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The Retirement Income Equation

Erik Nelson, CFP®, Wealth Management Associate Advisor | Kelli Ruby, CFP®, Wealth Management Advisor | December 13, 2018


As our client’s approach retirement, one of the most common questions that’s asked is “How will I replace my income?” While the question is common, the answer is a nuanced one that spurs a further dialogue surrounding many of the more important questions which ultimately dictate its answer:
When will you retire? Will your lifestyle in retirement differ from lifestyle while employed? What sort of longevity, or lack thereof, is in your family? What sources of retirement income are available to you? What type of assets do you have? Will your risk profile change when you are retired and begin distributing, as opposed to accumulating, assets?
By working through these questions, our team at Weatherly can help to provide context around the retirement income equation, implement appropriate strategies and best position our clients for a positive outcome.

Defined Benefits
Pension plans are becoming less and less common, but nearly all retirees have at least one source of defined benefits. Whether you are only eligible for Social Security or have various defined benefit sources, a critical decision point is when and which benefit to claim. The norms of old were to claim defined benefits as soon as eligible or upon retirement to maintain a wage-like stream of income that becomes familiar over decades of employment. However, as the existence of these types of plans have lessened and life expectancies have increased drastically, delaying benefits has become that much more attractive to maximize the dwindling sources of, in theory, guaranteed income.
While factors that are not within your control weigh heavily on what the “correct” strategy is, such as the solvency of the funding source or how long you live, Weatherly can help provide context around these types of decisions through our benefit analysis process. By incorporating the control variables of the defined benefit amounts, with reasoned assumptions such as life expectancies and cost-of-living adjustments, all while accounting for the quantitative and qualitative investment factors such as a client’s asset level and risk profiles, educated decisions can be made to provide the most appropriate defined benefit decision for your specific situation, needs and goals. These benefit decisions that our team helps to solve include, but are not limited to:
Monthly pension vs. lump sum payout
Single-life vs. Life Certain vs. Survivor benefit options
• Break-even analysis of cumulative benefits
• Break-even annual rate of return for benefit options
• Social Security break-even analysis

Investment Assets
As it becomes clear when and how much retirement income will be generated from defined sources, the decision turns to how to fund the gap between the need. This may seem like a straightforward decision, especially if you only have one type of account, but the sustainability of those existing assets can be greatly influenced by the cohesiveness of the withdrawal strategy.

Tax Flexibility
For most retirees, the majority of their investment assets are held in tax-deferred accounts like Traditional IRAs or employer sponsored plans such as a 401(k). While these accounts are certainly attractive during the accumulation stage, there is a lack of flexibility during the distribution stage when withdrawals are fully taxable and become required once you turn 70½. To help combat this lack of tax flexibility and when excess income exists, it can be quite impactful to supplement your retirement contributions with contributions to non-qualified, taxable accounts as well.
Conversely, if you have a low-income year either prior to or in retirement, completing a Roth Conversion can create additional tax and withdrawal flexibility down the road by establishing a bucket of tax-free money that you are not required to withdraw at any point in your lifetime.

Asset Location
Much like how the asset allocation between stocks, bonds and cash is dictated by the time horizon and extent of the need from the account, the asset location within accounts is dictated by these same factors. Once tax flexibility is increased with multiple types of accounts, the placement of where certain types of assets are held can be an important next step in creating further sustainability and efficiency of assets.
Stocks and Bonds that produce higher income are better suited in tax-deferred accounts whereas securities like Municipal Bonds or qualified dividend-paying stocks are better suited in non-qualified accounts like joint and trust accounts, where tax rates are more favorable.
Balancing the asset allocation and location of various investment accounts helps to increase the sustainability of those assets and the income they seek to provide.

Behavioral Assets
Perhaps one of the most impactful yet underappreciated aspects of the retirement income equation are the behaviors involved in accumulating, distributing and maintaining the assets that produce the output of the equation. These behaviors can range from the risk tolerance of investor, to their discipline in deferring gratification of their earnings, to the mental accounting of their retirement income streams.
Each behavior that makes a person unique does the same to their respective retirement income strategy. Regardless of how well thought out or reasoned a retirement income strategy is, the ability to adjust to the unpredictable nature of the markets, the uncertainty of life or even potential changes in the tax laws can have just as much of an impact on the long-term success of that strategy as the underlying levers of the equation.

What is Your Retirement Income Equation?
For some, a successful retirement means covering all basic living expenses without running out of money. For others, it can be checking off the retirement bucket list, traveling the world or leaving behind a financial legacy for loved ones or philanthropic causes. And some simply want to squeeze all they can out of the prime retirement years until their money’s gone and then make due from there.
By defining what the destination in retirement is, the best vehicle(s) to arrive there become more apparent. Our crew at Weatherly is here to help with your retirement income decisions and to guide you the most appropriate strategies to best solve your retirement income equation.

More Resources:
A Golden Opportunity 
Strategies for uncovering hidden value in retirement income planning
Potential 2019 Tax Changes Your Wealthy Client Need to Know About


** The information provided should not be interpreted as a recommendation, no aspects of your individual financial situation were considered. Always consult a financial professional before implementing any strategies derived from the information above.