How to Plan Your Retirement Income

There is more to retirement planning than “saving more” or “working longer.”
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Plan Now for Retirement Income

When developing a retirement plan, generating income is an important consideration. You might feel uncomfortable thinking about giving up a paycheck and trusting your assets will be able to fund the rest of your life, or perhaps beyond.

Learn How to Set Retirement Goals

A Rounded Approach to Retirement Income

However, there is more to retirement planning than just looking for how to generate the most income. It’s important to take a holistic approach. Consider what you want from your retirement, how you manage your finances, and the types of investments available to help you reach your goals.

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Define Your Retirement Goals

Preparing for retirement without first defining your retirement goals is an approach that can easily backfire. Many investors simply seek the highest returns, assuming that by amassing as much as possible, they’ll be able to figure out what they want to do in retirement. Unfortunately, there can be some pitfalls to this approach, such as taking unnecessary risks or chasing “hot” investments. Both can be counterproductive in the long run.

Retirement Goals Drive Investing Strategy

Different goals require different ideas and strategies. Some investors want to maintain their current lifestyle throughout retirement. Others may want to leave a legacy, which requires a plan that can produce income well past retirement’s end. Defining what you want is the first step in being able to estimate an appropriate cost of living, which we believe is necessary when determining how much retirement income you need.

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Understand Your Spending

Most investors require retirement income to cover at least a portion of their expenses. Understanding how much you spend is crucial to making sound financial decisions as you prepare for retirement, because it can help ensure a smooth transition from receiving a paycheck to relying more heavily on your nest egg.

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Estimate Your Expenses

To help understand your expenses, we recommend first outlining your current costs of living. For example

  • Your monthly grocery bill
  • Your monthly energy and utilities bills
  • Your debts (car loans, credit cards, mortgages)
  • Your tax liabilities
  • Your insurance and medical costs
  • Discretionary spending (meals out, travel, etc.)

Remember, Expenses Can Change

Next, estimate how your costs may change immediately once you retire. For example, if you’re no longer commuting to work, you may spend less on gas. But, now that you have more free time, you might spend more on discretionary categories like travel. A few months after you’ve retired, look at your expenses again to see how accurate your estimates were and determine if any adjustments are necessary.

Ideally, you should have some room to spare after covering all of your expenses. That way, it could be easier to treat yourself while continuing to see your funds grow. However, it’s wise to continue checking your expenses relative to your investment plan so you can remain on track to achieve your long-term goals.

Anticipate Change: Retirement-Income Considerations

Retirement is a big adjustment and can look very different for everybody. Retirement-income planning should be flexible enough to anticipate potential changes in spending and lifestyle. Many factors can affect your retirement income, but there are some key items to consider:

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Inflation

Ignoring inflation’s potential to erode spending power is one of the most common mistakes investors make. As prices increase, retirement income must also increase to maintain or grow your purchasing power over time. Inflation affects all forms of savings, especially investments providing static income streams.

Increased Medical Costs

Retirees can reasonably assume they will face more unplanned medical expenses as time goes on.

Historically, medical costs have risen faster than other categories, so it’s important to plan ahead. Additionally, many underestimate the burdening costs of long-term care, which can quickly drain retirement savings if you aren’t prepared.

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Changing Interest Rates

Some investments, such as bonds, are heavily influenced by changing interest rates. If interest rates fall and you rely on income streams tied to interest rates, then you may find it difficult to secure the same level of income when you need to replace maturing securities.

You should conduct a review of your expenses at least once a year—or if a material change in circumstance like a health problem requires you to.
Investor's Guide to a Comfortable Retirement.

Investor's Guide to a Comfortable Retirement

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How You Save Impacts How You Can Spend

The type of accounts you use to save can have big impacts on your retirement income strategy. This is because various retirement savings accounts have different tax implications. Depending on your time horizon, cash flow needs and other factors impacting your tax situation, you may want to consider adjusting your strategy to better align with your retirement income goals.

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Tax-Deferred Accounts

Contributions to a tax-deferred account are made pre-tax—meaning taxes aren’t withheld before contribution. The most common types of tax-deferred retirement accounts are the traditional 401(k) and the traditional individual retirement accounts (IRA). Earnings on your contributions grow tax-deferred. However, because no tax was taken out at contribution, there are tax implications when you make a withdrawal.

Withdrawals are subject to ordinary income tax rates. If an individual withdraws funds before they turn 59½, they will pay a 10% penalty in addition to taxes, though there are some exceptions to this.1

Learn About Taxes on Retirement Accounts
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Roth Accounts

Investors can also open an after-tax account, the most common types being the Roth 401(k) and Roth IRA. Funds deposited in these accounts are post-tax—meaning you pay ordinary income tax on any funds prior to contribution. Because the tax is paid up front, account holders don’t pay taxes on withdrawals after the age of 59½. The 10% penalty still applies for early withdrawals, similar to tax-deferred accounts.2

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Which Approach Is Better?

Unfortunately, there is no right answer when deciding between these account types. The “right answer” is highly dependent on your view of your future tax rate. If you think your tax rate will be higher in the future, a Roth approach may make sense. If you think your future tax rate will be lower—either because of tax regulation or a change in your income requirements—then a tax-deferred approach could make sense.

There are also limitations on what you can contribute to these accounts. Not every employer’s 401(k) plan allows for Roth accounts. Similarly, there are income limitations associated with contributing to a Roth IRA. Each situation is different, so consult a tax professional to come up with a retirement savings strategy that’s right for you.

Required Minimum Distributions (RMDs)

When considering individual retirement accounts, you should factor in required minimum distributions (RMDs), which are the minimum amounts you must withdraw each year.

Generally, you need to begin taking RMD withdrawals when you reach age 73. If you reached age 73 after December 31, 2023, you can wait until you turn 74. If you don’t withdraw a RMD, don’t withdraw the full amount, or don’t withdraw the RMD by the applicable deadline, you’ll likely face a 50% tax on the required amount you didn’t withdraw. RMDs on Roth IRAs aren’t required until the death of the account owner.3

This is an important factor to consider because it may have implications on what accounts you use to generate your income. Again, there are many complexities around both how these RMDs are calculated and what accounts they apply to, which can make it beneficial to work with both a professional tax advisor and money manager capable of guiding you through them.

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Taxes

Inevitably, the government will collect taxes at some point, but there are approaches to minimizing your tax bill. Remember to factor in the tax that will need to be paid when formulating your retirement income plan. You may be underestimating your retirement income needs if you aren’t factoring in the tax implications of your approach. A tax expert can help if you’re unsure.

Choose the Right Asset Allocation

The types of investments you hold can also impact your funds during retirement because they each have their own benefits and risks. We believe your asset allocation (mix of stocks, bonds, cash and other securities) is one of the most important investing choices you can make. Having the right asset allocation may ultimately make the difference between having the income you need to serve your retirement goals and running out when you need it most.

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Stocks and Bonds

IIt is important to remember all asset classes carry some risks. For example, stocks are prone to short-term volatility, but have historically provided higher growth (i.e., capital appreciation) over long time periods than other assets with similar liquidity.

Bonds, alternatively, have shown lower growth but tend to be less volatile in the short-term. This does not, however, mean that they are risk-free. There is usually some risk that the bond issuer will not repay you, or that interest rates will rise and thereby depress a bond’s value in the market.

Bonds Have Risks, Too

If you’re a long-term investor, holding too much of your portfolio in bonds can leave you lacking the growth you need to reach your long-term goals. While bonds can be very useful for generating income, they may be less useful in helping your investment portfolio keep pace with rising costs of living.

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Annuities

If you’re approaching or in retirement, you may have had a visit from an annuity salesperson. While lofty claims of “income for life” and guarantees of “safe investment” can make annuities attractive for investors that need income in retirement, they come with some distinct disadvantages.

Annuities tend to be expensive and complicated forms of longevity insurance, with high fee burdens that can limit their usefulness. In our experience, there is often a disconnect between what people assume their annuity provides (i.e., “protection from loss”) and how their annuity actually works. Notably, the income-generating goals of annuities can usually be accomplished for much lower costs through other products.

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A Balanced Approach

In the end, getting your asset allocation right is about balancing risk, growth potential and income generation to give you a plan that’s flexible, adaptable and sustainable. For investors with longer time horizons, this may mean enduring short-term volatility for long-term gains. Many investors don’t fully have a grasp on what approach is best for them. The guidance of a professional investment adviser in addressing these intricacies can help.

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Retirement Income Planning with Fisher Investments

Whether you are already in retirement or are considering the investment options that will get you there, contact us today.

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The contents of this webpage should not be construed as tax advice. Please contact your tax professional.

1 IRC §72

2 Ibid.

3 https://www.irs.gov/retirement-plans/retirement-plan-and-ira-required-minimum-distributions-faqs