Millions of Americans look forward to the day when they'll finally be able to retire. Yet even though they have decades to plan during their careers, many people nearing retirement have no idea what they need to do before they can hang up their work clothes for the last time.
1. Have a financial strategy for handling your healthcare needs
The biggest challenge most retirees face is figuring out how they'll be able to afford their healthcare expenses.
Most Americans become eligible for Medicare at 65, and applying for coverage is as simple as visiting this Medicare enrollment website. Yet Medicare alone doesn't cover all of your healthcare expenses, so you'll also want to look into Medicare supplement plans to see whether they could get you necessary coverage that Medicare doesn't provide.
Meanwhile, for those who aren't yet 65, other options exist for healthcare coverage. Those who have healthcare coverage at work can ask about eligibility for COBRA coverage after they quit, which will often let you bridge gaps between retirement and Medicare coverage of up to 18 months. But you'll have to pay the full premium yourself, which can be a shock if you're not prepared for the expense.
2. Know how you'll handle Social Security
Social Security is a key way that most retirees get income after they quit work, so making the most of your benefits is essential to your financial health. Many Americans have no choice but to start taking Social Security immediately after they retire, but some have other financial resources that give them the flexibility not to take benefits right out of the gate.
Social Security's ins and outs are complex, but the most important point is that the earlier you start taking Social Security, the smaller your monthly payments will be. That's offset by the fact that you'll get more of those monthly payments, so depending on how long you expect to live, different people can justify different decisions about when to take benefits. Yet it's also important to consider what impact your decision might have on your family members, especially your spouse. Sometimes, the best decision for your whole family might not be the same decision you would make if you were only considering your own personal finances.
3. Figure out a plan for spending down your retirement accounts
The other financial resource that many workers have is a retirement account, whether it's a 401(k) plan at work or an individual IRA that they manage themselves. Knowing how best to spend down those accounts is critical to stretching your resources as far as they'll go.
In particular, you need to remember that traditional retirement accounts are subject to tax when you withdraw money, so be sure to account for the taxes you'll have to pay on your withdrawals from IRAs and 401(k)s. In addition, like it or not, the IRS forces you to start taking money out of your traditional retirement accounts when you reach age 70-1/2. Both of these issues show the value of Roth IRAs, for which no required withdrawals are necessary and which don't produce taxable income when you make withdrawals.
4. Understand how your taxes will change in retirement
Most people expect their taxes to decline markedly when they retire, and the loss of wage income often does have the side benefit of reducing how much of your hard-earned money goes to the IRS. But even if your tax rates do go down after you retire, you still have to pay attention to what types of income are subject to tax.
As mentioned above, withdrawals from traditional retirement accounts often have the biggest impact on your taxes, as they get added to your taxable income. But a number of other costs depend on your taxable income, such as premiums for Medicare and how much of your Social Security benefits will get taxed. In some cases, taking steps before you retire to get your finances in order, such as Roth conversions, can reduce your tax burden after you quit -- but those strategies come with costs and shouldn't be followed blindly.
5. Get your estate planning in order
Having all your estate planning documents prepared is a smart thing to do before you retire. By having a will prepared to handle your affairs after your death as well as durable powers of attorney to manage your finances if you're unable to do so during your lifetime, you can cover all the financial bases and ensure that you won't find yourself in financial trouble if an unexpected problem arises. In addition, because many legal documents need witnesses and notarized signatures, it's easiest to have them prepared while you still have workmates who can watch you sign your will and other documents in accordance with the law.
Retirement is one of the biggest steps you'll take in your lifetime. But by keeping these five things in mind, you'll have a far easier time handling your financial affairs after you retire.
Dan Caplinger and The Motley Fool have no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.