Retirement doesn’t just happen, it takes a Plan. That is the first ‘truth’ about achieving your retirement goal. You may see that written a couple times throughout this article! It is so true. Many people fail because they just didn’t think through the many complexities of preparing for 30 years of retirement, without receiving a paycheck. Many of us will spend more time planning our next vacation than we do planning our retirement.
Simply put, failing to plan is planning to fail. Don’t plan to fail!
I like to emphasize a written Plan because if it isn’t written, then it can’t be executed effectively over a long period of time. You’ll get busy. You’ll forget. Life happens. Priorities change. And that’s the second truth: The Plan requires execution over a long period of time and through all of life’s ups and downs. Yes, the Plan can change to meet your changing needs, but if the Plan isn’t written, it probably won’t happen. It is too difficult, if not impossible, to execute a plan that isn’t written.
According to the article Top 10 Ways to Prepare for Retirement by the Department of Labor,
- Only 40% of Americans have calculated how much they need to save for retirement
- In 2018, almost 30% of private industry workers with access to a 401(k) plan or something similar did not participate
- The average American spends roughly 20 years in retirement
If your “plan” is that Social Security will take care of you, that “plan” will fail you. Nearly everyone will receive Social Security, but Social Security won’t pay all the bills. On average, Social Security will fund about 40% of your monthly needs. So you need to plan for the other 60%.
If you are under 55, you are in the wealth accumulation part of Retirement Planning and these few principals will get you on the right path. (If you are over 55, there are more complex factors to consider and you should read our article, The Main Pillars of Retirement Planning).
Wealth Accumulation Principals for Retirement
Start as Early as You Can
Perhaps you have a young family and your mind is on college planning. It won’t be long before the “little ones” graduate. In your mind, retirement is probably light years away. That’s the common thinking for many young people.
But we all know the magic of compounding. The savings we socked away when we were younger will pay big dividends.
Here’s an example. Tom is 28 years old and plans to save $500/month or $6,000 per year until he retires at 65. With an annual return of 7% (assuming annual compounding), Tom will have amassed $962,024 when he turns 65 years old. Total contributions: $222,000.
Kate decides to put away the same amount. Kate is 22 years old and will save for 43 years. While her time to contribute is only an additional six years, her decision to start early is rewarded with a portfolio of $1,486,659. Total contributions: $258,000.
Because Kate started sooner, the additional $36,000 amounted to an additional $524,635! (Source: Investor.gov Investment Compound Calculator Calculations assume a tax-deferred account.)
Regular saving is critical. Automatic payroll deduction is your best friend. Once you begin saving into a retirement account, you won’t miss it. Let me tell you a short story about my own experience. When I first started saving in my company’s 401(k), my initial saving was 3% of pretax income into my 401(k). Yep, I started small. But then every raise I got, I put half into the retirement savings plan.
Before long, I was maximizing not only my IRS-allowable contribution, but I was maximizing my employer’s contribution as well. You cannot beat free money! I can’t overly emphasize the importance of capturing your entire company’s match. It’s free money. Don’t leave free cash with your employer.
Additionally, consider other savings vehicles outside of your employer plan. Look into Roth IRAs, brokerage accounts, etc. to not only enhance your savings but diversify your savings portfolio. Put those other savings vehicles on auto-pilot as well.
Start Where You Are
If you’re mid-career and you haven’t started saving for retirement yet, it’s not too late. But you must get going! There’s a great book, Start Where You Are , by Chris Garner (the same author who wrote “The Pursuit of Happyness”).
Simply put, it’s never too late to start. Put aside any negative thinking about a late start, or other stumbling blocks. Everyone has a reason not to do something. Rise above that. Your retirement is too important. You need to start planning for the other 60% of income that Social Security doesn’t provide, among other things in retirement such as long-term care.
Roth vs Traditional IRA
That question will depend on your personal circumstances. Your company’s 401(k) is tailor-made to save for retirement, Roth or not. This is especially true if your firm has a matching contribution. Some company plans may have a Roth option.
Whether to fund a traditional IRA or a Roth IRA depends on many factors, including your marginal tax rate today and expected rate in retirement.
A Roth offers tax advantages if you qualify. Generally speaking, withdrawals from a Roth IRA are tax-free in retirement, if you are age 59½ or older and have held the account for five years. But you won’t capture a tax deduction on your initial contributions.
Current tax law does not require minimum distributions on a Roth IRA, which can be a big advantage as you navigate through retirement.
There may be other advantages to a Roth depending on your special circumstances that can be discussed with your Financial Advisor.
Determine the Right Asset Mix for your Retirement Investments
While our advice will vary from investor to investor, we can offer broad guidelines. Furthermore, retirement may be broken into different stages, which may require adjustments to the plan.
Some investors decide its best to take a very conservative approach. You know, “I can’t lose what I’ve accumulated because I don’t have time to recoup losses.” But that has its drawbacks. For starters, you don’t want to outlast your money. Equities, which have historically offered more robust returns, may still be an important part of an investment strategy.
Others may be swept up by what might be called “the current of the day.” Stocks have surged, which may encourage investors to load up on risk. However, a comprehensive financial plan helps remove the emotional component that can creep into decisions.
To help determine what type of investor you are, you should consider a Risk Tolerance assessment. These can be either written answers to a set of hypothetical investing questions or a verbal discussion with your Financial Planner, or preferably a combination of both. You will be able to determine what mix of stocks and bonds is right for you. You may also find significant benefit to a broader range of assets, such as our 7 assets / 12 funds 7Twelve Partners approach to give you the most diversified portfolio approach.
Estimate your Expenses at Retirement
Much will depend on your individual circumstances. Your retirement expenses and lifestyle will dictate your income needs. An old rule of thumb that you’ll need 70% of pre-retirement income may not suffice for many. For example, will you still be paying on a mortgage after you retire? Or, do you plan to downsize, which may reduce or eliminate monthly mortgage outlays?
Once you determine your expenses, then determine whether the amount of guaranteed income streams you can establish will meet those expenses. Any income ‘gap’ will need to come from decumulation of the assets in your portfolio.
Replacing Your Income at Retirement
You are at the 2nd stage of Retirement Planning, often called the Decumulation (of wealth) Stage or the Distribution stage. It’s a complete paradigm shift. No longer are you socking away a percentage of each paycheck. Instead, you are living off a combination of your Social Security benefit and other income streams such as pension, annuities, etc., if you have them.
Keep in mind that you can maximize Social Security by waiting to age 70. That is a great way to increase income, if you can keep working or if you have an income ‘bridge’ strategy that can get you to age 70.
Also know that you will need to take your Required Minimum Distribution from any tax-deferred account at age 72. That will increase your income floor from just Social Security.
For decumulation of your portfolio, another old rule of thumb some people consider is the 4% rule. It’s relatively simple. Withdraw 4% of your total investments in the first year and adjust each year for inflation. Keep in mind, however, that this rule assumes a 30-year time horizon, uses a 50/50 stock/bond portfolio mix, and 0% investment management costs in order to minimize the risk of running out of money over the 30 years. However, the 4% withdrawal rule does not account for “Sequence of Returns” risk which is the risk of taking out too much money from the account during a ‘down’ year. Doing so may jeopardize the length of time your money will last.
There are many other considerations in the Decumulation stage of Retirement Planning. Seek out a qualified finance professional that can help you with:
- Maximizing your monthly income stream
- Leveraging your other assets to fill the income ‘gap’ to meet monthly expenses
- Exploring tax-efficient withdrawal strategies
- Helping you navigate the complexity of healthcare in retirement
- Discussing your legacy goals and assisting with Estate Planning
A PDF download that we offer may be helpful to understand some of the intricacies of Retirement Planning, post age 55. See our Engineering Your Retirement Plan here.
These are just a few principles to help you get started with your Retirement Planning. One size does not fit all.
I’ll go back to where we started: Retirement doesn’t just happen, it takes a Plan. All our Retirement Plans are personalized to one’s specific needs and goals.
If you have any questions, we would be happy share our recommendations. We’re simply a phone call or email away!
About Kastler Financial Planning
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