Hosted by Kevin J. Zywna, CFP®
Kevin Zywna, Wealthway Financial Advisors: Today’s show, probably one of the more difficult and important aspects of financial planning, how to make your money last your lifetime. You know, we spend a good portion of our early life, first two thirds approximately, earning, working, saving, sacrificing, investing, and accumulating a certain amount of net worth, nest egg, life savings, whatever you want to call it. About the first two thirds of our lives are spent accumulating assets to then prepare for in America what is kind of a traditional retirement, the final third of our life in retirement. And while the definition of retirement has evolved through time, and nowadays, it’s not as final and formal as it was, say a couple of decades ago.
Nowadays we see a hybrid retirement solution, which I think is good. It’s healthy from a financial standpoint. It’s also healthy from a mental standpoint, and it’s healthy from a physical standpoint as well to stay engaged in some active worthwhile pursuit. So how do you make your money last your lifetime without fear of running out? The accumulation phase is relatively easy. Spend less than you earn, save the difference, invest wisely.
And despite whatever the crazy stock market is doing in any given month or year, keep going. Keep saving, keep investing. Keep contributing to your company retirement plan. In fact, market pullbacks (bear markets) are one of the best times to keep saving, keep investing. Doesn’t feel that way at the time, but it certainly is in hindsight. But then, did you reach that critical time period, that age of retirement and most of us, at some stage of our life wants to at least scale back, if not choose to not work at all for money reasons, if we don’t have to, and then maybe engaged in other pursuits. Obviously, leisure is a big part of that, travel a big part of that, maybe hobbies, volunteer work, a passion project take up a new skill. I guess everyone’s supposed to be doing pickleball now. I don’t know if you go pro at pickleball. I’ve seen it on ESPN, you can go pro in pickleball. So right, so maybe you start your pickleball career. It’s just when you thought cornhole was going to be your big take. Now it’s pickleball.
Kevin Zywna, Wealthway Financial Advisors: So once we get to retirement age, and our regular work income is either reduced or eliminated then we have Social Security. Some of us may still be lucky enough to have a pension nowadays. Social Security, maybe a pension, but then its savings, your lifetime of hard work, dedication, sacrifice, and investing over time. So how do you make sure that whatever amount you’ve accumulated over your lifetime, will last as long as you do? And at what rate? Can you withdraw funds? Or how much income can you have off of your investment portfolio without fear of running out of money? So we’re going to delve into some of those topics and strategies tonight. I’m going to give you some ideas and things to think about. Some pointers, some tips to help you allow your money to last your lifetime.
Estimating Life Expectancy
Kevin Zywna, Wealthway Financial Advisors: So I think we want to start the conversation with, well, how long are we going to live anyway? Right? I mean, that’s a big factor in the equation. Well, obviously, none of us knows precisely our end date. But we do know approximations. And we do know averages. So for example, in the United States, the life expectancy of a male at birth is 76 years. Female 81 years. So okay, that’s a good starting point. Think of that as our life expectancy how long we need to make our money last. But life expectancy evolves, it changes as you we age, life expectancy also increases. So if you make it to age 50, then the probability is that your life expectancy for a male goes from 76 to 80, for female from 81, to 83. So if you made it to 50, which is about the age when people start getting serious about this thing called retirement, if you make it to 50, then your life expectancy for men is 80, women 83. If you make it to 65, sort of that still traditional retirement age, though that we think about in the US, if you make to age 65, life expectancy for men is then increased to 83. And for females, it’s 85. So the longer you live, the longer your life expectancy. And I would also add a caveat to that, to those people who are more affluent, who tend to make more money, tend to have a higher probability of living past the average life expectancies. Typically because they engage in good healthy habits, they listen to doctor’s orders, they have a better diet, they have better health. They take better care of their body. They exercise more, it all kind of fits together. So average life expectancy at age 50 is 80 for men, females at age 83. So those are some target areas that we want to start from a planning perspective, to try to make sure that our money lasts at least that long.
Understanding Inflation Rates Impacting Your Purchasing Power
Tonight we’re talking about how to make your money last your lifetime. In the accumulation phase, its relatively easy. Just spend less than you earn and then save the difference. I know it’s harder than that. Comparatively, from a financial planning perspective, mechanically, that is easier. And then, at some point in time, we want to scale back our income we get from work-related activities and enjoy the fruits of our labor – begin spending some of our hard earned money. What do we do from an income and spending standpoint to ensure that our nest egg that we’ve built up lasts our lifetime? And keeps us in the lifestyle that we have been accustomed to?
First thing you have to keep in mind, make sure you understand the effects of inflation and that you properly account for inflation. Now average inflation rates in the US tend to be around 3% per year. I no longer have to tell people that that is just an average and actual rates can fluctuate because we’ve learned in the last year or so that inflation can shoot up dramatically. Not too many months ago we were looking at an 8% annual inflation rate. Now, we did have a good run there for at least a decade where the average annual inflation rate in the US was typically below 3% for a long time. So people become complacent when that becomes the norm for a little while and they forget how corrosive the effects of inflation can be.
But even if it’s just the average inflation rate, over time, 3% is meaningful. 3% means that over the course of a standard retirement, the cost of goods and services today will be double near the end of retirement. So that $5 big mac nowadays, that’s going to be $10 in about 25 years. That’s a 3% standard inflation rate – the cost of goods and services doubles in about 24-25 years. So, you have to make your nest egg keep pace with the effect of inflation. Otherwise, every year, you fall a little bit behind. And there is the illusion of bank assets being safe assets. And it depends on how you define safe. They are less volatile than say stocks or equities. They don’t move up and down, bank interest rates don’t move up and down as dramatically on CD rates. They almost always lag the prevailing inflation rates of the time. While current bank rates are starting to creep up and we are starting to see descent rates of return on short term CDs, 6 months/12 months – we are seeing those around 5%, which is not bad in this environment. Still, it is a little bit less than the most recent prevailing annual inflation rate of 8%. And that’s the nature of how the economic system works. Banks and bond rates (government bond rates) are typically below annual inflation rates. There can be pockets of time where they do exceed prevailing inflation rates. And also a caveat, inflation rates are very personal. One person’s inflation is different than another’s. It depends on the goods and services that you personally consume. But if we are looking at this generally, then your bank assets are generally going to underperform inflation rates.
So, while they are not as volatile and you have the illusion of safety in parking your money in bank accounts and CDs, know that over time, your purchasing power of that money is falling behind the effects of inflation over time. There’s an old fashion notion of, work, work, work, make whatever savings you can, after you retire put all your money in a CD. You lived off of whatever income that CD could produce. There have been times when CDs were paying 8, 9, 10%. Those are juicy rates of return out of pretty well guaranteed out of bank assets. But you know what inflation was at that point in time? 9, 10, 11, & 12 %. That’s why the CD rates were so high. So you had the illusion of generating income while at the same time, your purchasing power is being eroded. So, just know that that’s not a long term place to park your nest egg if you want to maintain its purchasing power. You will have to continue to save and invest in long-term US and international common stocks. Those instruments have provided most of the growth in most US households net worth and wealth over time than any other accessible mainstream instrument. Beware of inflation and know that the effects of inflation are corrosive. Your money’s purchasing power will erode over time if it does not keep pace with inflation.
Maximize Pension Benefit Claims
Kevin Zywna, Wealthway Financial Advisors: After you recognize the effects of inflation, the next thing you want to do is maximize your income streams. Of course you do, who doesn’t, right? Maximize your retirement income streams. And for most people, that’s a variety of different opportunities, depending on what their work was like leading up to retirement. So for those who have pensions still, government employees, state, local, federal, a couple of large private companies, but boy, they’re getting harder and harder. Utilities, I guess, utilities still offer some form of pension. They are an extremely valuable financial planning tool, but they come with really big decisions at the point of retirement. And there are different ways to claim your pension benefit.
You can claim it based on your own life expectancy, the person who was the worker at the business, that’s giving the pension just on that person’s life alone. Or it could be that person and a spouse, and the pension could be paid out over the lifetime of the worker plus the spouse. And if you do that, that’s known as a survivor benefit, then chances are your your monthly pension benefit will be reduced somewhat if it must be paid out over two life expectancies instead of one. And when you make this pension claiming decision, it is typically irrevocable, with some exceptions at some companies or government agencies, but for most people, once you click “make your pension claiming decision,” that’s it for the rest of your life.
And so if you choose to receive a pension on your life, only the workers life only, and you draw the first paycheck from your company, you got the pension and your life is good and then you get in your car to drive to the airport to take a trip around the world and you get in a car accident you die. That pension ends when you end. If it was just one month, then that’s it, and your survivor gets nothing, unless you have that survivor benefit option.
But if you choose the Survivor Benefit option, you’re going to take somewhat less than what you could have had on your life alone. And if you outlive your spouse, then you receive a reduced benefit over your lifetime that you didn’t have to give up. So those are big complicated decisions that have to be made. They should be made thoughtfully. They should be made with a fair amount of analysis before you make your selection.
Maximize Social Security Benefit Claims
Kevin Zywna, Wealthway Financial Advisors: Tonight we’re talking about how to make your money last your lifetime. You spend a lifetime of hard work, earning, saving, investing, now it’s time to enjoy it. Turn that nest egg into an income stream. So what are some tips and techniques in order to do that? It’s one of the more complicated areas of personal finance. Because when the consequences are so dire, if you mess up, right? You start spending too much money too soon, you’re going to run out of money before you run out of life. And then that’s going to be a radical lifestyle change at a period of life. When you know as we’re older, it’s harder to absorb harder to adapt. So you want to make sure that money lasts a lifetime. Talked about inflation, first half of the show, make sure you account for that. And we’re talking about maximizing income streams, so plenty pension claiming strategies. Big decision, make sure you go in fully armed with knowledge to choose the right type of pension claiming option that is right for you and your family.
Same thing with Social Security claiming strategies. People don’t realize how many different sorts of permutations of claiming Social Security are out there. Most people know that you can claim as early, at least right now, as early as age 62 or as late as age 70. Anywhere in between there, your benefit tends to increase by about 8% per year. So waiting to claim means more money when you do claim. Now overwhelmingly, like two thirds of Americans selects Social Security at age 62. So that doesn’t seem to be a lot of planning going on for most people. Social Security claims strategies like “I can get money now, I’m going to take it.” But people were more thoughtful and want to try to maximize Social Security benefits over their lifetime. It usually pays to wait, but also has a lot to do with your employment and how long you intend to work in those magic ages between 62 and 70. But Social Security claiming strategies are more complicated than people give it credit for. Good opportunities for trying to maximize lifetime income from Social Security if you do it thoughtfully. Something to be aware of there.
Consider Part-Time Work in Retirement
Kevin Zywna, Wealthway Financial Advisors: Then nothing new about maximizing income streams in retirement. Consider part-time work, seems pretty obvious. Also, maybe a little counterintuitive. But wait, Kevin, I’m retired, I want to retire, I don’t want to work. Okay, that’s fine. But we have learned a long time ago that you can’t just have something to retire from, you have to have something to retire to. If you don’t, the brain and the body start to atrophy rather quickly. So part time work can help fill that void of the doldrums of the empty day. Everyday is Saturday when you’re retired. So having a purpose, having something to get up in the morning for. Something that’s not overly stressful and not overly taxing. So that’s where part-time work can fit in.
And obviously, any money you make doing part-time work, but that’s just going to be a little bit more icing on the cake. And we are seeing more people choosing to do some form of part-time work in retirement. A lot of times, if your employer will allow it, and we’re seeing more and more employers allowing it, just going from full-time to part-time at your present employer can do a world of good for both constituencies. Employer retains a good, experienced, knowledgeable employee and the employee gets an environment that they’re comfortable with, familiar with, typically can add great value too but doesn’t have the constant day to day stresses. Probably takes a step back in responsibility as well. And so all those nagging inconveniences of the job tend to somewhat fade away, melt away a little bit when you go from a full-time status to part-time. And you know that you don’t have to work for financial reasons, and you pull the plug whenever you want. It’s amazing how that changes people’s attitude a lot of times on whether they want to keep working or not when you have the power, when you are in control. If you work, a lot of times, you know, you can put up with a little bit more than you expect, because you know you could walk away. Anytime it changes your perspective makes work more enjoyable. So consider part-time work.
Importance Of Managing The Distribution Phase
Kevin Zywna, Wealthway Financial Advisors: And then we get to the biggie that falls in the realm of our domain Personal Finance, Financial Advising, investment management, and nest egg withdrawals. Taking money now from your investment portfolio over the course of your lifetime. That is one of the most important, somewhat difficult without the proper tools, avenues of personal finance – making sure that money, our clients’ money, lasts their lifetime, and is able to maintain their standard of living throughout their lifetime. Now, we often hear clients joke that “I want to spend my last dollar on the last day, I want my last check to bounce.” You know, the idea that we’re going to spend down your nest egg down to zero over the course of your lifetime.
Kevin Zywna, Wealthway Financial Advisors: That’s a thoughtful idea, right? It’s your money. You worked a lifetime to get it. And now it’s the time to enjoy it and spend it and as far as I know, we haven’t figured out a way to take it with us wherever we go from here. So might as well spend it down. However, the reality of that situation is we don’t know our final expiration date. And what typically no one wants to happen is that they run out of money before they run out of life. And then of course, due to advances in health care and health information, we are living longer. A little bit each year life expectancies continue to increase. And the last big expense that we all potentially face is long term care.
Long term care for anyone who has it or helps their parent through it or might be in themselves knows, it ain’t cheap. In fact, it’s very expensive. Now there are better solutions coming online all the time. In-home long term care is becoming a preference for most people as well as a solution in the marketplace. It’s very imperfect right now, very hit or miss in the service offerings that exist in home healthcare, but it’s usually people’s most first line of defense. When it comes to aging health issues, some form of in home health care is more economical up to a point. Then if in home health care starts to get to almost around the clock in home health care, no, then that gets more expensive than, say, a traditional nursing home.
Even traditional nursing homes are becoming well, they’re modifying I guess, I should say. What a traditional modern nursing home is, a lot of times, retirement communities are very healthy, vibrant, pleasant places for a lot of people to be there. They’re not the sterile, institutionalized, almost hospital like feeling that I remember my grandparent’s kind of being in at one point. These are communities with activities and exercise and trips. And so sometimes, for people who are isolated, don’t have a spouse, don’t have much social life, they thrive. They do better in those types of environments. And so the whole idea is we’re getting better at aging, we’re getting better at helping people age in their later years. And while there are many benefits to that, it also comes with a cost. So, while it might be easy to say, “I’m going to spend my last dollar on my last day,” well, you know, you better save a few dollars in case you need some long term care. And it’s one of the hardest things that we have to plan for. Because the outcomes are so varied. Literally, of course, it can be zero, right? We could never spend a single dollar on any form of long term care. And we die peacefully in our sleep. And that’s how typically, most people hope that it happens. But then there can be Alzheimer’s and other brain diseases that impact the body functions. Normally, the body stays healthy while the brain suffers somewhat. And so to keep people alive in those states costs a lot of money to have dignity and to have a good quality of life for as long as you can have a good quality life. That’s where long term care comes into play and having the money to pay for long term care comes into play as well. So how do we take money out of our nest egg in order to pay for these things? And how do we withdraw it in a way to make sure that lasts our lifetime?
Investment Vehicles You Should Consider
Kevin Zywna, Wealthway Financial Advisors: Tonight, we’re talking about how to make your money last your lifetime. Early phases of financial planning, relatively simple from a planning standpoint, to accumulate the money, it’s not simple to do. I know, it’s simple, relatively simple to plan for. What is more difficult to do and plan for is the distribution phase of money – taking money from your nest egg in the appropriate amounts, while keeping it invested for growth. So the purchasing power outpaces inflation and ensures that you don’t run out of it too soon. So much more complicated in the distribution phase than in the accumulation phase. So I was talking about some strategies for taking money from your nest egg. And so how do we effectively do that and ensure that our money lasts our lifetime?
Well, number one, you don’t need income producing investments to have income from your investments. Like running to the bank for CDs, at one point used to be the norm in retirement. The next phase of that was “okay, well, I’m in retirement, I need income now, so I need to invest in vehicles that produce an income: dividend paying stocks, bonds, those types of investment vehicles.” No, you can if you want to, you certainly can, but you don’t have to. And you don’t need to. And you’re probably giving up some long run return by choosing bonds, in bonds, but by choosing bonds, and dividend paying stocks to the exclusion of other types of equities. So know that you don’t need income producing investments to have income. Nowadays, transaction fees at most major brokerage houses are zero or close to it, so that they’re negligible. The number one strategy that we use for our clients to ensure that their money outpaces the corrosive effects of inflation is to invest that money for growth in a growth oriented portfolio. That means predominantly, if not exclusively, in common stocks in equities.
Now, we don’t typically use individual company stocks for a variety of reasons. I won’t get into that tonight. But we tend to use mutual funds and ETFs (exchange traded funds). Selling off shares of a mutual fund or ETF costs almost nothing. And there’s your income. Convert the investment into cash. Transfer the cash from your brokerage account into your bank and spend it and enjoy it. You don’t need income producing investments to have income. And in most cases, income producing investments will drag down your long run rate of return. How much can you spend from your portfolio without fear of running out of money?
Why the 4% Rule Is Out-Dated
Well, some people have heard of the 4% rule. It has kind of taken too much root in the public lexicon. The 4% is not a rule, it’s a suggestion. It’s a guideline. And what it is between 4 to 5% from your initial portfolio starting value each year and increase that amount in dollar terms, whatever the dollar term, it converges to increase that amount for inflation, so it maintains its purchasing power. The probability is such that that spending level will last at least 30 years, if not the entirety of your lifetime and potentially have even more at the end of the 30 years. So 4 to 5% of starting value, so for every million dollars you have in your portfolio, that means 40 to $50,000 of spendable income each year with a high degree of confidence that your money is going to last your lifetime if not even continued to grow over your lifetime. At that level, you have the freedom and flexibility to occasionally reach into that portfolio and take out larger chunks from time to time when market conditions warrant. So four and 5% is not a rule, it’s a suggestion. It’s a guideline. It gets you in the ballpark. You can use it for a starting planning number.
But we do things much more sophisticated. In our practice, we have sophisticated planning software that models a variety of different scenarios over time. But for conversational purposes, four to 5% portfolio withdrawal rate. Now in order for that withdrawal rate to hold up, it has to come out of a properly diversified, well managed growth oriented portfolio. You can’t run to the bank and buy CDs and depend on that. CDs will mature at different interest rates, and most likely will decline as inflation declines. You can’t just buy bonds at that level. I mean, that might work for today. But interest rates will fluctuate over time as well. It needs to be properly diversified, well managed growth oriented portfolio made up primarily of common stocks. Which means, we believe it’s the death of the 60/40 retirement portfolio. Traditionally, after the CDs after the bonds, then you went to a 60/40 stock portfolio. So that’s 60% stocks, 40% bonds, and that was sort of the traditional portfolio asset allocation.
We don’t believe that I mean, most of the investment world still uses that. We’ve abandoned that decades ago. It doesn’t hold up over time. It drags down your long run rate of return over time. It lessens the amount of money you can spend. Therefore it reduces your standard of living over time. And then finally, through sophisticated portfolio modeling and sophisticated planning software, we do what’s called a Monte Carlo analysis, Monte Carlo has nothing to do with the actual city. It has to do with probability analysis. The probability that at a given spending rate, your portfolio will last over your lifetime. And based on that number, which evolves over time, we give our clients guidance and advice on the proper spending level over the lifetime without fear of running out of money.