What age is a “senior citizen” these days? Medicare says 65, and while social security allows access at 62, others offer senior discounts for those over 50! It varies, but one thing is certain, individuals in this age group need to have a plan. For most, if they have not already, it is time to face the emotional and financial reality of no longer working and getting a traditional paycheck.
When it comes to financial matters, up to this point, many have had their head down, spending and saving and accumulating assets and growing wealth. Planning for the decumulation phase of life requires a bit more planning and finesse.
Here are four financial planning items you should be thinking about if you are a senior:
1. Determine what you need to withdraw
This sounds easy enough, yet many approach this with too much simplicity. The first step is to create a spending survey and bucket your cash flows. Review those cash flows that go to retirement savings, will any debt payments go away? Are there costs associated with running a business that will go away or costs you have paid via the business that will shift to your personal payments? Next, understand the withdrawals you must take. How much will you get from social security? Will you receive a pension? What will your required minimum distribution (RMD) be at age 72? How much other income do you have? (This includes dividends, interest, capital gains, passive rental income, etc.) When you aggregate these figures you could, in fact, receive more income in retirement than you may need. As a result, you will be paying unnecessary tax bills on the excess income.
2. Tax-optimized withdrawal strategy
A sound financial plan will show you in numbers and visually, the income and tax impact of your retirement withdrawals. Replacing your working paycheck with the multi-facets of retirement income creates a planning opportunity. Between pre-retirement and age 72 is the optimal time to develop a tax strategy. There are several strategies including social security optimization, ROTH conversions to reduce RMDs, retirement asset drawdown before 72, gifting, and account restructuring to help a family keep the wealth they have worked so hard to accumulate.
3. Asset location strategy
An asset location strategy gives every dollar a purpose. We view assets as lifestyle – those that will take you through retirement into the end of your plan; legacy – those that will live on when you are gone; and charitable – those for giving. Each of these buckets of assets are composed of their own investment policy statement and each holds different accounts within them, with different tax wrappers. These accounts are structured to maximize their purpose, withdrawal strategy and taxes, putting the entire puzzle together.
4. Sequence of returns risk
This is the risk that a person, late in their working years or early into retirement, will experience negative returns, creating a smaller asset base to pull from to fund their retirement lifestyle. Many have heard of the 4% rule, which states that a person can draw 4% of their portfolio each year and not run out of money. In theory this is good, but it does not account for the sequence of risk return or the fact that many spend in retirement differently from phase to phase. The go-go of early retirement spending is at its highest, while in late retirement, the no-go could include health care expenses that outpace the 4% rule. The best approach to managing the sequence of risk returns is to have flexibility. Understand your fixed expenses and be willing to reduce discretionary expenses in low to negative market years. Also, be willing to implement the above strategies so that you are pulling from the proper assets in up and down markets.
Plan with a purpose so you can enjoy the freedom that awaits.