Making the money last when it's time to shift from saving to spending
You’ve earned and saved money and now you’re headed into retirement. What could go wrong? Along with a new schedule and opportunities come new questions and challenges, particularly around finances. The most pressing ones are often: “Do I have enough savings to last my lifetime?” and “How do I turn my nest egg into a paycheck that I can count on throughout retirement?”
One of the biggest changes in retirement is going from receiving a consistent paycheck to needing to generate your own cash flow to cover expenses. This shift requires a new investment strategy and mindset.
The 3 Phases of Retirement
To start, you’ll want to think of retirement as a series of three unique stages:
The “Go Go” Years In the first years of retirement, you’ll likely be focused on the fun things in life, such as travel or enjoying activities with friends and family. The result can be a spike in lifestyle expenses. During this period, your investment strategy should account for a faster withdrawal rate from your portfolio and more money going out the door.
The “Slow Go” Years Throughout these years, it’s likely you’ll settle into a routine. Your desire to be as active may taper off, and with it, life expenses can tend to go down.
The “No Go” Years More Americans are living into their 90s or beyond. While this is a testament to our medical advancements, increased longevity is often accompanied by physical limitations. At this point in life, you may scale back your activity even more and find that your remaining expenses are focused on daily living and possibly health care-related.
5 Ways to Restructure Your Portfolio for Retirement
Throughout the different phases of retirement, you’ll need to develop strategies around covering your day-to-day expenses as well as the best ways to tap into your assets. Both strategies should meet your goals and reflect your views on risk. Regardless of your circumstances, be sure to address five key areas when mapping out your retirement income plan:
- Protect against sequence risk If the stock market takes a tumble and you’re not appropriately diversified, you could be forced to pull money out of investments that have declined precipitously. The returns during the first few years of retirement can have an especially significant impact on your long-term wealth picture — this is known as “sequence risk.”
So consider keeping some of your money in liquid investments such as cash or other relatively safe, short-term vehicles to cover expenses for the first two or three years of retirement.
- Match your assets to your expenses Identify which of your expenses are required to meet your basic needs of living, (such as food, shelter, utilities and health care) and which are discretionary (like travel and hobbies). Then, target sources of guaranteed or stable income to meet your essential expenses. This can include Social Security, a pension if you’ll get one and perhaps an annuity with guaranteed payments.
You can use investments that may vary in value to meet your discretionary expenses.
- Remember that taxes are an ongoing expense As you create your own paycheck in retirement from your savings; remember that you may still have a tax liability. Unlike your working years, taxes may not be automatically withheld from your sources of cash flow. Even the majority of Social Security recipients are subject to tax on the benefits they receive.
Depending on how effectively you manage your income level, you may qualify for a zero percent long-term capital gains tax rate when liquidating certain investments in a taxable account.
Working with a financial professional before, and throughout, retirement can help you calculate how much you may owe in taxes or which tax breaks you may be eligible to receive.
- Pay attention to required distribution rules for your retirement accounts If you have money in traditional Individual Retirement Accounts (IRAs) or workplace retirement plans, remember to comply with the government’s required minimum distribution (RMD) rules.
After age 70 1/2, you must take withdrawals from these accounts annually — even if you don’t need the money — based on a schedule provided by the Internal Revenue Service. Failure to comply can result in a significant tax penalty. (Money held in Roth IRAs is not subject to RMD rules).
- Keep in mind that growth is still a concern When you are younger and accumulating wealth, your primary investment focus is growing your assets. However, in retirement you need to think about the potential impact that inflation could have on your future income needs.
To keep pace with rising living costs, you will still need to grow your assets. That may mean keeping a portion of your portfolio invested in equities that historically have outpaced inflation, but could also be subject to more market volatility.
Start planning early to protect what you’ve accumulated and position your assets for their new purpose — to generate income to last throughout your retirement.