Q. How can I make my retirement income last as long as I live?
A. Financial planners hear this question more often today with the first wave of baby boomers reaching retirement age. More than 78 million boomers are expected to retire over the next two decades.
To answer this, planners need to guide retirees and near retirees through a maze of sometimes contradictory goals and trade-offs. Planners need to tailor their advice to the unique circumstances of individuals who are at risk of running out of money during retirement. Retirement-specific risks such as longevity, rising health care costs, extreme market volatility and inflation worries make retirement income planning a difficult challenge.
Retirement income planning has become a specialty in the financial planning profession. Search online for “retirement income plan” and you’ll get back more than 16 million responses. The tools and processes designed to help people save for retirement change as people move into partial retirement and full retirement.
At a recent conference, some of the issues planners discussed were new retirement income products, maximizing Social Security, calculating withdrawal rates, pensions and annuities, investor behavior and psychology, access to health care, and long-term care needs. Add these on top of investment management, income and estate tax planning, and risk management, and it’s easy to become overwhelmed.
Retirees need help creating a lifetime income stream. Retirement assets must last over a longer period of time because people are living longer. Today, for a couple age 62, there’s a 40 percent chance one of them will reach age 90. In retirement income planning, rather than looking at asset allocation (the mix of stocks and bonds), retirees should also look at their income allocation: lifetime income sources and managed income sources.
Essentials like food and clothing should be covered by income from lifetime income sources such as Social Security, pensions and annuities. Discretionary spending, such as travel and entertainment, should be matched to income from managed sources such as investments, IRAs or even part-time work.
It isn’t just about the money. The old rule of thumb – that retirement income needs to equal 70 percent of pre-retirement earnings – is outdated. The first step in estimating the duration of your retirement assets is knowing what retirement means to you. Until you define retirement holistically, it is difficult to determine your spending needs. Ask yourself what you are retiring to. And consider these three criteria:
• Wealth means not only your savings, but also the cost of living and access to health care.
• Purpose includes activities that increase your sense of engagement and fulfillment. Things like hobbies, time with family and friends, volunteering for a favorite charity, and working part-time.
• Health includes your current level of health, family history, and managing long-term care risks during retirement.
Retirement income planning demands a more defensive strategy than the traditional approach used by most people. Creating sustainable spending power from retirement assets is critical to the process of making sure retirees don’t outlive their assets.
For more information, visit the Financial Planning Association’s website at www.fpanet.org and search “retirement income.”