How to Generate Income in Retirement
As anyone trying to choose a Medicare plan can tell you, transitioning into retirement isn't as straightforward as it looks. There are a lot of decisions to make, and most of them don't have easy answers.
One of the biggest issues in transitioning to retirement is income planning. How can you plan your income in a way that's simple, sufficient and sustainable? The answer is that it requires balancing investment risk, longevity and your lifestyle - not an easy process for most people.
Here's how to start - and how to tackle one of the toughest aspects of retirement planning: your investment accounts.
Make some estimates about what you need
Having a budget in place is the cornerstone of retirement planning. Start the process by determining your expenses: You can use my Bradford Pine Wealth Group spreadsheet to run your numbers.
Once you have an idea of your current budget, make a few tweaks by considering the following retirement-specific issues:
- Your lifestyle plans: Whether you'll be traveling extensively or settling down in a cheaper part of the country, think about how your plans can affect your expenses.
- Your life expectancy: This is obviously an unknown, but that doesn't mean you shouldn't be thinking about it. These days, the average 65-year-old will live almost 20 years. But that's just an average: If you're a 65-year-old man, you have a 25% chance of living to 93 - for women, you have a 25% chance of living until you're 96.
- Health care: Do not fall into the trap of thinking you'll just be paying Medicare premiums for the rest of your life. Long-term care, costly prescription drugs and hefty out-of-pocket expenses are commonplace for retirees. Make sure to account for higher health costs in your budget.
- Taxes: It is not rare for people to come up with a budget and retirement savings withdrawal plan only to realize they forgot about accounting for taxes. Make sure they're part of your plan.
- Inflation: Even when it comes to normal, everyday expenses, it's a mistake to think that you'll need the same dollar amount year after year. Even when inflation is low, its effects are insidious - especially over the course of a couple of decades. Read this blog post for more.
Once you build some estimates around your lifestyle costs and how they could change, you're ready to start strategizing for your income.
Compiling your income sources
Most retirees get their incomes from a combination of:
- Social Security benefits .
- Workplace pension plans or annuities.
- Qualified retirement accounts and other financial investments.
- Income-generating investments such as property or a privately held business.
- Work, such as a part-time job, consulting or an income-generating hobby.
Some income sources are set in stone or otherwise guaranteed. For others, you may have a lot of discretion about how much to take or when.
The key here is to think about how your "guaranteed" or stable income sources relate to your budget. Are they enough? Will you need to supplement them with money from your investment accounts?
If so, you're facing a question posed by many, if not most, new retirees: How am I supposed to manage my retirement savings for the long haul?
Managing retirement savings
Retirees face a tough decision-making process when it comes to their financial assets. On the one hand, you likely want to be able to generate income for as long as possible. On the other hand, you probably want to know that your savings are safe.
To balance these competing priorities, you may need to take on more investment risk than you were expecting.
Think about it this way: If your investments are growing at a low but steady rate that just barely keeps up with inflation, you won't see your investment returns fluctuate much, but you'll be losing money every year with account withdrawals. In other words, there is a real risk that you'll outlive your assets.
If you take on more investment risk, you are more likely to achieve higher long-term growth - that means you'll be less likely to outlive your savings. Of course, that benefit comes at a cost: higher investment account volatility and a greater chance of losing some principal in down markets.
So what's the magic number to balance these risks?
Unfortunately, there isn't one. For my clients, I recommend a diversified approach that uses investments suited for each client's needs: the specific allocation always depends on the client.
The most suitable investment allocation for you depends on a number of financial and personal factors. Think about things like:
- How much you'll need to rely on your investment accounts for income.
- The stability of your other income sources.
- Your lifestyle and anticipated longevity.
Isn't there an easier way?
These decisions are complex for a simple reason: Every financial picture and personal situation is different and always changing. The risks you face aren't necessarily the risks your neighbor is facing because you might have different financial resources, different retirement risks and different lives.
That said, the issues I've raised here are some of the most common ones - and you should take the time to think about them. Preferably today. After all, one of the biggest risks we face in financial planning is simple procrastination.
Of course, sometimes the answers are difficult to get to. If you're struggling to come up with a plan that makes you feel empowered and confident, please consider speaking to a qualified financial adviser. Working with a professional can make it easier to tackle these issues methodically and objectively.
What's worrying you most about retirement? I'd love to hear what's on your mind as you start on your own journey.
Anna B. Wroblewska contributed to this article.