Vance L. Falbaum 0000-00-00 00:00:00
Converting Wealth to Income: The Importance of Creating a Comprehensive Retirement Plan Saving for retirement is a priority for many, but no matter how much you’re saving, chances are you haven’t thought about the broad range of factors that could affect your ability to make those savings last through your retirement years. As the first of the baby boomers officially become eligible for retirement, there is potential for strain on the health care and Social Security systems, as well as the investment landscape. Therefore, it is increasingly important for individuals to not only have a plan in place to continue accumulating wealth, but also one for generating a steady income stream that they can live from during retirement. While retirement may seem far off for many, it’s important to keep in mind that more and more people are retiring early. And with increasing life expectancies, individuals will need to make their money last even longer. Underestimating your longevity is just one way to exhaust savings during retirement. However, to develop a realistic retirement income plan, you will need to think about other factors as well. First, what will your sources of income be during retirement? In other words, where will your “paycheck” come from? Chances are there will be more than one source of income, such as pensions, Social Security, investments, and earned income if you decide to continue working. Once you’ve determined where your money will be coming from, you also need to look at how you want to live during retirement. Lifestyle choices will greatly affect your retirement income needs. Maybe you want to travel, or pursue a hobby. Maybe it’s been your dream to help finance your grandchild’s education. You might even be surprised to find out that your income needs can actually increase during retirement rather than decrease. Your retirement income needs will probably require you to withdraw a certain percentage of your savings and investments each year. If you withdraw a high percentage, you might deplete your retirement assets sooner than expected. Additionally, you will want to work with your tax advisor to make sure you’re applying the most tax-efficient sequence of withdrawals from your 401(k), IRA and other investment accounts. How can you establish a withdrawal rate? Suppose you’ve determined that your annual expenses during retirement will be $80,000. You’ve also estimated that you can count on $20,000 from Social Security and $20,000 from an annuity in which you’ve invested. To meet your yearly expenses, then, you still need $40,000 of income from your investment portfolio, which includes your 401(k) or other employer-sponsored retirement plan, your IRA, and any other savings and investments you’ve accumulated. If you had a $500,000 portfolio, and you withdrew $40,000, your withdrawal rate for that year is eight percent ($40,000 divided by $500,000). As you can see, it’s easy to calculate a withdrawal rate for your retirement years. But to determine if this withdrawal rate is sustainable — that is, if it can be maintained throughout your lifetime or if it will need to be adjusted — you’ll need to consider a variety of factors, such as the following: • Lifestyle — Your projected income needs — and, as a result, your withdrawal rate — may be based on a certain lifestyle. For instance, early in your retirement, you may be planning to travel the world. Later on, though, if you decide to slow down, you may find you need less income to cover your spending needs (though you may need to spend more on health care). • Time horizon — Generally speaking, the longer your retirement, the smaller the percentage of your retirement savings you can withdraw each year. But this time horizon isn’t fixed; you could decide, for example, to work longer and retire later than you had originally planned. • Inflation — In recent years, inflation has been low, but no one can predict its future course. But even at a relatively mild three percent annual inflation rate, that $40,000 you were planning to withdraw each year will, after 20 years, only have the equivalent purchasing power of about $22,000 in today’s dollars. • Market activity — Movements in the financial markets could positively or negatively affect the size of your portfolio and, therefore, the amounts available to you for withdrawal. As the above factors indicate, you may need to adjust your withdrawal rate repeatedly over the years. But as long as you’re aware of these changing withdrawal rates, you should be able to avoid unpleasant “surprises” during your retirement years while you enjoy the lifestyle you’ve envisioned. Finally, know that making decisions of this nature do not have to fall solely on your shoulders. Consider speaking with a financial advisor who can provide knowledge and resources to help you build a plan that will help you convert your wealth into the retirement income you’ll need to live comfortably in your golden years.
Published by Target Market Media . View All Articles.
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