After decades of regularly stashing away a good chunk of your income for retirement, it’s only natural that you’d want to use your savings responsibly. While most of us are familiar with healthy saving practices, knowing how to spend those savings can be a little more complicated. Although every person will take a different approach toward retirement spending, there are several tried-and-true tactics that we can all benefit from.
Ask the right questions
“There is no magic formula” for retirement spending, says Larry McClanahan, a financial planner in Clackamas, Oregon. Instead of looking for a quick solution, McClanahan recommends that you “develop a personalized retirement plan that meshes all your assets and cash flows against your anticipated spending.”
In order to create that plan, you must first ask the right questions. Think about how much longer you’d like to work. How much money do you hope to take from your retirement savings each year? Do you own other assets that you could rely on before digging into your retirement savings? Will you want to spend more money in the early years of retirement for, say, travel?
Getting to know your individual financial situation like the back of your hand will enable you to construct a bulletproof retirement spending plan.
New market trends demand new spending strategies
In the early 1990s, the financial advisor Bill Bengan coined the “4% rule,” asserting that if you withdraw about 4% of your retirement savings each year, your funds should last about 30 years. Although this model certainly can’t be rejected outright, the 2008 market crash highlighted some of its flaws. First, this model assumes that your investments will keep making money to replace what you spend during your retirement. But what if the market declines sharply, and your stocks falter?
“The common wisdom of drawing only 3.5% to 4.0% of your portfolio may help with portfolio longevity, but it does nothing for tailoring cash flows to your spending needs and time frame,” says McClanahan. “You may need to draw more than the ‘formulas’ recommend in your early retirement, and that’s okay if prudent planning assumptions indicate it can be supported.”
The economy’s tumultuous last decade forced many financial advisors to revise their retirement spending strategies. Instead of following a single model, advisors are beginning to highlight the importance of being financially flexible.
Flexibility is crucial
Richard M. Rosso, a financial advisor based in Houston, Texas, says it is important to be “open-minded and willing to change plans.”
“After two devastating stock market sell-offs since 2000, and structural changes to employment, including the permanent loss of jobs, we are growing accustomed to dealing with financial adversity, and shifting our thinking to adjust to present conditions,” Rosso says. “Actions outside your control – such as poor interest rates on conservative options like certificates of deposit – can disrupt retirement savings and cash flow. In many ways, the Great Recession motivated pre-retirees to work longer and to carefully monitor their debt.”
Indeed, carefully monitoring all of your finances – not just your debt – will go a long way in ensuring a comfortable, financially sound retirement.
Russo adds one more tip: “If 80% or more of your investments are in tax-deferred plans, and you’re five years or less from your retirement date, consider meeting the employer match in retirement plans and saving the rest in taxable brokerage accounts. This strategy allows greater flexibility with tax planning during the withdrawal phase as generally capital gains are taxed at lower rates than the ordinary income distributed from retirement accounts.”
Be wary of taxes
Speaking of taxes, McClanahan recommends that you think about “how you can best distribute from your resources in a manner that triggers the least tax hit.”
“Hopefully, you’ll have accumulated assets in three categories: pre-tax (401k or IRA), tax-free (Roth), and already-taxed (regular brokerage account). That may enable you to mix-and-match distributions in a way that lands you in a lower tax bracket,” McClanahan says.
Partner up with an expert
If you find yourself scratching your head at terms like “mix-and-match distribution” and “regular brokerage account,” know that you aren’t alone. McClanahan, Rosso, and Michael Mezheritskiy, a founding partner of Visionary Private Wealth Management, all agree that the best way to build a solid retirement distribution plan is to construct it with a financial planner by your side.
Mezheritskiy recommends that you “find an independent financial planner in your area that specializes in retirement planning.”
McClanahan, meanwhile, asserts that you might want to consider working “with a genuine retirement income planner to help you make sure the bases are covered and assumptions are prudent.”
Mezheritskiy leaves us with this nugget of wisdom: “Retirement planning is a living breathing thing, [and] it has to be monitored and must be adjusted along the way.”
Graham Ober manages content and community for NerdWallet's financial advisor platform- Ask an Advisor. Formerly an investment banker, Graham is passionate about helping people make smarter decisions with their money. He writes about money-savings tips, personal finance and investing. Follow Graham on Twitter @EGOber