When the time comes to retire, you'll need to find an income source to replace your salary. Unless you live an extraordinarily frugal lifestyle, Social Security benefits alone won't cut it (although they will definitely help). Arranging for one or (preferably) more of the following options can ensure you enjoy a long and well-funded retirement, but note that some of these investments require specialized knowledge and/or carry certain risks. Do your homework before you put in your money!
1. Retirement savings accounts
A well-funded 401(k) or IRA can be a retiree's best friend. The only catch is that if you want to rely on your retirement savings account as a major source of income, you have to regularly save significant amounts during your working years. Distributions from tax-deferred savings accounts will be taxed, but distributions from Roth accounts are tax-free.
Image source: Getty images.
2. Pensions
If at any time during your career you worked for an employer long enough to vest in the company pension (which typically happens after about five years), you may be able to claim pension benefits. A quick search on the PBGC website can help you turn up any unclaimed pensions under your name. Of course, if you only worked for the company in question for a few years, your pension check will be pretty small -- but why throw away free money?
3. Home equity
About 18% of retirees use equity from their homes to help finance their retirement, according to a Gallup poll. The surest (but typically most expensive) way to use home equity as an income source is to take out a reverse mortgage on your home, which will guarantee you a set payment for as long as you live in the house. Other options include downsizing to a smaller residence or taking out a home equity loan or line of credit to provide short-term income.
4. Part-time work
While the traditional idea of retirement meant doing no work at all, these days retirees are often turning to a part-time or side job for extra income. Ongoing work can also give retirees a feeling of satisfaction and accomplishment. Of course, these psychological benefits require a job that's interesting and fulfilling. Perhaps when you retire you can keep your existing job but convert to a part-time schedule. Another enjoyable option would be to turn one of your hobbies or interests into a side gig.
5. Annuities
An annuity is sort of like buying your own pension: You hand over a chunk of money to an insurance company or other financial institution, and in return you will receive payments for the rest of your life. Annuities come in a staggering variety of types and options, so if you're considering one, it's best to check with a financial advisor first to help determine which variety is best for you. Note that you'll want to choose an advisor who does not sell annuities himself to ensure that there is no conflict of interest involved.
6. Own a business
Many business owners maintain part ownership after they retire, allowing them to enjoy another revenue stream without having the responsibility of keeping the business running. However, you also have the option of buying a share in a small business either immediately before or after you retire. Such an investment definitely requires a lot of research and legwork to confirm that you're getting a good deal. Be aware that small businesses are a risky investment-especially if you don't fully understand the industry. If you choose this route, do what writers do and "buy what you know": pick an industry you've got plenty of experience with already. A somewhat less involved option is to buy a small share in a limited liability partnership, or LLP. These partnerships often exist to make investments, whether in real estate, stocks, or other businesses. They pass a share of the resulting profits or losses back to the partners based on the size of each partner's share. Your investment advisor may be able to hook you up with a share of a publicly traded LLP, which considerably simplifies the process of finding and researching an appropriate partnership.
7. Investment real estate
Rather than buy shares of a real estate LLP or REIT, you can cut out the middleman and become an owner or part owner of a piece of real estate. Retirees preferring a more hands-off approach can higher a property management company to do the day-to-day maintenance, but the fees a management company will charge can cut steeply into the profits. On the other hand, managing the real estate yourself may require a significant investment of time and effort. Owning a piece of real estate will also likely cut into your ability to diversify, since it's likely such a large investment will require a huge percentage of your capital. If you sink practically all your money into buying a rental house, for instance, and then you can't get a renter in there for a few months, you'll run into massive cash flow problems. One way to minimize the risk is to go into a real estate partnership with several other investors, so that you don't have to put as much of your own money into a since investment -- you throw enough cash into the pot to cover part of the purchase, and your partners come up with the rest. A big real estate partnership will also help diversification by having the capital to buy several buildings, not just one.
Choosing the best income source
Not all of these options will be a good choice for every retiree. If you'd prefer not to put much time and energy into your income, you're probably best off focusing on retirement savings accounts as your main source of funding. If you'd like to be more involved, then real estate may be a great choice for you. Put your own preferences first, above the potential profitability of an income source, or you could have a wealthy but miserable retirement.
The Motley Fool has a disclosure policy.
