Over the decades I have been writing for the Journal Times I have written several articles on retirement planning. Although different articles have highlighted different aspects of successful long term accumulation strategies, my focus for this article and a few to follow will be on achieving peace of mind by using appropriate investment and distribution strategies in retirement.
How much can you spend
How much we made over our working years, how much we put away and what benefits we earned are the primary determinants of financial success in retirement. The more we earned, the greater will be our social security benefits available at age 62 or thereafter. But social security gets complicated. Even if we are qualified for benefits at age 62, we have to decide whether to take them or whether to wait for our full retirement age, typically 66 or later. As social security benefits grow by approximately 8 percent for each year you put off taking them, the longer you live, the better off you will be by deferring your social security if and only if you live beyond the breakeven point. In short, social security distributions are calculated actuarially. Deferring your distributions means that you will have to live longer to make up for the delay. And further, you will have to find an alternative source of income if you put off your distributions. Again, this can get complicated.
Then there is the possibility that you will have a pension. Many public employees still receive pensions although in recent years many have had to contribute to them. In the private sector, pensions have often been replaced by 401(k), profit sharing and other money purchase plans. In these cases, the more you put away, the more you will be able to spend in retirement.
Tapping your investment nest egg
After determining how much you will be drawing from social security and any available pensions, all that remains is to determine how much to draw from your accumulated investment accounts and retirement plans. Tax planning should also be taken into account at this stage of the process.
In addition to the tax consequences or requirements of taking distributions from different types of accounts, it is also important to evaluate your spending needs and compare those requirements to what is considered to be a safe withdrawal rate from your investment base. Although there are exceptions, most financial planning professionals advise that retirees begin by considering 4 percent as a safe starting point for their distribution planning. But how you invest will determine how much you should expect your investments to grow. And how much they grow will in turn determine how much you should plan on drawing. I will go into greater detail on these concepts in future articles.
After one of the least volatile years in history, the markets this year have become more turbulent. The last thing retirees want is to fear losing what they have worked so hard to achieve. In future articles I will explore the relationship between appropriate portfolio construction and safe withdrawal rates. Until then, investors should maintain their positions in well-diversified balanced portfolios.