Saving for Retirement When On The Cusp
In the first two parts of this series, Saving for Retirement at Different Life Stages and Saving for Retirement During Peak Earning Years, we discussed strategies to save for retirement when just starting out, or in peak earning years. For those on the cusp of retirement, the approach will differ once again. As you near retirement, it will become increasingly important to have a plan, income strategies, and an asset allocation that fits your time horizon and risk tolerance.
Working with a financial advisor before moving forward with plans to retire is critical. You’ll want a professional to assess your current portfolio, desired lifestyle, and how long you expect to be in retirement to ensure adequate savings to meet these goals. If you have not saved enough, there is still time to reevaluate your desired date or lifestyle. Depending on your situation, sometimes working even a couple extra years (and delaying social security at the same time) can make a big impact on your finances.
Why?
Suppose you’re 67 years old and instead of retiring today, you worked for another three years until age 70. Based on the 2015 contribution limits, you could be eligible to save another $24,000 per year in a retirement plan such as a 401(k) or 403(b). If you planned to start Social Security benefits at age 67, you would likely be eligible for 108% of your benefits – but by waiting until age 70, you can expect to receive 132% of your benefits annually. In addition, by working three more years, the living expenses you would have spent during this time can continue to be invested in the market.
Another consideration during this stage is asset allocation. In today’s economy, it can be difficult to find investments that earn a sufficient yield, especially when accounting for inflation and risk. Work with your advisor to ensure your asset allocation is structured in a way that is appropriate with your time horizon and need to begin taking distributions. A diversified portfolio in this stage may rely more on cash-based and fixed income investments, and less on growth-based or international equity investments, although certain income funds may be appropriate. However, it is important not to invest too conservatively. With longer life expectancies comes the risk of outliving your assets. Over the long term, continued exposure to equity markets may offer the best potential for outpacing inflation.
As you budget how much you will need, pay special attention to ongoing or emergency healthcare needs and costs, as well as plans you may have for travel or other activities outside your current spending. Ensure your budget estimates are feasible; many individuals are forced to downsize and spend less after they stop working. In determining how much you will need to withdraw from your investments, consider how much of your pre-retirement income you need to live on, 50%, 75%, or 90%, for example.
It is also advisable to work with a financial advisor to discuss tax-efficient withdrawal strategies when you begin taking distributions. Depending on your anticipated tax bracket in retirement, it may be advantageous to start with tax-deferred accounts. Your situation and the tax law will change yearly, so it is important to revisit this strategy often.
Planning for retirement is necessary throughout your working years, and the strategy on how to best invest your funds will vary throughout your life. Keeping in mind the good habits you learned when you were just starting out – the power of compounding and paying yourself first – can really pay off later in life.
The material contained in this article is for general information only and should not be construed as the rendering of personalized investment, legal, accounting, or tax advice.
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