Your Retirement Nest Egg
Is it built to last?
By Gary Rawlins
For some, like Roger Rea, a retired teacher living in Omaha, Neb., the transition into retirement is financially seamless. “My retirement income comes from our retirement system as well as Social Security,” Rea says. “In addition, I have quite a bit of money invested in my 403(b) account, which I have not had to tap, yet. I will start withdrawing from that account when I turn 70 and a half.”
Rea, 69, taught chemistry at Omaha Northwest High, until 2000. He is confident that his comfortable retirement will continue due to his long involvement in financial matters. He also puts his knowledge to work as chairman of the board of NEA’s credit union—a $90 million operation, and has served as trustee of the Association’s teacher retirement plan for more than 20 years.
Rea’s retirement has been worry-free. But adjusting to a new financial reality is challenging for many seniors. As the old adage says, money can’t bring happiness. But lack of it can bring misery when peak earning years have gone.
“When you think about a teacher who retires at 62 after teaching for 40 years, they are likely to have a better life expectancy than the average person because they would have had access to quality medical care and that is likely to continue,” says Ray Ferrara, president/CEO of ProVise Management Group, and a financial planner in Clear Water, Fla. “If they kept themselves in good shape that adds to life expectancy.”
For a financially successful retirement, learn to navigate the worlds of Social Security, Medicare, pensions, 403(b) tax-sheltered annuities, and more.
How Much Will You Need?
Experts say retirees need at least 80 percent of their pre-retirement earnings to live comfortably. Instead of focusing on the amount of money they made while working, Ferrara advises retirees to consider the cash flow they needed while working. It’s that number, he says, that helps manage financial resources.
“Take someone who is making $50,000 of salary. They don’t need to replace the full $50,000 because they’re paying 7.5 percent to Social Security. So they’re really living on $46,250,” Ferrara says. “They were also contributing $400 a month to their 403(b) plan while working. That’s another $4,800. So they were really living on cash flow of $41,450.” Ferrara advises clients to replace at least 100 percent of their pre-retirement cash flow needs.
He also says that restraining the impulse to spend may be difficult during early retirement because new retirees often underestimate how much of their money will go toward having fun during the first couple years of their new lives. “All of a sudden they have this newfound freedom so they’re going to take advantage of it.”
Mark Bass, a financial planner with Pennington, Bass & Associates in Lubbock, Texas, agrees. “It seems to us that people spend as much in the first few years of retirement as they did before.... We encourage clients to back into the withdrawal issue by asking themselves how much money it takes to show up for life. I don’t want their bank account to go to zero before their blood pressure.”
Here are some ways to plug holes in your nest egg and keep your pension, tax-deferred accounts, and personal savings protected:
Evaluate Spending: Record daily spending so you you’ll know how much spending is too much for you to handle. Take the advice of Alice Wood, author of Wealth Watchers: A Simple Program to Help You Spend Less and Save More. After joining Weight Watchers, she realized that the plan’s day-to-day calorie-counting approach was an excellent model for managing personal finances. Wood developed Wealth Watchers, a system to determine the amount that can be spent after fixed costs have been addressed. For more information, visit ewealthwatchers.com.
Evaluate Insurance: With minor dependents gone, this may be the time to look at coverage amounts. “Insurance needs often drop as we age,” says Kerry Hannon, a personal finance writer in Washington, D.C. “A lot of retirees who carry term life insurance because of kids don’t really need it anymore. That’s definitely an easy trim.” Save on car insurance and maintenance by scaling down to one car. Some households build on that savings by increasing the deductible, which helps to lower premiums.
Get Out of Debt: “Debts are a real dream killer,” says Hannon, who specializes in career transitions and retirement. “I’m a real fan of financial fitness. When you’re debt-free you have so much more opportunity to be nimble.” It’s wise to pay off credit cards and destroy credit cards checks, which can have interest rates annualized at more than 200 percent, says consumer advocate Curtis Arnold, author of How You Can Profit from Credit Cards. Curtis also reveals a little-known consequence of making late credit card payments: One missed payment can cause rates on all of your cards to rise. For more information, visit cardratings.com.
Reconsider Housing Needs: “If you’re not bringing in significant income you’d be wise to free yourself of a mortgage,” says financial writer Hannon. “I’m a big fan of downsizing your living situation as quickly as you can. You don’t need as much space or need to be as close to your office as you once were.” Selling also frees you from other house-related expenses, property taxes, utility bills, HOA fees, and other costs of home ownership.
Deciding to get rid of a home can be tough, says John Waggoner, a personal finance columnist at USA Today. “Two factors are involved in selling: One is financial; the other is emotional,” Waggoner says. “Some people would rather die than sell the house they’ve been in for 30 years. “But if you feel like you can make a lot of money now, one of the joys of real estate is the capital gains home-sale tax break,” says Waggoner. When you sell your primary residence, he explains, you can make up to $250,000 in profit if you’re a single owner—twice that if you’re married—and not owe any capital gains taxes.
While shoring up your retirement nest egg is important, it’s also critical to manage what you’ve got. That means proactively managing your investment portfolio, understanding how it produces income, and the risks that are involved. Major mistakes can quickly deplete money meant to cover the golden years.
Inflation is the Enemy
If your retirement portfolio tilts heavily toward conservative investments, you’ll sleep soundly at night not having to worry about market gyrations. But the thought of outliving your money may give you restless nights in the future. A retiree married to fixed-income investments can expect steady income, but can also expect that the real purchasing power of that income will be eroded by inflation. You can’t ignore what inflation will do to a portfolio made up overwhelmingly of cash and fixed-income investments.
“You always have to worry about inflation,” says Waggoner. “Even at the historical average of 3 percent since 1926, you’re going to lose one-third of buying power over 20 years, and there’s always the threat that inflation can spiral up as it did in the early 80s, when it hit 13 percent.”
You can’t grow your portfolio on fixed income investments. It’s that simple. Although money market funds and certificates of deposit are ironclad safe, they are not impervious to the ravages of inflation. Inflation is your constant enemy. Always keep its effect in sight.
Health Care and Your Nest Egg
Health care costs are generally higher for retirees, and out-of-pocket medical expenses can eat away at your assets or income. To provide for future health coverage, many finance professionals advise retirees purchase a secondary insurance or Medigap policy to cover some additional expenses. Nursing home insurance is another way to protect against the cost of a chronic or debilitating lengthy illness.
Roger Rea is vigilant when it comes to the possibility of a medical emergency. “I have Medicare, Medicare Part D, and a Medicare supplement,” he says. With that coverage, I really only need to pay the premiums for my coverage (which are predictable), and at this point all of my care costs have been covered with little additional money coming out of my pocket other than the premium costs.”
To combat inflation and health care costs, experts recommend retiree portfolios include an age-appropriate stock component. Growth investments—namely, stocks and stock mutual funds—are the only way to regularly outpace inflation. The downside is that increased return potential comes with risk of more volatility so you need to have a handle on how much risk you are willing to accept.
Risk. What’s Your Tolerance?
After age 60, the world of risk can create apprehension. Truthfully, no matter where your investments lie, each choice carries a risk. This includes emotional risk—a big factor when it comes to making unwise investments. Indeed, research shows that making financial decisions activates the same region of the brain as taking drugs or running from a rabid dog. For many, money is an emotional subject—one that can tie us into knots when we wrestle with financial questions. This is borne out by baby boomers who said in an AARP survey that personal finance represents the least satisfying area of their lives.
To keep your retirement portfolio and your money fairly safe and stable, minimizing risk is crucial. Hannon says, “You definitely need to be liquid. Some financial professionals advise clients to have two years of living expenses socked away where they can get to it—meaning high-yield checking account, money market account, savings account, and laddered CDs. Interest rates are pitiful but you know the money is there. You don’t want to take big investment gambles in retirement. You need a sizable stash. It can come from equity you have in your home. You don’t want to put emergencies on a credit card or take a cash advance on a card.”
That said, risk is a necessary component in a remarkable retirement. Savvy retirees stay invested in stocks, and wean them over into more conservative accounts as they become older. Put simply, an investment portfolio should be capable of adjusting to a retirement financial picture that constantly changes.
Some retirees who have begun an encore career delay filing for Social Security as long as they can. The monthly benefit goes up 8 percent for each year of delay, and other retirement accounts continue to grow until they’re finally tapped.
You have decisions to make. If you trust your own financial judgment, you can try to reach the sunny side of retirement on your own. But the way is fraught with peril.
“I did invest without professional help while I was working, but I now have more options for investment than I did while I was working, and I find comfort in using a financial adviser to help me direct my investments as well as select investments that are appropriate for my objectives,” says Rea. “Given that I do not want to ‘watch the market’ every day. It is better for me to use a professional who does, and leave much of the investment responsibility to him. I am comfortable doing that.”
The more complicated your situation, the more important it is to seek professional advice from a qualified financial adviser. Find one on Web sites of the CFP Board of Standards, Financial Planning Association, or the National Association of Personal Financial Advisors. The advice will mean recurring fees, but in the long run having it can save you money, and help to keep your nest egg strong.
—Gary Rawlins is a former International Business Editor for USA Today.