Gone are the days when most Americans could count on a combination of Social Security and pension plan benefits to provide most of the income they need in retirement. The retirement landscape today is a very different one – where individuals are not only living longer, but also taking on more responsibility for generating the income they’ll need.
For many of us, the transition from years of saving for retirement to suddenly needing to generate income from those savings will be the single greatest financial turning point of our lives. The decisions you make and the actions you take in the years immediately preceding this turning point can make a big difference. Will you have the necessary income to live the lifestyle you’ve always envisioned, or will you have to scale back your dreams, extend your working years and run the risk of outliving your retirement savings?
Twenty years ago, 60% of Fortune 500 companies offered a pension plan. Today, that number has dropped to just 16%.1
Creating your income plan
Finding the most efficient and effective way to convert your retirement savings into a lifetime of income requires a thoughtful plan that includes a:
- Detailed understanding of your retirement goals and the income needed to fund them
- Thorough analysis of all your guaranteed and potential income sources
- Strategy to minimize retirement-related risks
Retirement income plans differ from traditional financial plans. Instead of focusing on time horizons for various goals, they assess and prioritize the importance of goals – which ones you consider absolute needs, which ones you would classify as wants, and which are your more aspirational wishes. The goal is to try to align all your needs and as many of your wants as possible with predictable, guaranteed sources of income (e.g., Social Security, pensions and annuities). This allows the income generated from your investments to be used for non-essential wants and wishes, significantly reducing the risk of outliving your retirement savings.
Considering the wide range of investments available to deliver different types of income at different times, there’s no “one-size-fits-all” income portfolio for every investor. The right investment mix will depend on your unique goals, income needs and the extent of your retirement savings. While most investors will be focused on generating additional income to support their lifestyle, others may be fortunate enough to worry less about income and more about preserving assets for their heirs. Those are very different objectives which will require very different portfolios.
Annuities can provide a valuable source of guaranteed income in retirement, in addition to bonds, dividend-producing stocks and real estate investment trusts (REITs). Annuities work much the same way as Social Security and pensions: you contribute money, either in a lump sum or periodically over time, in exchange for a guarantee to receive a predictable income stream. This income stream is either for a set period of time or for life – depending on the elections you make when you purchase the annuity. (All annuity guarantees are based on the claims paying ability of the issuing company.)
Different risks in retirement
When you think about retirement, what are the things you want to accomplish most, and what steps can you take to best position yourself for success? An important one is to understand all the potential risks that retirees face (especially in the first few critical years). In addition to protecting your assets from the impact of a significant market downturn or a major health event, there are other risks you will want to prepare for, including:
- Longevity risk – Did you know there’s an 80% chance that at least one member of a healthy 65-year-old married couple will live to at least age 85? Many people greatly underestimate how long their retirement savings will actually need to last. You need a plan for how you’ll pay for those extra years, because the longer you live, the fewer retirement assets you can afford to draw-down each year.
- Inflation risk – During your working years, you could count on cost-of-living adjustments to keep pace with inflation. With your retirement savings, however, those protections are gone. You not only need to factor inflation into your expense calculations, you must be careful to not get overly conservative with your investments if you want to keep pace.
- Sequence of returns risk – When you were saving for retirement, year-to-year market fluctuations didn’t really matter; just your average annual return over time. But once you retire and start converting assets into income, the returns you make during the first few years of retirement become critical. If the market performs poorly right after you retire, it’s going to be far more difficult to achieve all your goals.
Health care: the hidden retirement cost
“There are two principal risks we focus on addressing with every client we work with: health care costs and the volatility of the stock market. If we solve for those two, the chances that your plan will ever get derailed become very remote,” according to Debra Reardon and John Downey, SunTrust Investment Services (STIS) Private Financial Advisors.
Nobody wants to face the prospect of becoming a financial burden on their children. Yet few people take precautions to protect themselves from the potentially devastating costs associated with a major health event. You may be surprised to learn that most of the costs associated with long-term care (e.g., nursing homes, home-health care, assisted-living facilities) are not covered by Medicare.
From traditional long-term care insurance to annuities and insurance policies with long-term care and chronic illness riders, there are a range of solutions that can protect your assets from being drained by a significant healthcare event.
Don’t put off planning
You’ve spent a lifetime diligently putting money away so that you’ll be able to enjoy the retirement of your dreams. As that time nears, it’s important to be just as diligent in developing a plan for how you will convert those savings into a lifetime income stream.
Where do you start? Talk to your financial advisor who can help you better understand the risks associated with retirement income and put strategies in place to help protect your savings. The advisor can introduce to you our Retirement Income Planning worksheet to help you get organized and then work with you to quantify your various goals and to craft a plan that aligns all your income sources and spending needs to help you worry less and enjoy more.
Keep in mind, however, that retirement planning is not a one-and-done undertaking. It will require ongoing attention and adjustments throughout your retirement as income, expenses and goals evolve.