In my last blog post, I wrote about the KFA approach to retirement income planning. The approach is a good one that serves as a strong foundation for creating a reliable, long-term plan that uses analytical tools and innovative tactics to align available resources with basic needs and lifestyle goals throughout retirement. It may surprise you to learn, however, that the most challenging part of every retirement income plan is navigating down the mountain—in other words, spending the money you’ve saved on the way up.
Navigating your financial journey is a lot like mountain climbing. During your working years, you deliberately negotiate your way up the mountain. You save diligently, always striving to reach the mountaintop. The ascent is the ‘accumulation phase’ of financial planning. At retirement, you ‘bag the peak,’ enjoy the view, rest at the ridgeline, and then reverse course. The descent is like the ‘distribution phase’ of financial planning. When you plan well, your resources should be more than sufficient to sustain you until the very end of your adventure.
I had always believed that going downhill was the easier part of the journey. Then, the last time I hiked, I huffed and puffed my way to the top and celebrated my success. I’d made it to the top! But on the way down, I slipped on a step and broke my ankle. What I learned (the hard way) is that the descent takes its own type of special vigilance!
One thing that makes the trek down the retirement planning mountain tricky is that no two retirees are alike. First, the resources they have when they reach the top can vary dramatically. Some retirees reach retirement with substantial savings. Others have lifetime pensions. And some barely have enough to stay afloat. In all cases, how strategically they use their resources will dictate how comfortable and secure their retirement will be. Each case is unique:
- Ronnie has built up a substantial IRA account, and it is her primary resource in retirement. This makes her very sensitive to income taxes since every dollar she draws from the account will be taxed by the IRS and the state of California. When we completed the KFA retirement income planning process together, it was clear that her after-tax income would not be enough if she stayed in California. After exploring her options, she decided to relocate to Texas where there is no state income tax. The fact that her daughter lives there is icing on the cake. By moving to San Antonio after she retires, her IRA distributions will be state-tax-free. The change in her retirement security will be significant.
- Joe and Julie have accumulated an impressive investment portfolio, and their only reliable source of income is Social Security. They enjoy the finer things in life, spend generously, and are enjoying their early retirement years. Even so, to reduce their risk of running out of resources, I recommended that they delay Social Security to age 70. Since investment income is their primary source of cash, we refined their investment strategy to manage sequence of returns risk using a carefully designed and constructed post-retirement bucket strategy. The change in their investment strategy will help smooth market risk and boost tax efficiency, and claiming Social Security at 70 will increase their monthly benefit by 8% per year. All three of us are confident this approach will ensure they have more than enough resources to support their inflation-adjusted spending goals in retirement and to fund their legacy goals.
- Karen is retiring this year at age 66. Her portfolio is sizeable, and she purchased two permanent life insurance policies years ago that have both built up substantial cash values. She agreed that delaying Social Security until age 70 is a smart move, but she needed to increase her income in the interim. To meet some of her near-term cash needs, we decided to exchange the cash value in her unneeded life insurance policies to create a stream of income using an immediate annuity. The additional cash needed to meet her expenses will come from her investments and savings, and she’ll draw just enough from her IRA to keep her in a low tax bracket. Once Social Security kicks in at age 70, her plan will be more straightforward—and more than sufficient to meet her needs.
- At age 71, Joan is collecting Social Security, and she enjoys rental income from her investment property in Newport Beach. To meet her cash needs, we planned a carefully calculated draw-down strategy from her investments with a plan to replenish her portfolio after she sells the rental property in about seven years. She has long-term care (LTC) insurance to address the financial risk of health issues. She feels confident knowing that she has LTC to protect her and enough income to live well.
In each of these examples, the challenge at hand is how to conserve enough resources to live well after paychecks stop coming in. Every retiree must find a way to shift from saving to spending—from accumulating to distributing. Though their goals and resources are different, their carefully constructed retirement income plans are working to optimize the resources they have to meet their short-term needs and long-term goals. The result: Ronnie, Joe and Julia, Karen, and Joan should all make it safely down the mountain—even if there is a broken ankle or two along the way.
Navigating down the mountain of retirement income planning can be tricky. But like any adventure into the unknown, planning early and well can keep you safe, confident, and happy every step of the way. Whether you are years from retirement, standing at the mountain top, or finding yourself in peril on the treacherous downhill slope, now is the time to put a smart plan in place. As always, I’m here to help!