Workers' confidence in their ability to fund retirement is rebounding, according to a recent survey by the Employee Benefit Research Institute. A positive uptick in confidence is a step in the right direction, particularly on the heels of record lows between 2009 and 2013. But despite the nascent economic recovery, there are still pitfalls that can derail retirement readiness.
"We all have tendencies to do things that are outside of our best interests," says Emily Guy Birken, author of "The 5 Years Before You Retire: Retirement Planning When You Need it the Most." "With limited time to recover from mistakes and the high consequences you face if you make one, it's better to avoid retirement planning mistakes than try to recover from them."
Here are six common pitfalls that can derail a retirement plan.
1. Avoiding market volatility at the wrong time
Any investor who's been around since at least 2008, when the broad stock market lost nearly 40 percent of its value in one year (as measured by the S&P 500 Stock Index), knows that returns can be wildly unpredictable. However, cashing out a portfolio locks in investment losses so an investor can't benefit from a future market surge, like the one experienced in 2009.
"We as investors need to be smarter than our brains," says Birken. She adds that this is true "when things are going gangbusters and when they're going poorly."
2. Never re-balancing investments
While staying the course during periods of market volatility is recommended, so is taking an active role in managing your retirement portfolio. Birken recommends working with a trusted financial adviser to plan a diversified investment strategy. Periodically, as market conditions vary over time, investment allocations fall out of balance. Birken suggests re-balancing at regular intervals to bring your portfolio back into alignment.
3. Following a poor income-stream plan
Market volatility is particularly hard on retirees, as they don't have the time to recoup investment losses.
"In the first five years of retirement, you want your money to stay put," Birken says. "You want it to be very stable."
Birken recommends placing the first three to five years of retirement income in a very low risk option like a money market account, CD or savings account. Birken suggests rolling new money into the short-term account once per year during retirement, as assets are depleted.
4. Borrowing from a 401(k)
A 401(k) or other tax advantaged retirement account offers, for most people, the greatest opportunity for saving and investment growth. A loan from the account leaves less time for your money to grow, which can have a dramatic affect on a portfolio's health come retirement time.
Even more damaging, however, most employers require a loan to be repaid in full at separation, potentially leaving you locked into a job you don't truly love or, even worse, expected to fulfill a large debt obligation at the same time you lose your job. If you don't repay a loan when you leave your job (whether willfully or not), you'll be taxed on the money at ordinary income rates and assessed an additional 10% penalty (unless you're over the age of 59 1/2).
If you really need a loan, Birken recommends considering a home-equity loan before borrowing from a 401(k).
5. Failing to consider health care costs
Many new retirees find themselves unprepared for today's staggering medical costs. A recent study from Fidelity found that a typical couple retiring today at age 65 will need $240,000 to cover future health care costs. The cost goes up if the couple is not eligible for Medicare (early retirees are not), needs Medigap coverage or buys long-term care insurance. An early analysis of expected costs can help keep a retirement nest egg from early depletion.
6. Falling victim to a scam
"Retirees and pre-retirees are particularly vulnerable to scams," says Birken. "They have a big nest egg because they've been saving their entire lives and [at the same time] they are fiercely guarding their independence."
After decades of being the financial decision-maker for the family, explains Birken, many empty-nesters are uncomfortable asking family members for advice. This self-created isolation can leave this highly targeted group particularly vulnerable to financial scams. In her book, Birken explains that those over age 60 are swindled out of a staggering $2.9 billion per year.
To avoid being the victim of a scam, Birken recommends retirees ask a lot of questions ("Don't invest in anything you don't understand," she says), avoid financial opportunities that must be acted upon immediately, and share potential opportunities with a trusted adviser or financially educated loved one before taking action.
For many, retirement confidence goes hand in hand with proper financial planning. According to Birken, "Having the necessary foreknowledge to avoid pitfalls can keep you from jeopardizing the retirement you want and deserve."