Howard Gold's No-Nonsense Investing: How to build a secure retirement by creating your own personal pension

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Over the past few months, I have laid out many ways to build your own personal pension, which used to be the norm but now, at least in private industry, is nearly extinct. This time, we put it all together to show you how it can be done.

But first, to refresh your memory, here are the elements we’ve discussed that should go into such a pension:

• Social Security benefits.

Required minimum distributions (RMDs) from your 401(k) or traditional IRA.

Single premium immediate annuities (SPIAs) for your 70s and beyond.

A qualified longevity annuity contract (QLAC) to defer taxes and get income later in life.

To those four, I’d add a Roth IRA for late-life income and passing on the rest to your heirs.

In this column, I’ll show how all of these might work together. Be warned, though: I have massaged the data to give big round numbers that illustrate my point better. I’m also tracking one person, in good health, who retires at 67. I know, I know, the average retirement age in the U.S. is 63, and many people are forced to retire early because of illness or layoffs. But we’re keeping it simple and aiming high here. So, here we go.

1. Social Security. Julie Jones waits until her full retirement age of 67 to start collecting Social Security benefits. (Most Americans don’t, by the way, but I urge you to do whatever it takes, within reason, to wait that long.) Her full benefit is $2,483 a month, from which the Social Security Administration deducts $130 each month, the average Medicare Part B premium. She asks Social Security to withhold 15% of her monthly benefit for federal income taxes and is left with around $2,000 a month, or $24,000 a year.

2. RMDs. A successful career in accounting has allowed Julie to accumulate $100,000 in a Roth IRA and $660,000 in 401(k) and traditional IRAs. She uses $130,000 of that traditional retirement money to buy a QLAC which will start paying out when she turns 80. From the remaining $530,000, she will have to take an RMD of $20,000 in the year after she turns 70 1/2. The IRS automatically withholds 10% of that for federal income taxes, which leaves Julie with $18,000 a year, or $1,500 a month.

3. SPIAs. Her kids having graduated college, Julie and her spouse sell their home in the San Fernando Valley, book a tax-free profit of $250,000, and retire to a smaller, cheaper home in Arizona. With $100,000 of those profits, she buys an immediate annuity, which pays her about $500 a month ($6,000 a year) and will provide a lump-sum payment to her beneficiaries of what’s left of her original investment when she dies.

4. QLACs. Julie takes the maximum $130,000 allowed from her 401(k) and traditional IRA and buys a QLAC from a highly rated insurance company, a deferred annuity that will start paying out when she’s 80. Not only does she reduce the balance from which her RMDs are calculated and thus the taxes at ordinary income rates she will have to pay; she also will get about $1,300 a month, or $16,000 a year, when she turns 80 (also with the provision of balance payout to her heirs upon her death). The payouts she gets will be taxable at ordinary income rates.

5. Roth IRA. Julie invests her Roth IRA aggressively because she doesn’t plan to touch the money for at least 10 years. When she does, withdrawals will be at her discretion and they won’t be taxable. She knows that even if she lives well into her 90s, she’ll have an additional source of income, and can leave whatever remains to her spouse and kids. Assuming her initial $100,000 doubles over the next decade, by the time she’s 80 or 85, using a 5% withdrawal rate, that would be another $10,000 a year.

So, throughout her 70s, Julie Jones would get a “pension” of $56,000 a year pretax from Social Security, IRA RMDs, and the immediate annuity. If her spouse gets about the same, that would be more than $100,000 a year for both of them, enough to live comfortably in retirement in Arizona. Julie might even choose to work part time to bring in more income.

When she hits 80, the QLAC would kick in, adding $16,000 a year. Throw in $10,000 a year from her Roth IRA and her “pension” would pay out more than $80,000 a year pretax, assuming both IRAs grow at expected rates.

To many Americans who live from paycheck to paycheck and have little or nothing saved for retirement, this must sound like an elitist fantasy. But this is hardly the 0.1%. Middle- and upper-middle-class Americans can carve out the retirement security a pension brings if they save, plan, and invest well and, of course, get a little bit of luck along the way.