Markets

Marshal All Your Resources for a Successful Retirement

Wade Pfau is one of America's top financial planning experts and the author of the recently published Retirement Planning Guidebook: Navigating the Important Decisions for Retirement Success. In this episode of Motley Fool Answers, Motley Fool personal finance expert Robert Brokamp talks with Wade about how to coordinate your portfolio, Social Security, home equity, insurance, and different types of accounts to create dependable income that lasts as long as you do.

To catch full episodes of all The Motley Fool's free podcasts, check out our podcast center. To get started investing, check out our quick-start guide to investing in stocks. A full transcript follows the video.

10 stocks we like better than Walmart
When our award-winning analyst team has an investing tip, it can pay to listen. After all, the newsletter they have run for over a decade, Motley Fool Stock Advisor, has tripled the market.*

They just revealed what they believe are the ten best stocks for investors to buy right now… and Walmart wasn't one of them! That's right -- they think these 10 stocks are even better buys.

See the 10 stocks

Stock Advisor returns as of 6/15/21

This video was recorded on September 28, 2021.

Alison Southwick: This is Motley Fool Answers. I'm Alison Southwick, joined as always by Robert Brokamp, Personal Finance Expert here at The Motley Fool. It's the last week of the month, which means we get to eavesdrop as Bro sits down for a chat with a money expert. This month, he is joined by Wade Pfau, one of America's top financial planning experts and the author of the recently published Retirement Planning Guidebook: Navigating the Important Decisions for Retirement Success. They'll talk about how to coordinate your portfolio, Social Security, home equity, insurance, and different types of accounts to create dependable income that lasts as long as you do. All that and nothing more but my immense gratitude for our listeners on this week's episode of Motley Fool Answers.

Robert Brokamp: A retirement plan involves coordinating a lot of moving parts, investments, IRAs, 401(k), Social Security, Medicare, home equity, stay planning, and more. We take a very comprehensive book to explain it all and provide guidance on how to fit all these puzzle pieces together. Well, fortunately, that book has just been published, it's the Retirement Planning Guidebook: Navigating the Important Decisions for Retirement Success. The author is Wade Pfau, the professor of retirement income at the American College of Financial Services and the big brain behind the cornucopia of informative articles at retirementresearcher.com. Wade, welcome back to Motley Fool Answers.

Wade Pfau: Thanks. It's a pleasure to be back.

Brokamp: Congratulations on the book, it truly is very comprehensive. That said, I'd like to begin with a topic, not in your book. One that I think is neglected in financial planning and that is career management. I'd particularly love to get your thoughts on the topic because you've had such a successful career. I first interviewed you back in December of 2011 for a print article, and I began that article with, "If there's such a thing as a rising star in the world of financial planning, it might be Wade Pfau." Here we are almost a decade later and you're considered one of the top retirement experts in the country. However, as I understand it, you didn't start out wanting to be a retirement expert.

Pfau: Well. Thank you for that prognosis. My original career goal, since really being a junior in high school, was to be a U.S. government economist. I had a job lined up in the treasury department coming out of grad school. But I just had second thoughts about whether it was necessary to immediately move to Washington and missing out the opportunity to live overseas, I became a professor in Japan and that's how I started my career. I never did end up making into the U.S. Government in that regard. But after 10 years in Japan, while I was there, I was focusing more on emerging market pension funds. I was always interested in personal finance for my own personal financial planning and so forth. But I didn't really know about it as a specific career. I stumbled into retirement planning with the dataset that I had and started to look at things like the 4% rule of thumb and retirement and international data and got such a good reception on that that I found a new career for myself. Indeed, over the past 10 years, I have had that focus on retirement planning and financial planning, which is an academic field now, but it's new, the first PhD program and financial planning didn't start until the year 2000. Part of that new trend of, it's applied economics. It's economics but with very practical considerations with most of them a lot of theoretical academic economics.

Brokamp: Would you say there is anything that particularly increases chances that you would be successful? When you were in Japan, you knew you were coming back to America. Were you casting about for a market, some way for that your skills could be translated into a job back in the states?

Pfau: Yes. To some degree I was intentionally trying to focus more on, I knew emerging market pension funds would not be that marketable in the U.S. I started studying for the CFA designation to help try to become more marketable in the U.S. Then that's where I stumbled across some of the ideas that subsequently started to look at in terms of research. To some degree, I stumbled into retirement planning and that became a very hot topic. Especially in those years, 2011, 2012, 2013, there was so much going on and to be at the right time to get into all that was going on at that time. Fortunate in that regard, but it really fit. The other aspect of it was, I effectively just built my career out of writing computer simulations that test different retirement strategies. I was a self-stock programmer in that regard. I may not write the most efficient programs, but they got the job done. Being able to position that's been very helpful for building my career.

Brokamp: Certainly, all worked out for you so far. Let's move on to retirement planning. For people who are farther from retirement, how should they determine if their retirement savings are on track?

Pfau: It's an interesting question because one of the early research articles that I did was just playing out in practice, how hard that can be in terms of thinking. You may have a wealth target in mind that I need to have X number of dollars saved before I feel I can comfortably retire. But there's this idea of sequence of returns risks that usually gets talked about more in retirement, but it exists pre-retirement. That's just as you're saving over time. The market returns that happen later in your career have a much bigger impact. The whole idea is that if I'm assuming a 7% average return on my portfolio, for example, in the last 10 years before I retire, my portfolio needs to double in value. Over that 10-year period, there can be a lot more volatility about what the average return will be over 10 years. It's a lot harder to know whether you're on track toward meeting a well-target when you're pre-retirement. I started to suggest focusing instead more on just savings. Are you consistently saving a reasonable percentage of your salary on an ongoing basis? Are you building wealth? We don't really know what the markets are going to do around your retirement date. It's going to be hard to know exactly how much you need. But if you've really been putting in the effort, you can look at where markets are. Right now with interest rates being so low and the stock market valuations being high.

On the stock market side, hopefully, if you've had equities as part of your portfolio, your portfolio has been growing pretty well. But you just might want to be thinking about, especially with low-interest rates, it may take more to comfortably fund that retirement. That's where focusing more on the savings side can be an important way to frame. Rather than saying, if my goal is to earn $2 million in my investments and when I get there I can retire, you should just be careful about that if it's just retiring earlier than you planned, focus more on just consistently saving through the planned retirement date that you had.

Brokamp: Any research indicated a percentage people should shoot, back in the day, I think the rule of thumb used to be 10%. Nowadays, when you look at research from people like Fidelity and T. Rowe Price, they said it probably should be closer to 15%, or are the variables so unique to each individual that you really can't give a percentage?

Pfau: They are very unique to the individuals and also depends a great deal on when you get started with savings. But if you're 35-years old, planning to retire at 65, 15% is probably a pretty reasonable guideline for most people. If you get started in your 20s, you might be able to get away with a 10% savings rate consistently throughout your career. If you're getting started later, that would suggest using a higher savings rate. But it's hard to give one when universal rules out just depends how much you want to spend in retirement and if you're part of the financial independence early retirement community or something like that, you're going to be saving a lot higher percent because your standard of living that you're trying to achieve would be a lot lower than the salary and that's how you accelerate the process of being able to retire early. But that will be instead 15% is a reasonable starting point to be thinking about, and that includes any employer matches if you're contributing to a 401(k).

Brokamp: Once you get closer to retirement, you have to start thinking about, how am I going to generate income from my portfolio? Your book talks about different approaches to that. But perhaps the biggest distinction is what you call probability-based versus safety-first. What are they, and what are the differences?

Pfau: That discussion, probability-based versus safety-first, I started describing that going back to the early days of looking at retirement planning because I was new into the field and I was just recognizing, you can ask the same basic questions to people and get completely opposite answers about things like, is there such a thing of the safe withdrawal rate from investments? Do stocks become less risky over longer holding periods? Is there any use for annuities in retirement? People answer those in opposite ways. I described probability-based, and ultimately, we've had an update here. I've done research with [...] where we talked about retirement income styles.

In the context of today, probability-based suggests more comfort and relying on market growth that you believe that stocks will outperform bonds over a reasonable holding period. You're comfortable funding your retirement that way, I'm assuming that you'll get the stock market growth to support the higher spending levels from your investments than if you were just invested in bonds alone. Whereas safety-first implies more about contractual commitment wanting to have some sort of contractual protection. Not wanting to have to rely on the stock market to fund the retirement, but wanting to layer in and they could be with individual bonds. It's the whole bond to maturity. There's some contractual protection that you will get. The amount, that's the face value and then the interest. Also, annuities that are protected lifetime income through it. The insurance company offers that contractual protection as well to support ongoing spending needs over retirement.

Then we have the other factor we found is really important is just how much optionality that you want in your plan versus how much commitment do you want to be able to take this off the to-do list, and commit to a strategy that you know will work versus keeping your options open as much as possible. When you combine your perspective on the probability based safety-first and optionality commitment, it's really interesting how it just feeds into four standard types of retirement strategies that are well-known and loved by different people throughout the world. The total return investing approach, the time segmentation or bucketing, and then the annuity, building a lifetime income floor, and then investing for the more discretionary spending on top of that.

Brokamp: Just as a teaser, we hope to have you and Alex on a future episode, dig a little deeper into a framework you've created in making that decision. But broadly speaking, a lot of this comes down to what people might say, their risk tolerance or risk aversion, which people are probably familiar with. But in your book, you talk about longevity aversion. Tell us a little bit about what that is.

Pfau: Longevity risk aversion, it was a term cleaned by [...], and it's really about the idea of how fearful I am about outliving my wealth. Some people are very worried, what if I live to be 95 or 100 and I don't have any assets left? Some people may not be as concerned about that, but it's really this suggestion of just psychologically how do I feel about living my wealth. That's very important to the retirement contacts because like risk aversion, risk tolerance as we know about it, it's just short-term market volatility. But really it applies more toward thinking about saving for retirement. It doesn't really work in retirement because it doesn't tell us anything about what kind of retirement strategy someone wants. It just assumes everybody wants to use an investment portfolio.

To the extent that some people are really worried about their longevity and have that longevity risk aversion. That's not going to be reflected in a risk aversion about short-term market volatility. It's a fundamentally different concern that somebody may have and that's where the retirement strategy can start from a different point. First, you think about how you want to build the general strategy, and then longevity risk aversion feeds into that. Then you can think about the risk tolerance factor later when you, because any strategy will have an investment portfolio as part, and so they'll determine the allocation for that investment piece, that's where the risk time comes in. But something like longevity risk aversion is very important to retirees and needs to be reflected in the overall thought process as well.

Brokamp: When I was reading your book and reading about longevity risk aversion, I thought to myself, I'm not too worried about it. I don't know anyone in my family who has made it to their 90s. My wife, however, all her relatives have made it pretty much turn their 90s and some 100. Then furthermore, on top of that, I'm the person who manages money in our family. The most likely scenario is that she will outlive me. But she's not the person who handles the finances and won't know how to do some of the investing and stuff like that. What are some ways? First of all, the point there is, it's important to think of it as a holistic view at the household level to a certain degree. What are some of the things people should be doing if they are concerned about outliving their finances or their spouse outliving them, and you're the person who manages the family money?

Pfau: That's absolutely an important question. So much in my life goes back now to this retirement income style. But this idea of it sounds like you're more of a frontloader. You're more comfortable. I know I'm healthy today. I'm alive today. Let me enjoy it while I know that I can. Let's frontload retirement expenses, and then in the unlikely event I'm alive at age 90 or 95, I'm willing to cut my spending if I need to versus that back-loading preference, and it sounds like your wife may have. I'm more concerned about what might happen to my lifestyle if I happened to still be alive at 95 or 100, and so I'm willing to spend less upfront to be able to get to that. That characteristic does correlate with if you have more of a front loading preference, you do tend to be more of an investing style, that approach for retirement versus if you have a back-loading preference. You tend to also be more than associated with an annuity type approach for retirement.

When you have spouses that disagree on that fundamental point, it is about finding a compromise to make sure that everyone can feel comfortable, and that can be along the lines of investing can be very important. But let's put some protections in place for that spouse. Whether that's delaying Social Security for the high earners in the couple, so that you have that higher survivor benefit from social security if there are any other pensions available looking at that joint life option very seriously instead of a single life option. Then maybe even looking at an annuity that doesn't require as much premium because it's longevity insurance that will only start income. In the event that your wife lives to 80 or 85 then it would turn on and support protected lifetime income, and it can be done jointly, both lives in that regard. But that way, because the income doesn't start until much later, it doesn't take as much premiums because it's keeping a whole lot of years of payments, but it can provide that longevity protection for the spouse with a smaller portion of the assets and meet that need while at the same time also meeting the need of the individual who is more comfortable investing and having the stock market potential growth and everything, more of the assets can still fit into the investing side as well.

Brokamp: You mentioned annuities and annuities sometimes have a bad name, and to some degree may be justified because maybe you have high cost, high fees pushed by insurance sales folks who are looking to make a big commission and not necessarily provide the best products and services for somebody. That said, I do think the regular plain vanilla annuity or the deferred annuity that you mentioned makes a lot of sense. You're basically creating your own pension. You handover money to an insurance company and then you get a check in the mail for the rest of your life. You described annuities using the term that you called actuarial bonds. Explain how annuities are actuarial bonds.

Pfau: That simple, plain vanilla-type annuity that you mentioned that just you pay a premium, you get a monthly income for the rest of your life. It behaves a lot like a bond and effectively the insurance company takes your premium and invests it in a high-quality fixed income bond portfolio for the most part. The underlying annuity is generating a bond-like return. But then it's an actuarial bond because it adds risk pooling on top of bond interest. You have these risk pools. Some people won't live as long, other people will live longer. The annuity will calibrate the amount of spending you get to how long you live. If someone unfortunately doesn't live very long, it doesn't take as much money to fund their retirement. It's unfortunate but that's the reality. Whereas if somebody lives a long time, it's going to take a lot more money to fund their retirement because every year somebody lives and has to cover their budget, the cost of their retirement is growing with that. An annuity is like a bond but with no clear maturity date in advance, it's going to continue to provide coupon payments as long as you live. Therefore, it's going to be better matched to your specific need in terms of how much money it takes to fund your retirement. It adds that element of actuarial science on top of a simple bond coupon payment or bond interest rate. That's the idea.

Brokamp: As we've touched on in the last time you were on our show, your research has shown that allocating some of your bond money to annuities and retirement can actually be better than investing just in stocks and bonds.

Pfau: That's absolutely right. Basically, bonds are the least efficient way to fund a retirement spending goal over an unknown length of time. If you are investing in stocks, of course, things can backfire on you, but you at least have the potential for outsized stock market returns to exceed what bonds are able to provide. If you put money into the annuity, you have a bond-like return, but then you also have that additional actuarial science, the risk pooling, the mortality credits that helps support a longer retirement. Then it's really about which do you prefer, risk premium from the stock market or risk pooling from the annuity. Either one of those can potentially give you more than bonds alone. In that regard, when it comes to thinking about what's the most efficient way to support a lifetime spending goal on an ongoing basis, instead of talking about a stock bond mix, it's much more of a stock annuity mix. You put some of those bonds into the annuity, but then you don't necessarily sell any of your stocks, you keep the same amount of stocks. With what's left in the investment portfolio, it's a higher stock allocation. But that's OK because you have the risk capacity, because you now have this protected lifetime income, that even if the stock market doesn't cooperate you still have your basics covered and so forth. It's the stock annuity mix instead of a stock bond mix for the assets meant to fund the future retirement budget.

Brokamp: If someone finds the idea of guaranteed income for life appealing, they can just go out and buy an annuity from an insurance company. You can actually see some quotes at immediateannuities.com. But of course, most Americans will receive some guaranteed income already in the form of Social Security. In fact, you say that Social Security is the best annuity that money can buy. What do you mean by that?

Pfau: It's an important point because anyone who's thinking about buying an annuity, they should first delay Social Security. It would not be very efficient to take Social Security early and buy an annuity. The reason for that is we have the delay credits from Social Security that if I can claim anytime between 62 and 70, if I claim before my full retirement age, which is now I'm moving between 66 and 67, I get a cut for claiming early. If I delay up to 70, I get a subsequent increase for the rest of my life at around 8% a year, especially after full retirement age. Those factors about the cuts and the delay credits were established in 1983. In 1983, real interest rates were about 2.9%, and that's after inflation. The entire tips yield curve, they're like real interest rates we have today, the entire tips yield curve is negative right now. But Social Security has a built-in 2.9% real return as part of determining what your credit is for delaying. Then also people are leaving a lot longer now than they were in 1983.

For most retirees today, it can really pay to delay Social Security and in terms of that then being an annuity to get specifically to the question, you can think about, well, I could claim at 62 or I could claim at 70. If I claim at 70 and I give up eight years worth of my age 62 benefit, I can view that as a type of premium that is then funding an annuity starting at age 70. That is, I'm now getting a Social Security benefit that's 76-77% higher than it would've been if I claimed up to 62. Those eight years of age 62 missing benefits are the premium to pay for 76-77% higher Social Security for the rest of my life. If you view that as just like buying a deferred annuity with the eight year deferral, putting those age 62 benefits into the annuity supporting the subsequent higher Social Security after age 70, that is a much higher implied payout rate than any commercial annuity is able to provide right now. Because again, it pays so much higher interest rates and people are not living as long compared to. Today, the insurance company lives in the real-world, interest rates are very low, people are living a lot longer. Annuity payout rates are lower than what's implied by what you get from delaying Social Security.

Brokamp: Well, Social security adjusts every year for inflation, whereas currently you can't get inflation adjusted annuity.

Pfau: Yeah. There's that detail to Social Security's built-in inflation adjustments switch; since January 2020 there's no commercial annuity that provides the same CPI, consumer price index matched inflation adjustment. Social Security has survivor benefits attached to it as well, not just the single life, especially for the high earner and a couple, not necessarily the low earner and a couple.

Brokamp: In your book, you go into a good bit of detail on how to withdraw assets in retirement in the most tax-efficient manner possible, and you have several hypothetical illustrations. Then you expressed the results and how long the portfolio lasted. Not how much you save in taxes in any given year, but how long being more tax efficient extended the longevity of the portfolio, which I thought was pretty clever. In every scenario claiming Social Security at age 70 resulted in a longer lasting portfolio. Does this mean that delaying Social Security can actually lower your tax bill over the course of retirement or is there some other dynamic going on there?

Pfau: There were a few different steps that were part of that process. The first scenario was, I claim at 62 and I use a more traditional spend down strategy where I'm just spending taxable assets then tax-deferred IRAs and then tax-free Roth accounts last. Just delaying Social Security did add about two years of additional longevity without changing the tax strategy. But then it was to really get so with the most efficient tax strategy. I looked at it, it increased the total along with Social Security delay, about 5.6 years longer for how long you can meet a spending goal that was pre-tax while then also paying your tax bills and how long would your money last at that point. Just delaying Social Security by itself isn't really going to help the tax situation. Naturally you might just end up paying more taxes because you have a higher Social Security benefit. But that's a good thing. Having more income and then having to pay more taxes is better than having less income and paying less taxes proportionally. But it's the ability to then build in a more tax efficient retirement strategy at the same time. If you're already retired by 62% and you're delaying Social Security, then you have this eight-year window where you don't have a lot of taxable income.

That can give you the opportunity to better position your assets for later when you do have Social Security and then at 72 when required minimum distributions kick in as well. You're doing strategic Roth conversions and things, and lower income years to pay taxes at lower income tax rates. Then later when you claim Social Security, there's this thing called the Social Security tax torpedo, that you can effectively reduce the amount of taxes you have to pay in your Social Security benefits, which has provided unique advantages above and beyond just managing your marginal tax rate in the federal income tax code.

Brokamp: A good bit of that chapter did talk about mixing of withdrawals from taxable, tax-deferred, tax-free Roth, having Roth assets or doing Roth conversions. I know you are not someone who likes to give blanket responses, but do you think everyone should be at least considering having some Roth assets as part of their retirement portfolio?

Pfau: Yeah. I think tax diversification is very important. Having different types of assets can be helpful because, especially the Roth distribution does not go into your adjusted gross income. So that can help protect you from having to pay higher Medicare premiums or having to pay taxes on more of your Social Security benefits and so forth. Having some Roth assets in place can be very helpful as a way to have more flexibility about where you spend from, so that you can continue to spend without necessarily generating a higher tax bill for yourselves. To that extent, you can have some money in a Roth. Yeah absolutely, I think that can be helpful.

Brokamp: In your book, you echo the advice that I regularly give, which is that people should use tools or services to determine the best-claiming strategy for them. I'm just going to name the tools you listed in your book and I've mentioned them on the show before, but just so everyone has, and there's open social security.com, which is free, maximize my social security.com, which costs around $40. Then Social Security Solutions.com, which costs between $20 and $250 spending on which version you get, and whether you get any help with that. Let's move on to what for most Americans is among their biggest assets and that's their home and the equity that they have in it. I would say generally, the conventional wisdom is that retirees have not touched their home equity except as a last resort. But you think that could be a mistake, tell us why.

Pfau: This is the same issue with which I can speak positively about annuities, about reverse mortgages, that sort of thing. It's because ultimately they risk changes in retirement. You have to approach it differently and pre-retirement you have more flexibility to rely on the idea of stock market growth but you don't always get that right in the years you need it in retirement. That's where as a part of managing retirement risks, tools like annuities or reverse mortgages can play a role as well. To the reverse mortgage question specifically about home equity.

The conventional wisdom is, don't ever use a reverse mortgage but maybe if everything else fails so that I've spent on my investment assets and I don't have any other choices, then I might open a reverse mortgage and continue to spend from that and retire. The reality is that if you're going to incorporate home equity into your retirement income plan and use it in some manner, that the last resort option that gets described then as the conventional wisdom is really the worst way to go about doing that. The reason is the reverse mortgage has this line of credit attached to it and I'm talking about the home equity conversion mortgage program, which is the standard government-administered program that consists of at least around 90% of reverse mortgages in the United States. But when you open it, it has a line of credit that will grow at the same rate, any loan balance would grow. If you open it but you're not borrowing from it, you have to keep some minimum balance to keep it open. But if it's otherwise 99% line of credit, that line of credit is growing at the same rate the loan balance would grow. By opening it sooner, you're almost surely going to have more access to spending capacity than if you wait until later to open it by letting that grow over time. I mean, your house would have to appreciate at a very high rate, really to be better off, or interest rates go down quite a bit, which is impossible from where we're starting today to be better off by waiting to open the reverse markets.

Opening it sooner and letting it grow can help improve the overall retirement outcome. That's one of those areas where I've written computer simulations to test that and find very strong evidence in support of the idea of strategically using it, even if it's just to open the line of credit and then let it grow until you run out of investment assets. The approach of strategically looking at the reverse mortgage earlier in retirement, stating that you can't do it before age 62, but starting at 62 is going to give you a better outcome than that last resort strategy. Assuming you anticipate staying in the home that you're in so far.

Brokamp: As I understand, so that line of credit can keep growing, theoretically even exceeding the value of the home. Because it's a non-recourse loan, you or your heirs don't have to pay the difference.

Pfau: It's non-recourse so if the loan balance is higher than the appraised value of the home at the time, the individual ends the reverse mortgage, either through debt or moving somewhere else or not paying their property taxes are doing basic maintenance. You're capped on how much you have to pay back. You can do it in the lieu of foreclosure and then the home covers the loan from your perspective. You're paying mortgage insurance premiums throughout and part of the reason for that is to provide that protection that the lender will be made whole through mortgage insurance rather than you having to pay back more than the home is worth. That's been called the ruthless option.

If somebody just opens a line of credit and uses it as a way to protect, like if your home loses value throughout retirement, then it's much easier for that line of credit to grow to be worth more than your home, and then you can take a windfall out of it. It's basically a windfall. It's not going to E and T your legacy any amount and beyond the home value. But the government did catch on. I did some simulations around 2015, where there was almost like a 50% chance after 20 years that the line of credit would be worth more than the home. The government reconfigured some rules around that in 2017 to make it harder for the line of credit to grow to be worth more than the home. It's not impossible and it can happen. It's just no longer like a 50% chance that in 20 years your line of credit will be worth more than the home. The government put some breaks on that aspect of it. But nonetheless, if you're in the home for 30 years and your home value isn't necessarily growing all that much.

For retirees it may be harder for their homes to keep pace with overall home value growth just because they may live in an older neighborhood or less trendy neighborhood and things. It is still possible that you could get that insurance for the protection on the value of your home through the reverse mortgage if that's the strategy you're thinking about.

Brokamp: One way that it seems to be the most possibly appealing to use it is, as a buffer asset. You go through a period like the stock market goes down 50% and unlike last year, it doesn't rebound so quickly. It takes three, five, seven years to recover, you use the reverse mortgage so that you're not forced to sell your stocks until the market recovers and then you can either pay off that loan or just leave it alone and not worry about paying it off.

Pfau: Yeah, that's a coordinated strategy using the reverse mortgage as a buffer asset. That's where most of the research about reverse mortgages are focused. Going back to 2012, there were a couple of articles in The Journal of financial planning. They talked about the idea of using a reverse mortgage line of credit as a way to manage sequence of returns risk, which is if the market goes down and I have to sell my portfolio to fund my budget and have to sell a bigger share of what's left. I dug a hole for my portfolio that can be hard to recover from. The idea was, what if the market goes down rather than digging that hole for my portfolio, I leave my portfolio alone and I temporarily sourced my spending needs from the reverse mortgage. Then this is the idea. There is a probability-based component here. You're comfortable thinking, well, if I can leave my portfolio alone for a few years, it should recover by the time it's really necessary to spend from it.

In the long run, I am going to be much better off when I look at my net legacy, which is I'm better protecting my portfolio so my portfolio will be a lot larger. That even after I pay off the loan balance on what I had to do as part of using that reverse mortgage to fund spending. I'll still have more assets leftover at that point after repaying the reverse mortgage as well.

Brokamp: The other benefit that didn't come up and like every loan, it's tax-free. It's not a situation where if you had to sell a portion of your portfolio, it could increase the amount of your social security tax, could increase the amount you pay for Medicare premiums, reverse mortgage if you don't have to worry about that.

Pfau: It's the same point as with a Roth IRA that when it proceeds from a loan, so when you're taking the distribution from your reverse mortgage line and credit, it does not go into your adjusted gross income and therefore it doesn't impact your social security taxes, Medicare premiums or anything else.

Brokamp: I often close interviews with retirement experts by asking about their own retirement plans. But I asked you that the last time you were on the show, which was March of 2019 when we deconstructed the so-called 4% rule. This time, as our final question, I will point out that you have a chapter in your book about the non-financial aspects of retirement and it's not always peaches and cream. There are some challenges that come with retiring. What do you think will be most challenging about retirement for you? What do you plan to do about it?

Pfau: That was an area I had to read up quite a bit on because I do focus more on the financial side but the reality is the non-financial side is just as important. This is the idea of, when you leave work, it's not just an income that comes from work. It's all the other aspects of social engagement, a structure for your days, feeling like you're a valuable member of society. If what you're tight on your business card really is a part of your identity, losing that identity and so forth. I do think about that in terms of I'd like to work toward becoming financially independent, but I don't know how quickly I want to just leave the labor force. I think just having more flexibility to choose what to do. I mean, there's all these things non-work-related that I have in mind that I'd like to do, but I don't necessarily know when push comes to shove, whether I do all those other things or whether I just become more lazy and whether I miss having the structure of having a deadline to get something done.

To the extent that it's possible just phasing into retirement slowly and seeing how you can handle that additional time when you're not at work, that's like an extra eight hours a day or however many hours that you have to fill doing something else. Being able to fill that with something that gives you passion and purpose is important. I have some ideas about how I could do that, but I don't necessarily know yet, at the end of the day. If it's something you've always been dreaming to do your whole life, but you're not doing it and you're saying to yourself, I'm going to wait until retirement, and then I'll do it. The reality is, it may ultimately be something you don't necessarily put that much value in and just being retired may not make a difference, you may still not do it. Then you do need something to give you the time and structure for your day. That's my concern.

Brokamp: You're in your mid-40s. Hopefully, we'll have another 20 years or so of excellent retirement research ahead of us. Again, our guest has been Wade Pfau, the author of the newly published Retirement Planning Guidebook, Navigating the Important Decisions for Retirement Success. Wade, thanks again for joining us.

Pfau: Thank you. Thank you, Robert.

Southwick: Well, that's the show sort of, because last week I asked you, listeners, to do me a favor. Many of you volunteered without even knowing what it was all about. Talk about trust. You are all the best listeners. But I do want to say a specific thanks to the following Fools who raised their hands: Mark, Scott, Sam, Matt, Douglas, Jason, Gaurav, Catalina, Rod, Tracy, Kevin, Wan, Alex Nelson, Vicki, Todd Matthew, Justin Bahama, and Peter Ryan Seth, Todd, Richard, Kevin Jeff, Mark, Phil James, David, Eric Randy Kathy, Tim Ron and Alyssa, Calvin Garrett, Kathleen David James Silpada, Mike Joseph Austin, Suzanne, Jeremy Loren, Mary, and Tony. Catherine Morgan, Brian Scott, Jacob, Kevin, Anthony, Sam, Zachary, Rick, and Peter, thank you all. Now you should have received an email from me saying 'thanks so much, hold tight, we'll be in touch' and that is all true. For the rest of you, I still love you. How can I choose a favorite listener? I can't I love you all. Alright, that's the show. It's edited acceleratingly by Rick Engdahl. Our email is answers@fool.com. For Robert Brokamp, I'm Alison Southwick. Stay Foolish, everybody.

The Motley Fool has a disclosure policy.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

Latest Markets Videos

The Motley Fool

Founded in 1993 in Alexandria, VA., by brothers David and Tom Gardner, The Motley Fool is a multimedia financial-services company dedicated to building the world's greatest investment community. Reaching millions of people each month through its website, books, newspaper column, radio show, television appearances, and subscription newsletter services, The Motley Fool champions shareholder values and advocates tirelessly for the individual investor. The company's name was taken from Shakespeare, whose wise fools both instructed and amused, and could speak the truth to the king -- without getting their heads lopped off.

Learn More