Lately I have had the opportunity to work with several couples who are right on the verge of retirement. At this stage in the game, retirement planning shifts focus from accumulating assets to generating income.
Longer life spans mean making good decisions regarding cash flows and investments as this point is very important. While having more retirement years does give you more time to make corrections as needed, early mistakes (like starting retirement with too high a spending rate) may also compound over a longer period of time. Here are some tips and strategies to consider as you make that final leap into retirement:
First, you must start your retirement knowing what you will need to meet your living expenses and other goals. If you have never put together a budget, now is the time. This should be done several months before you retire, so you have a good handle on your fixed living expenses, as well as how much you can spend to enjoy your years of hard work. Remember to build in an amount for uncertain expenses like home repairs.
Next, take stock of your sources of regular income such as Social Security, pension, rental income, or even part-time employment. At this point, you will need to make important decisions regarding your Social Security and pension income. Should you delay receiving your Social Security benefit to build up delayed retirement credits and a larger benefit for your spouse? Should you accept a lower monthly pension to ensure some of this income will continue to your spouse should you die first? These decisions may be irrevocable, so it is important to fully understand the options and how they may impact your ability to meet your retirement goals.
Any shortfall between your income and expenses will need to be made up with funds from your retirement investments. Because you will be taking money out of your nest egg instead of adding to it, you most likely need to change your investment strategy a bit to be sure your portfolio can sustain the necessary withdrawals.
Most investors recognize they need to make their portfolios more conservative during retirement. However, this is not just a matter of moving everything into your savings account on your retirement day. Remember you are still investing for the long haul, and inflation will erode the purchasing power of your savings account if everything is left in cash.
While we have benefitted from relatively low inflation in recent years, the average annual rate of price growth has been 4.45 percent since 1970, and we can expect a return to higher rates once the recovery gathers steam. To keep your investments from losing purchasing power, consider adding Treasury Inflation Protected Securities and commodities to your well-diversified portfolio of stocks and bonds. While you will have to live with some fluctuation in your portfolio value, this approach, historically, has offered the best way to keep ahead of inflation over the long run.
To hedge against market downturns, you will want to keep a significant portion of your nest egg in stable, fixed-income investments like government bonds, CDs, or a short-term investment grade bond fund. Plan to set aside three to five years of living expenses in these types of investments to give yourself a cash cushion that will allow you to avoid selling stocks when the market is down. Liquidity also becomes very important during retirement. Be careful about making investments that cannot be easily converted to cash. Non-publicly traded securities, like some real estate investment trusts and deferred annuities, may have restrictions on how early or often you can receive your principal back.
Finally, a good retirement income plan also includes different distribution plans for different types of accounts. Plan to spend down your taxable assets first, leaving your traditional IRA and 401(k) accounts to grow tax-deferred. However, remember you must start taking distributions from these retirement accounts after age 70. Distributions from Roth IRA assets should be held for last to maximize the buildup of tax-free income.
