase if you want to start getting more aggressive but not necessarily feel it as much. This is one platform that I really like for overall ease and diversity.
Betterment is another online robo-advisor I really love. They were actually who I started investing with after I got divorced to restart my retirement future. They operate similarly to Acorns in respect to setting up your account mixes. You can also change how aggressive you invest on their platform, but you cannot pick individual stocks or mutual funds.
Their fees are extremely low and they do all of the rebalancing for you, which is a fantastic feature. There is also no minimum balance to open an account with them and you can deposit money however and whenever you’d like. I do like that they give you the ability to open a few different accounts, however. I had a Roth IRA and a Traditional IRA (rolled over from a previous 401k) in my Betterment portfolio.
Recently, though, I got to the point where I wanted to be a more active investor. Since they don’t offer the capability to pick my own funds, I ultimately moved all of my money over to my Fidelity account instead.
Warning For The Future
A word of warning (that I was completely unaware of) is that most of these robo-advisors don’t participate in the larger ETF system that the bigger investment firms do. This is due to cost since there is an annual fee to participate. While I understand that, but what it means is that they will send physical checks as opposed to wire transfers. So this takes a lot more time and more time your money isn’t in the market.
So for me, when I needed to switch all of my accounts, Betterment sent a snail mail check for each account (one of which got lost in the ether for a month and a half and had to be reissued). This meant that my largest account wasn’t doing anything on the market for almost 2 months. So I lost a huge amount of potential market returns.
I still love them as a robo-advisor, but this is something to keep in the back of your mind should you ever decide to roll these accounts into another firm.
3. M1 Finance
M1 Finance is another one of the best robo-advisors for their diversity and functionality alone. They do have a $100 initial deposit to get started, which isn’t exorbitantly high. You can handle everything via their portal online or through an app on your phone. They have the initial intake to help you figure out which mix works best for you, just like the other robo-advisors. However, they are a bit different in that you also have the ability to purchase over 6,000 individual stocks or EFT’s.
This means you have more ability to customize your investments than other robo-advisors. So you can choose one of their pre-chosen account mixes based on your investing style and goals or individual funds. Plus, there are no annual fees either.
Robinhood is similar to all of the other robo-advisors. They give you the ability to embark on zero interest trading and get started with no minimum investment. You can manage your portfolio from your desktop or phone for added versatility.
They are big into the learning genre, as they want to help teach you to be a smarter investor. So, as you begin investing, you will learn tips and tricks from them to help you better understand the market and how it works. Plus, when you sign up they will give you your first stock for free. I really like this about Robinhood!
With SoFi, you can open an account with as little as $100. They have more of a hybrid model than the other robo-advisors do though. As a SoFi client, you will have free access to their financial planners to help you make the best choices for your situation. But, their platform is still in the robo-advisor category, which means less management for you. So, you get the ability to speak with their financial planners to work out your plan before you invest. Then the platform handles the rest for you.
You also get free rebalancing and much lower rates on any of their SoFi loans, should you ever be in the market for one. They just recently began offering partial stock and EFT share purchases for added diversity within their platform, And, if you open a checking account with them they will give you free money towards more stock purchases.
With Stash you can start investing with as little as $5. Which is basically no minimum to get started. There is a $1 monthly fee, which is pretty darn nominal in the grand scheme of things. Their platform can be managed from your desktop or your phone, which is great for those of us constantly on the move.
What’s really cool about Stash is that you can buy partial shares of stocks and EFT’s. They also have a debit card you can use to earn extra shares in stocks. Which is really awesome!
These are some awesome robo-advisors to help get you started on your investing journey! Click To Tweet
Best Robo-Advisors Summary
Ultimately, not every robo-advisor is going to be the right fit for everyone. So, the first step is to research all of the different options and see which ones might fit your investing style best. To get started, check out:
Once you have chosen the best fit, then it’s time to pull the trigger. After all, there is no time like the present to plan for your future.
Which robo-advisors have you tried and why or why not did you like them for investing?
I’m a 24-year-old single male and recent college graduate. I have a job but no 401(k) match, so my dad suggested I start a Roth IRA. I don’t have any idea how to invest it.
My dad says that since I’m young, I need to take risks. He’s suggested some marijuana stocks and silver stocks that he’s made money on. But this seems like it might be too risky to me. My dad doesn’t work in investing, and I don’t think he knows a whole lot about it. I’m not making enough to hire a financial advisor. Is my dad giving me bad advice?
Your dad loves you and wants what’s best for you. But that doesn’t mean he knows anything about investing.
Your dad’s suggestion that you open a Roth IRA was a good one. By forgoing a tax break now, you’ll get tax-free income when you retire. But it sounds like your dad isn’t clear on the kind of investment risks beginning investors should take.
So you start out by investing mostly in stocks, which tend to be high-risk/high-reward, and then gradually shift more money into bonds, which are safer but offer little growth. When you have a few decades to go until retirement, your money has time to recover from a stock market crash.
But when you invest in just a couple of stocks, your risk of losing everything is substantial. Your investments may never recover if things go south. There may not be any money left to recover. You never want your life’s savings tied to the fate of a single company or two.
Both the silver and marijuana industries are especially volatile. The price of silver fluctuates wildly for a host of reasons. One is that more than half of silver is extracted as a byproduct while mining for other metals, like gold, copper or zinc. It’s basic supply and demand stuff: The supply of silver doesn’t move up and down with changes in demand, so the prices are turbulent. With marijuana, you’re doing a lot of political calculus about when and where marijuana will become legal, plus a lot of the companies are small with no proven track record.
That doesn’t mean you should never invest in silver or marijuana. But you should only do so if you already have a diversified portfolio and you’re starting with a relatively small amount. And never use your retirement funds for these kinds of speculative investments.
The best way to start investing is to spread your money across the stock market. You don’t need a financial adviser here. You can do this with a total stock market index fund, which invests you across the entire stock market, or an S&P 500 index fund, which invests you in 500 of the largest companies in the U.S. You could also take the guesswork out of it completely and use a robo-adviser. Your brokerage firm will use an algorithm to invest your money according to your age, goals and how much risk you’re willing to take.
If you opt to choose your own investments once you get your feet wet, it’s essential that you only do so after researching the investment on your own. Don’t make decisions based solely on what someone else says, whether that person is your dad or an advice columnist or a stranger on Reddit.
If, after doing your own research, you decide you wanted to invest in silver or marijuana, a safer way to do so would be to invest in a silver or marijuana exchange-traded fund, or ETF. Your money would be invested in a bunch of businesses throughout the industry instead of concentrated in a single company. But I’d only suggest this after you’ve gotten some investing experience — and only then if you’re limiting your investment to 5% to 10% of your portfolio.
You don’t say how old your father is or whether you know anything about his finances. To be honest, I’m more concerned about your dad’s retirement planning than I am about yours if he gravitates toward high-risk investments.
Since you’re already talking about your retirement, this could be a good opportunity to start the conversation about how prepared your dad is for his retirement. I’m not asking you to play financial adviser here. But even just asking your dad when he wants to retire and whether he feels ready is a good conversation to have.
As for your dad’s stock picks, I think you’re probably fine saying, “Thanks, I’ll check it out.” You’re an adult, and you don’t need to provide your dad with a copy of your brokerage statement.
Robin Hartill is a certified financial planner and a senior writer at The Penny Hoarder. Send your tricky money questions to [email protected]
Surely that’s a typo…ergodicity!? No, it’s right! Ergodicity is a powerful concept in economic theory, investing, and personal finance.
Even if the name seems wild to you, the idea is simple—stick with me while I explain it. And then we’ll apply ergodicity to retirement planning and investing ideas.
By the end of this article, you’re going to be seeing ergodic systems and non-ergodic systems all over your life!
Ergodic, Non-Ergodic, and Russian Roulette
Ergodicity compares the time average of a system against the expected value of that system. Let’s explain those two terms: time average and expected value.
The time average asks, “If we did something a million, billion, trillion times…what would we expect the results to look like?” It needs to be a sufficiently long random sample.
The expected value asks, “By simply averaging probabilities, where would we expect the result to be?”
At first blush, you might think, “Those two are the same thing…right?” Right! Or, at least you’d be right if the system in question is ergodic.
I flip a coin a billion times, and I end up with a time average of 50/50 heads and tails. Alternatively, I could just use their known probabilities and surmise the expected value of 50/50.
In this case, the time average and the expected value are the same. Therefore, the system—coin flipping—is ergodic.
But let’s contrast coin flips against Russian Roulette. The expected value of Russian Roulette is optimistic. ~83% success and ~17% failure. But what happens if one “plays” a million times? Ahh! I think you’d agree that the time average of Russian Roulette is 100% failure.
When one fails in Russian Roulette, it is a devastating failure. To only look at the expected value of the system is too simple. The expected value is far different than the time average. Thus, Russian Roulette is non-ergodic.
Ergodicity –> Over and Over, Big & Small
Ergodicity rears its head in two circumstances. First, ergodicity matters when we do things over and over and over. And second, ergodicity matters when certain outcomes are meaningful while other outcomes are insignificant.
To further explain ergodicity, imagine this bet:
I have a 100-sided die.
I’ll roll the die and you pick a number. If it lands on any other number than your number, then you win $1000.
But if it lands on your number, then Mike Tyson punches you in the face and takes your money.
What a deal! You call 99 of your friends and you all come to take this bet. Sure enough, one of your friends loses. But the rest of you win a combined $99,000 and agree to pay for his medical bills (which may or may not be covered by the $99K…which is another crazy blog post waiting to happen).
The “ensemble average” is that you won! One individual loss doesn’t change that.
But would that result be the same if you had played 100 times by yourself? No! In that scenario, there’s a 63% chance that you’d eventually lose the roll, lose your money, and get punched in the face.
The expected value (you and all your friends) is different than the time average (you doing it 100x). This is not an ergodic process.
Revisiting Ergodicity & Coin Flips
We concluded earlier that coin flips are ergodic. The expected value of a single coin flip equals the time average results of many coin flips.
But let’s change the rules a bit. Imagine I promised you a 40% positive return on heads but a 30% loss on tails. You start with $100,000. Would you take this bet?
Again, let’s call up 100 of your friends. You each take the bet.
We can predict that half of you will end up with $140K (40% return) and half end up with $70K (a 30% loss). On average, you each have $105K. As a group, you’ll end up 5% higher than you started.
Sure enough, we can run this simulation a million times and that’s exactly what we see. Both the mean and median results of these simulation show a 5% profit. Taking the bet was smart.
But what if youtook the bet 100 times? Same result?
Same for You?
To start, let’s look at two common snippets in the sequence of returns: one win followed by one loss, and one loss followed by one win.
Win then loss
Loss then win
(You mathematicians will see the commutative property at play. The order of this multiplication didn’t matter.)
This result completely shifts our mindset.
When two people share a win/loss, then end up with $140K+$70K = $210K, or $105K each. They gain $5K. But when one person sequentially suffers a win/loss, she ends up with $98K, or a $2K loss.
What happens if you take this bet 100 times in a row? On average, you are going to lose money. Let’s look at a 50/50 heads/tails split.
That’s a 5% profit.
That’s a 64% loss
But you might “spike” a certain run where you get more heads than tails. What happens if the group gets 60 heads and 40 tails? What happens if you get 60 heads and 40 tails?
That’s…a big profit. $37.3 million.
I simulated the “you get 100 flips” case 100,000 times. As expected, the median result is a 64% loss. But the best result of the 100K simulations turns your $100K bet into $950 million dollars (68 heads, 32 tails).
This bet is non-ergodic. The expected value (100 friends scenario) is completely different than the time average (you 100x bets scenario).
But it’s also interesting that the distribution in the expected value case is tight (low risk, low reward) while the distribution in the time average case is extremely wide (high risk, potentially high reward).
EV is a profit, while time average is a loss. EV is low variance, while time average is high variance.
In case you can’t tell, ergodicity economics and subsequent economic theory is a serious field. There are big conversations taking place and serious money to be made (or lost).
But let’s focus a little closer to home: ergodicity and retirement.
Ergodicity and Retirement
In retirement planning, probability of success is often used as a figure of merit. I’ve used it here on the blog.
For example, the famous Trinity Study and 4% Rule cite a “95% chance of success,” where success is equivalent to “not running out of money before you die.”
Die with money? Success! Die without money? Failure! This is an expected value metric—for 95% of all people, the 4% rule would have worked.
But a few problems in this thinking immediately arise and ergodicity is to blame.
Problem 1: Equal and Opposite?
The 5% of retirement fail cases are painful. Very painful. I would argue that the pain of failure in retirement is greater than the joy of success.
This is reminiscent of loss aversion, or the “tendency to prefer avoiding losses to acquiring equivalent gains.” The keyword in loss aversion is “equivalent.” People would rather avoid a $100 parking ticket than win a $100 lotto ticket. Those are equivalent. And yes, loss aversion is irrational.
But is failing in retirement equivalent-and-opposite to succeeding in retirement? I’d argue no. Failing in retirement is akin to a Russian Roulette loss. Devastating! And succeeding in retirement is a Russian Roulette win. It’s “expected.”
Problem 2: Expected Value & Risk Sharing
Let’s assume we all follow the 4% rule. And true to historical form, let’s assume that 95% of us have successful retirements, but 5% of us “fail” and run out of money.
In the previous examples—100 friends and Mike Tyson, or 100 friends and the 40% win/30% loss coin flip—we assumed that the group would share the risk and share the reward.
This guaranteed that we’d see profits, but eliminated our chance to win $950 million. This guaranteed that even if we did get face-punched by Mike Tyson, our winning friends would still help us out.
But in retirement planning, people do not share risk. The 95% winners have no obligation to bail out the 5% losers. This changes the game. This isn’t traditional ergodicity.
Instead, we’re all in the game by ourselves (like the time average participant), but only have one shot to get it right (lest our retirement plan fail). From the ergodicity point of view, it’s a conundrum. It’s like playing Russian Roulette with a 20-chamber gun (5% failure = 1 chance in 20).
How do potential retirees react to this change in the rules?
For starters, many real retirement plans are couched with so much conservatism that the retiree ends up with more money when they die than when they retired. Put another way—their investment gains outpace their ability to spend.
And we know that money is time. Therefore, we can conclude that many people work for years more than they need to. They’re cursing at spreadsheets when they could be sipping mojitos. Pardon my 2020 vernacular, but this is an abundance of caution.
Is there an ergodic solution to this over-cautious planning?
Does Ergodicity Have a Solution?
What did we learn from Mike Tyson ergodicity example? What did we learn from our coin flipping?
If we share risk, we reduce our potential upside but also eliminate downside.
Imagine that 100 retirees pool a portion of their money together. They all know that 95% of them won’t need to dip into that pool. They also know that their money in the pool is probably going to have worse returns than it would outside of that pool.
However! These 100 retirees also realize that the pool will save 5 of them from failure. And thus, the pool guarantees that their retirement will be successful. Instead of 100% of them worrying about a 5% downside, now none of them need to be concerned.
The purpose of investing is not to simply optimise returns and make yourself rich. The purpose is not to die poor.
Some of you will know that this “pool” concept already exists. It’s called an annuity.
Annuities?! Jesse, You Son of a B…
Wait, wait, don’t shoot me! Besides, you only have one bullet in those 20 chambers (thank ergodicity)
Real quick: an annuity is a financial product where a customer pays a lump sum upfront in return for a series of payments over the rest of their life. Insurance companies often sell annuities.
Annuities—on average—are losing propositions. Just like my pool above, the average annuitant will suffer via opportunity costs. Their money—on average—is better invested elsewhere.
Insurance protects wealth. It doesn’t build wealth.
Never let someone convince you that an insurance product is going to build your wealth. Why? There are only two parties involved—you and the insurance company. If you’re building wealth, then the insurance company is…losing money? No way.
Insurance products are equivalent to average mutual funs with high fees. The high fees drain you like a vampire bat. They make money, and you lose via opportunity costs.
But one thingthat annuities get right is that they hedge against downside risk in your retirement planning. The insurance company—i.e. my pool in the example above—collects a loss from most customers in order to provide a vital win to few customers.
This is just like real insurance. Most people pay more in insurance premiums—for their house, their car, their medical life—then they ever see in payouts. But for a vital few, insurance saves them from complete disaster.
Of course, detractors will rightly point out that annuities aren’t always guaranteed. If the insurance company goes belly-up, your state guarantor might only cover a portion of what you’re owed. Yes—that means your risk mitigation technique has risk itself. Riskception.
Annuities aren’t perfect. I don’t plan on buying one. But if the ergodicity of retirement planning has you fretting small chances of failure, annuities are one way to hedge that downside.
Is Robin Hood Ergodic?
Jesse is a boring index fund investor. It’s true.
But not Robin. She day-trades on Robin Hood, often experimenting with exotic trades with high leverage.
We can examine Jesse and Robin using ergodicity.
Jesse is playing the long game. In this simple hypothetical, his yearly returns are +30%, +10%, then -15%. The same three-year cycle keeps repeating. One might look at those three values and think, “Ah. About 8.3% per year, on average.”
Robin thinks daily. She wants money now. In this hypothetical, her daily returns are +60%, +15%, and -50%. The same three-day cycle keeps repeating. Again, one might look at those three values and think, “Ah. About 8.3% per day, on average.”
You might see a problem. We’ve used the arithmetic mean here. The arithmetic mean is useful in finding the expected value, in ergodicity terms. If Person A gains 60%, Person B gains 15%, and Person C loses 50%, their average change is an 8% gain.
But sequencing investment returns—e.g. the ergodicity time average—requires that we use a logarithmic average. So let’s do that below:
Uh oh. Robin’s log average return is negative. And sure enough, if Robin executed this particular day-trading strategy, she would turn her $10,000 into $500 in less than four months. Meanwhile, Jesse is fine with his 6.7% annual return (trust me…he is).
The simple lesson is one that new investors love to scream from the rooftops (and that’s a good thing). Namely, a given portfolio loss requires a larger equivalent gain to return back to even. The arithmetic mean does not capture this fact, while the log mean does.
The larger the loss, the more significant the returning gain needs to be. That’s another ergodicity concept.
E.g. a 1% loss is offset by a 1.01% gain—they’re essentially the same. But a 50% loss—like the one Robin suffers every third day—requires a 100% gain to offset it
Just like we said earlier in the post—big risks matter most, and those large downsides are when we’re likely to see non-ergodic systems.
I would argue that a smooth, ergodic personal life is also optimal. Imagine ranking your days on a scale of 1-10. Would you rather have half 10’s and half 4s? Or all dependable 7’s? Or two-thirds 10’s and one-third 1’s?
To each their own. I’d prefer the 7’s. I don’t want half my days to be “bad,” even if the flip side of that coin is that half my days are “perfect.”
Don’t make ‘perfect’ the enemy of good enough.
-Someone at Jesse’ work
Maybe it’s boring. Maybe it’s the same muscle that pushes me towards indexing and away from Gamestop. To each their own. But I’ll take the 7’s.
Ergodicity in Grad School
In grad school, I studied fluid dynamics. See—this is me! Specifically, I worked on reaction-diffusion-advection problems in the University of Rochester Mixing Lab.
Fluid mixing is a terrific example of ergodicity. Take a few seconds to watch the video below. It’s a pretty way to view equilibrium statistic physics. Ergodicity applies to many different dynamical systems, stochastic processes, thermodynamic equilibrium problems, etc. It’s a mechanical engineer’s dream.
If we mix sufficiently, we see that small sub-sections of the fluid are representative of the fluid as a whole. The time average of many mixes is equal to our expected value of a uniform mix. This is ergodicity. This system is ergodic.
If this was butter and sugar—soon to be cookies—we could take any teaspoon of the mixture and draw reasonable assumptions about the mixture as a whole. Mmmmm!
But imagine if we accidentally introduce a dog hair into the mix (not that that’s ever happened in my kitchen). Suddenly, the mix is no longer ergodic.
Why? The expected value of any given cookie is that it will not contain the dog hair. But of course, eat enough of the cookies and you’ll eventually find the hair.
Or put another way, a single teaspoon of the mixture—which will contain either the entire dog hair or no dog hair at all—is no longer representative of the total mixture.
Good Article. Ergo…
Ergo it’s time for the summary.
Ergodicity is a fun concept. Or at least fun for nerds like me. It’s a terrific way to consider risk. It helps us in behavioral economics, personal finance, and real retirement planning.
What do you think? Any cool ergodic or non-ergodic systems in your life?
If you enjoyed this article and want to read more, I’d suggest checking out my Archive or Subscribing to get future articles emailed to your inbox.
This article—just like every other—is supported by readers like you.
Indexed Universal Life (IUL) vs. 401(k) – SmartAsset
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When creating your personal retirement plan, there are a variety of tools you can use to fund your long-term savings goals. An employer-sponsored 401(k) is one of them while indexed universal life insurance (IUL) is another. A 401(k) allows you to invest money on a tax-deferred basis while also enjoying a tax deduction for contributions. Indexed universal life insurance allows you to secure a death benefit for your loved ones while accumulating cash value that you can borrow against. Understanding the differences and similarities between IUL vs. 401(k) matters for effective retirement planning. Working with a financial advisor can also make a substantial difference in the amount of money you’ll have when you retire.
What Is Indexed Universal Life Insurance?
Indexed universal life insurance is a type of permanent life insurance coverage. When you buy a policy, you’re covered for the rest of your natural life as long as your premiums are paid. When you pass away, the policy pays out a death benefit to your beneficiaries.
During your lifetime, an IUL insurance policy can accumulate cash value. Part of the premiums you pay are allocated to a cash-value account. That account tracks the performance of an underlying stock index, such as the Nasdaq or S&P 500 Composite Price Index. As the index moves up or down, the insurance company credits the cash value portion of your policy each year with interest.
IUL is different from fixed universal life insurance or variable universal life insurance. With fixed universal life insurance your rate of return is guaranteed, making it the least risky of the three. With variable universal life insurance, your cash value account is invested in mutual funds and other securities so you’re exposed to more risk. An indexed universal life insurance policy fits in the middle of the risk spectrum.
Cash value that accumulates inside an IUL insurance policy grows tax-deferred. You can borrow against this cash value if necessary, though any loans left unpaid at the time you pass away are deducted from the death benefit.
What Is a 401(k)?
A 401(k) is a type of qualified retirement plan that allows you to set money aside for retirement on a tax-advantaged basis. Contributions are deducted from your paychecks via a salary deferral. Your employer can also offer a matching contribution. The IRS limits the amount you can and your employer can contribute each year.
With a traditional 401(k), contributions are made using pre-tax dollars. Any money you contribute is automatically deducted from your taxable income from the year. When you begin taking money out of your 401(k) in retirement, you’ll pay ordinary income tax on withdrawals. Any withdrawals made before age 59.5 may be subject to a 10% early withdrawal penalty as well as income tax.
Traditional 401(k) plans allow you to invest in a variety of securities, including mutual funds and exchange-traded funds. Target-date funds are also a popular option. These funds automatically adjust your asset allocation based on your target retirement date.
There’s no death benefit component with a 401(k). This is money you save during your working years that you can tap into in retirement. Unless you’re still working with the same employer, you’re required to begin taking minimum distributions from a 401(k) beginning at age 72. Failing to do so can trigger a tax penalty equivalent to 50% of the amount you were required to withdraw.
IUL vs. 401(k): Which Is Better for Retirement Savings?
Indexed universal life insurance and 401(k) plans can both be used as investment tools for retirement. But there are some important differences to note. With IUL, returns are tied to the performance of an underlying index. If the index performs well, then your policy earns a higher interest rate. If the index underperforms, on the other hand, your returns may shrink. Your insurance company can also cap the rate of return credited to your account each year, regardless of how well the underlying index does. For instance, you may have a cap rate of 3% or 4% annually.
In a 401(k) plan, you have the option to invest in index mutual funds or ETFs but you’re not locked in to just those investments. You can also choose actively managed funds, target-date funds and other securities, based on your time frame for investing, goals and risk tolerance. Your rate of return is still tied to how well those investments perform but there’s no cap. So, if you invest in an index fund that goes up by 20%, you’ll see that reflected in your 401(k) balance.
A 401(k) also affords the advantage of an employer matching contribution. This is essentially free money you can use to grow retirement wealth. With an indexed universal life insurance policy, you’re responsible for paying all of the premium costs.
Another big difference between the two centers on tax treatment and withdrawals. With an indexed universal life insurance policy, you can borrow against the cash value at any time. You’ll pay no capital gains tax on loans and no penalties unless you surrender the policy completely or fail to repay what you borrow. Death benefits pass to your beneficiaries tax-free.
With a 401(k), you generally can’t tap into this money penalty-free before the age of 59.5, even in the case of a hardship withdrawal. You may be able to avoid a tax penalty if you’re withdrawing money for qualified medical expenses but you’d still owe income tax on the distribution. You could take out a 401(k) loan instead but that also has tax implications. If you separate from your employer with an outstanding loan balance and fail to repay the loan in full, the entire amount can be treated as a taxable distribution.
Qualified distributions in retirement are taxable at your regular income tax rate. And if you pass away with a balance in your 401(k), the beneficiary who inherits the money will have to pay taxes on it. Talking with a tax professional or your financial advisor can help you come up with a plan for managing tax liability efficiently both prior to retirement and after.
The Bottom Line
Indexed universal life insurance and a 401(k) plan can both help you build wealth for retirement but they aren’t necessarily interchangeable. If you have a 401(k) at work, this may be the first place to start when creating a retirement savings plan. You can then decide if IUL or another type of life insurance is needed to supplement your workplace savings as well as the money you’re investing an IRA or brokerage account.
Tips for Investing
When using a 401(k) to invest for retirement, pay close attention to fees. This includes the fees charged by the plan itself as well as the fees associated with individual investments. If a mutual fund has a higher expense ratio, for instance, consider whether that cost is justified by a consistently higher rate of return.
Consider talking with a financial advisor about how to maximize your 401(k) plan at work and whether indexed universal life insurance is something you need. If you don’t have a financial advisor yet, finding one doesn’t have to be complicated. SmartAsset’s financial advisor matching tool makes it easy to get personalized recommendations for professionals in your local area in just minutes. If you’re ready, get started now.
Rebecca Lake Rebecca Lake is a retirement, investing and estate planning expert who has been writing about personal finance for a decade. Her expertise in the finance niche also extends to home buying, credit cards, banking and small business. She’s worked directly with several major financial and insurance brands, including Citibank, Discover and AIG and her writing has appeared online at U.S. News and World Report, CreditCards.com and Investopedia. Rebecca is a graduate of the University of South Carolina and she also attended Charleston Southern University as a graduate student. Originally from central Virginia, she now lives on the North Carolina coast along with her two children.
How to Retire in Turkey: Costs, Visas and More – SmartAsset
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Turkey is filled to the brim with beautiful architecture, art and a melange of cultures that reaches back thousands of years. It’s home to artifacts from communities like the Hittites, Ancient Greeks, early Christians and Mongols, which fill this nation of some 82 million, with a rich sense of history. Lying as it does at a crossroads of Europe and Asia, visitors can see a unique blend of Western and Eastern influences. Its Mediterranean and Black Sea beaches are renowned for their beauty. Istanbul’s Grand Bazaar extends across 58 covered streets hosting some 1,200 shops. If you’re considering retiring in Turkey, here’s an overview of some basic information you’ll need. A financial advisor can offer valuable guidance as you consider retiring abroad.
Cost of Living and Housing
It’s much less expensive to live in Turkey than it is to live in the U.S. Without accounting for rent, Turkey’s cost of living is 53.56% lower than in the U.S. on average, according to Numbeo, a cost-of-living database.
U.S. rent prices are 556.13% higher when stacked against those in Turkey, on average. To rent a one-bedroom apartment in a city center will run you around $215.26 in Turkey, whereas a comparable setup in the U.S. would run about $1,340.16. If you wanted to pursue purchasing an apartment in Turkey, you would find that the price per square foot in a city center is averaged out to $83.07. In comparison, the same square footage in a similar city location in the U.S. would cost about $328.96.
To further illustrate the contrast, we can compare Istanbul, Turkey’s most populated city, to the U.S.’s New York City. To maintain the same standard of life, you would need around $8,203.10 in New York, which contrasts starkly to the approximately $1,960.45 necessary in Istanbul, assuming you rent in both.
So, if you’re looking for a country to retire in with both affordable renting prices and lower property costs to make the most out of your savings, Turkey may be a solid option.
Retire in Turkey – Visas and Residence Permit
Turkey doesn’t have a visa specifically for retirement, so you have to apply for a residence permit instead. This requirement applies to anyone who intends to remain in the country more than three months. You’ll first have to apply for a short-term residence permit, and you must do so within a month of your arrival in Turkey. There is an online application you fill out at the Turkish Ministry of Interior’s website. Once you finish, it will prompt you to make an appointment with the nearest DGMM office to continue the process and pay the fee your visa requires.
A short-term residence permit is issued on a two-year basis. After you’ve lived in Turkey uninterrupted for eight years under your short-term visa, you can apply for a long-term residence permit. These extend indefinitely.
No matter what residence permit you are applying for, you will likely need to show proof that you possess adequate assets. This can shift whether or not you have dependents, but a single person is generally required to have the equivalent to a month’s worth of Turkish minimum wage. As of early 2021, that would be around $400.
Retire in Turkey – Healthcare
The World Health Organization ranking of national healthcare systems puts Turkey’s at 70th out of 191. The central government body responsible for healthcare and related policies is the Ministry of Health (MoH). There is also a private sector and university-based care; however, the MoH is the main body responsible for providing healthcare. You can expect the quality of healthcare in Turkey to vary between regions. Although it’s cheaper than some of its European neighbors, access is limited in more rural areas. You’re more likely to have high-quality care in major urban locations like Istanbul – as well as the ability to communicate with your healthcare providers in English. This increase in quality is why most expats choose to go to private medical facilities over public ones.
All residents under 65 must have either public or private health insurance. Expats who have resided in Turkey for over a year under their residence permit can apply to have public health insurance through the state-run Sosyal Güvenlik Kurumu (SGK). Expats usually choose to supplement this with private insurance (or just choose private) to cover additional fees at private facilities.
As Turkey has grown as a country and political entity, it has experienced a great deal of reform around its healthcare system. It likely will continue to experience further changes in the future.
Retire in Turkey – Taxes
Like many countries, residents and non-residents are subject to different taxes in Turkey. Residents pay taxes on their worldwide income, whereas non-residents only have to pay taxes on Turkish-sourced income. The country uses a progressive tax scale, ranging from 15% to 35%, depending on your income bracket.
Turkey does possess a tax treaty with the U.S., which can provide some relief. You will only have to pay into one country’s Social Security program as a result, which in Turkey is a 14% flat tax for employees. Otherwise, there are also tax exemptions that may allow you to pay less on your U.S. income taxes. One example is the foreign earned income exclusion, which lets you exclude the first (approximately) $100,000 for foreign earned income if you can prove your Turkish residency.
Retire in Turkey – Safety
Each expat’s experience is unique. Some may travel through Turkey and find they encounter little to no issues on a security level. That’s not to say you shouldn’t be cautious. The U.S. Department of State’s travel advisory warns travelers either visiting or moving through Turkey to be wary of both terrorism and arbitrary detentions. The advisory heavily suggests that you avoid the Sirnak and Hakkari provinces, which are in the southeastern part of the country, as well as any area within six miles of the Syrian border to avoid terrorist activity. The State Department’s most recent report on human rights practices in Turkey bears a close reading, especially sections 1 and 6.
Although you should speak with locals and enjoy the culture, you should also be wary of your surroundings and keep an eye on political developments. It is also advised that you don’t engage with political topics online either since that can still be a red flag.
Turkey is still in the process of significant political change, making settling down difficult for the average retiree. That, along with terrorism concerns, may encourage you to look at other countries instead. However, Turkey has a strong sense of identity with a warm populace who wants to share their cultural. That sense of belonging, along with the country’s beautiful features and its low living costs, may make the challenges worth it to you.
Tips on Retiring
Finding the right financial advisor who can help address your needs doesn’t have to be hard. SmartAsset’s free tool matches you up with local financial advisors in as little as five minutes. If you’re ready to be meet with advisors in your area that will help you achieve your financial goals, get started now.
Planning your retirement comes with its challenges, especially if you intend to move abroad. While Turkey may have low living costs, there still may be other financial burdens you have to address. To get an idea of what to expect, stop by our retirement calculator.
Ashley Chorpenning Ashley Chorpenning is an experienced financial writer currently serving as an investment and insurance expert at SmartAsset. In addition to being a contributing writer at SmartAsset, she writes for solo entrepreneurs as well as for Fortune 500 companies. Ashley is a finance graduate of the University of Cincinnati. When she isn’t helping people understand their finances, you may find Ashley cage diving with great whites or on safari in South Africa.
How to Retire in Barbados: Costs, Visas and More – SmartAsset
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An island in the West Indies, Barbados is a jewel of the Caribbean. Its turquoise waters and golden beaches are a perfect match to many people’s idealized days in the sun that they hope is waiting at the end of their working life. While this commonwealth country, where English is the official language, does have good reason to boast, you may wonder whether it’s right for you to retire in Barbados. Before contacting your financial planner to see if your finances are in order for the move, here are a few matters to consider first.
Cost of Living and Housing
Barbados’s cost of living tends to run a little higher than the U.S.’s on average, according to Numbeo, a cost-of-living database. At 12.24% above the U.S.’s average, without taking into account rent, the difference is not as significant as some other percentages found between the two.
For example, although Barbados has a higher cost of living, it has a much lower rent average. In comparison to the U.S., Barbados’s rent is generally 48.53% lower. You’ll find that renting is the cheaper way of living in Barbados, with a single-bedroom apartment in a city center at about $654.55. However, purchasing is a different story. At about $3,087.21 per square meter to buy an apartment in the same setting, it’s in the same price range as the U.S. There, it’s around $3,533.12 per square meter.
So, if you’re looking to stretch your retirement funds further, it makes more sense to pursue renting Barbados rather than purchasing a property.
Retire in Barbados – Visas and Residence Permit
For those who want to retire in Barbados, the process is relatively simple. Individuals over 60 with sufficient funds to support themselves can apply for immigrant status. After living in the country for five years, those people can then apply for permanent residence. You’ll have application and approval fees, in this case, $300 and $1,200, respectively.
Another option open to retirees is a special entry permit (SEP). This permit is offered to retired property owners and allows them to visit the island and leave as they please. The main requirements include owning Barbados real estate valued at $150,000 or higher and health insurance coverage. The latter’s value depends on the person’s age; below 50 has to have $350,000, and over 50 has to have $500,000 worth of coverage.
There are flat fees to cover for the SEP. It’s $5,000 for those below 50 and above 60 with $3,500 for those in between 50 and 60. Once you hit 60, this permit is indefinite, but you must renew it until then.
Retire in Barbados – Healthcare
Barbados enjoys a high standard of living and, thus, its people’s health is overall quite good. Its healthcare system is even viewed as among the best in the Caribbean. However, if you’re not a Bajan (as citizens of Barbados are sometimes called), you are not included under the island’s universal healthcare system. Therefore, if you’re an expat looking to retire in Barbados, you should ensure that you have private health insurance. Otherwise, numerous travelers and potential residents seek out the U.S. for treatment instead.
This outsourcing is also partially due to the difficulty in accessing professional care, such as rehab services. Otherwise, you’ll generally find four types of institutions: hospitals, both private and public; polyclinics; alternative healthcare clinics; and somewhat specialized hospitals, such as the five geriatric hospitals on the island.
Retire in Barbados – Taxes
After you spend 182 days of one year in Barbados, you are considered a resident. So, it’s important to know the tax distinctions between resident and non-resident status. Residents must pay taxes on their worldwide income, or the income they earn both inside and outside Barbados. In contrast, non-residents only pay taxes on income earned in Barbados.
For residents, they must file their income taxes on a minimum threshold of BBD50,000, or approximately $24,786. Incomes up to and including BBD50,000 incurs a 12.5% tax rate, while going over that amount leads to 28.5%. Residents are ensured a basic personal allowance of BBD25,000 ($12,500) and BBD40,000 ($20,000) for pensioners older than 60.
Non-residents receive the same tax rates. However, it’s important to note that even if you live outside the country, you must file taxes with the U.S. as an expat as well. Barbados and the U.S. have a tax treaty that can offer benefits and help ease the burden. There are also opportunities for U.S. expats through the foreign earned income exclusion and foreign tax credits to avoid double taxation on their Barbados earned income.
Retire in Barbados – Safety
While U.S. expats are not specific targets of crime in Barbados, they are still susceptible to crimes of opportunity and violence. Theft, such as burglary and gun violence, among other crimes, exist in Barbados. So, it is essential to remain vigilant, to avoid walking alone, particularly at night, and to know who you’re with at all times.
In particular, the U.S. Department of State advises against traveling through specific areas on the island to avoid these dangerous interactions. Areas to avoid include Crab Hill, Nelson and Wellington Streets and general nighttime party cruises.
Be cautious about which activities you enjoy, such as water sports or tourist events. This advisement comes more from a practical, safety concern than a pointed targeting of tourists, though. So, keep your wits about you.
Barbados is the island of dreams for some retirees. Thanks to the prominent U.S. community as well as an English-speaking citizenry, there’s less of a culture shock to shake you up. There is also the gorgeous weather, a location out of most hurricanes’ paths and the relative ease in becoming a resident. However, before you start to plan out your future on this island, it’s best to speak with a trusted financial advisor. Such a person can lay out the commonwealth’s tax and healthcare systems and help you determine whether the high purchasing price of property is in line with your long-term goals.
Tips for Achieving Your Retirement Goals
Finding the most suitable financial advisor for your needs doesn’t have to be complicated. SmartAsset’s free tool matches you with local financial advisors in as little as five minutes. If you’re ready to be matched with your financial advisor, who will help you achieve your financial goals, get started now.
Barbados may not have a high cost of living compared to the U.S., but the difference could still affect your finances. To see if your finances will support this, try our retirement calculator. Just put in a few details about where you want to retire, when you want to retire and the value of your current savings.
Ashley Chorpenning Ashley Chorpenning is an experienced financial writer currently serving as an investment and insurance expert at SmartAsset. In addition to being a contributing writer at SmartAsset, she writes for solo entrepreneurs as well as for Fortune 500 companies. Ashley is a finance graduate of the University of Cincinnati. When she isn’t helping people understand their finances, you may find Ashley cage diving with great whites or on safari in South Africa.