Misconceptions that can derail your retirement plans.
Paying off your mortgage isn't a must
Your spending may not be much different in retirement
Don't assume that you'll be paying less in taxes
There's a strategy for collecting your social security benefits
Being too conservative can cost you long-term security
According to the Employee Benefit Research Institute, only 40% of workers say that they or their spouse have thought about how much money they need to save for retirement.
Life doesn’t slow down to make time for retirement planning, so most people are focused on navigating "right now." Couple the speed of life with the complexity of creating a retirement plan and you can understand why so many people don’t think about their future.
When you do take the time to think about your future, there is a massive amount of incomplete or incorrect information readily available at your fingertips. Financial planning is not one-size-fits-all and the "right" strategy for you will need to evolve over time.
While planning is very situational, there are several concepts that are widely accepted as fact, so our first step is to debunk some common myths that impact how you approach your retirement plan.
Myth #1: You can’t have a mortgage.
Although retirement in a mortgage-free home is ideal, you can retire while carrying a mortgage.
It all comes down to cash flow – your income minus your expenses. If your annual income sources, such as social security, pension, and conservative portfolio distributions, allow you to meet your spending needs that include your mortgage, then you can support a mortgage.
And paying off your mortgage may not be the best use of any extra cash you may have. As you approach retirement, you’re entering a phase of your life that requires a different mindset and strategy than the one that brought you here. With the unknowns of taxes and medical expenses, that extra cash can provide meaningful flexibility to your retirement plan.
Myth #2: You’ll spend less.
Most people underestimate their current spending and envision a retirement with even less spending. The reality? While some of your current expenses may decrease or go away completely, other expenses may increase.
For example, the biggest financial risk during retirement is the need for long-term care (LTC). AARP estimates that 52% of people age 65 and over will need some form of LTC at some point in their life. With the average assisted living and nursing homes costing $45,000 and $100,000 a year, respectively, you’ll need a retirement plan that covers the potential need for LTC.
Other large, one-time expenses, like traveling, home repairs, and replacing a car, are often overlooked and need to be accounted for in your retirement plan beyond just your average monthly spending.
It’s better to assume that you’ll have a reallocation of expenses rather than lower expenses.
Myth #3: You’ll pay less in taxes.
For fiscal year 2019 that ended on September 30, 2019, the federal deficit was $984 billion. Through June 2020, fiscal year 2020 is running a $2.7 trillion deficit - $864 billion coming in June alone. Many states are also running on significant deficits largely due to the COVID-19 pandemic.
Needless to say, there will be a need for additional tax revenue in the future.
Now, think about how much of your retirement savings are in Pre-Tax dollars – balances that have not been taxed and will be fully taxable during your retirement. Because we don’t know and can’t control what income tax rates will be in two years, let alone 20 years, having too much Pre-Tax retirement savings presents a huge risk.
To minimize the risk of unknown tax rates, start carving out different tax profiles for your savings – Pre-Tax, Roth, and Taxable, with an emphasis on Roth because these dollars grow tax-free.
Myth #4: There is a “Best” time to take Social Security.
Chances are that you’ve come across one of the many articles saying that everyone should delay their social security benefits until age 70. After all, where else can you get a guaranteed 8% return on your money?
While your benefit can increase at an annual rate of 8%, delaying your benefits comes at a cost if you pass away sooner than expected.
After your passing, your personal assets will be passed down to your named beneficiary(s). Your social security benefit, on the other hand, may never get passed down to anyone.
When evaluating the right time to take Social Security, conduct a breakeven analysis.
If your Full Retirement Age (FRA) is 67 and you delay your $2,000/month payment for three years until age 70, then your new benefit payment at age 70 will be $2,480/month. The breakeven analysis shows us that it would take 13 years of collecting your new benefit to catch-up to what your initial benefit would have paid out.
You should also consider the stress placed on your portfolio by delaying your benefit.
If you are retired, delay social security, and have no other income sources, then you are relying exclusively on your retirement savings for your spending needs. A safe annual withdrawal rate on your retirement portfolio is 4%. If delaying your benefits means withdrawing at an annual rate significantly more than 4%, then you are putting a lot of stress on your portfolio and raising concerns for the later years of your plan.
Myth #5: Your portfolio should be very conservative.
While your investment strategy may need to change from time-to-time, the idea of owning very little to no stocks in retirement is a costly mistake. Yes, you are no longer working and cannot afford to have a very volatile portfolio, but you are planning for a new 30-year time horizon.
When we build retirement plans, the default assumption is for men living to age 90 and women to 93. Some scoff at that idea, but with rapid technological and medical advancements, people are living longer. That means a portfolio needs to have enough growth to keep up with inflation and provide support for longer than one might expect. You certainly can’t do that with an all bond portfolio.
There’s no one-size-fits-all approach to planning, but everyone needs to have a retirement plan. As Benjamin Franklin once said, “If you fail to plan, you are planning to fail.” Hope is not a plan, and making reactive decisions leaves you with fewer and suboptimal options.
Time is your greatest asset. The sooner you start to think about what goes into your retirement plan, the sooner you’ll gain confidence in how to get there and to see it through.
Frank Iozzo, CPWA®
President, Private Wealth Advisor
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