So much financial advice is centered on building up your nest egg for retirement, but it feels like so little is focused on helping you manage that money, whether you’re retiring early or on schedule. But properly managing your money in retirement is critical to ensuring that your nest egg is able to see you through your golden years without forcing you to scrimp or even un-retire. Here are the most important things to consider when it comes to managing your money after you retire.
Don’t outlive your moneyThe key issue for managing your money in retirement is outliving your income. You’ll need enough income so you can avoid having to re-enter the workforce later on or otherwise do something drastic to meet your basic needs. That takes careful planning, even if you do have a substantial amount of money when you retire. You cannot be too careful about this concern. The challenge is how to manage money in retirement: figuring out how to withdraw income from your investment portfolio to support you in retirement today, while still allowing for growth to supplement your income down the road. Plus, if you’re retiring early, you’ll need to be sure you have readily available assets to tap, not just those in retirement accounts such as an IRA or 401(k). Many tax-advantaged retirement accounts won’t let you take withdrawals (at least not without a penalty) until you hit age 59 ½. So if you’re retiring early, you’ll need to bridge the gap between when you retire and when you can actually begin tapping retirement funds and Social Security, which you can access as early as age 62, though you’ll receive a lower monthly benefit check then. In addition, you’ll need to consider your healthcare costs, since you won’t be able to access Medicare until age 65. Add up all those issues, and it can be tough to retire – but careful planning will help.
5 steps for managing your money in retirementAs you’re planning for your retirement, you’ll need to forge ahead as best you can. You won’t have the safety of a job to bolster your finances, so that means every financial move should be carefully calibrated to ensure that you’re protecting your future.
1. Determine your budgetThe amount that you spend is absolutely critical to how long your money will last. If you have Ferrari tastes, you won’t go far on a Ford budget. First off, it’s important to know how much you’ll spend in retirement, so you can work your budget around to meet those needs and wants:
- Do you still have a mortgage on your home?
- Do you plan to travel in retirement?
- Do you plan to minimize expenses?
- Can you minimize expenses just until you’re able to tap other income sources?
- Will your spending ramp up now that you have more free time?
- How will you pay for health insurance during any gap years?
- Can you move to a top retirement destination and save?
2. Assess your assets and how long they can lastFigure out how much you have that’s immediately accessible to you in bank accounts, taxable brokerage accounts and elsewhere. If you’re older than age 59 ½, you can access retirement accounts with no penalties, and if you’re older than 62, you can start taking Social Security. However, you’ll want to carefully assess when the best time is to access that income stream. If you’re retiring early, you mostly won’t be able to – and don’t want to – tap retirement accounts, though it’s possible to access cash in your 401(k) in a few ways. You can take a series of equal periodic payments or take a withdrawal if you hit age 55 and have left the employer associated with the 401(k). If you’re retiring early, tapping a retirement account should be a last resort and isn’t something to be taken lightly. Based on your budget, you’ll need to calculate how long your assets can hold you until you begin to access more income:
- Are you planning to start tapping retirement accounts once you hit age 59 ½?
- Are you planning to take Social Security at age 62 or wait longer to get a larger monthly check? This Social Security calculator can help you figure your benefits.
- Are you planning to wait until age 70 to collect your maximum Social Security check?
- How will you pay for health insurance until age 65 when Medicare starts?
3. Balance your portfolio for income and growthOne of the largest challenges for retirees is balancing the need for income today with the need for growth in future years. And if you’re planning for 30 or 40 years of retirement, you’ll need to play things carefully with your portfolio to make sure you have money for today and tomorrow. You’re looking to maintain a high degree of safety in your investments, and you’re trying to avoid being forced to sell when high-return assets such as stocks are down. So if you can generate enough income from only a portion of your portfolio and can let the rest grow, you’re probably going to be in a good shape for the long term. In years past, it was easier to allocate money from stocks to bonds and enjoy a safe and robust income stream. Unfortunately, given today’s relatively low bond yields, generating enough safe income is harder. In addition, those investing in bonds also have to worry about rising rates hurting the price of their bonds, so bonds are not nearly as safe as they’ve been in the past. If you’re deciding how much to allocate to bonds and how much to stocks, financial advisors have traditionally used the “Rule of 100” to help investors decide. To judge how aggressive your portfolio should be, you subtract your age from 100 to figure the optimal allocation to stocks. For example, if you were 55 years old, the rule suggests that you should have 45 percent of your portfolio in stocks and 55 percent in bonds. If you were 65, the rule suggests you should have 35 percent allocated to stocks. So as you age, your portfolio becomes more conservative. But again, with bonds yielding relatively little, it can make sense to do what some experts are advising: use a Rule of 120 to set your allocation to stocks. Subtract your age from 120 to come up with your optimal allocation to stocks. If you were 55, this revised rule suggests you should have 65 percent of your assets in stocks. This higher allocation would give you more growth over time, and given a long retirement, you’re more likely to need that extra growth. Managing a portfolio requires a lot of work, however. But if you don’t want to do it yourself, you do have some options. First, you could work with a financial advisor who can do that heavy lifting for you. Be sure you work with a fee-only advisor – one that you pay – to give you the best advice for your situation. An advisor paid for by someone else is usually just a salesperson in disguise, and they’ll often push high-commission products that are better for the advisor than they are for you. Here’s how to find an advisor who will work in your best interest and what exactly to look for. Second, if you’re looking for a do-it-for-me solution, you might opt for a target-date fund. These funds become more conservative over time, moving you from riskier but higher-return assets such as stocks to safer but lower-return assets such as bonds. If you buy a target-date fund that’s 10-15 years later than when you expect to need the money, you’ll have more potential growth in your portfolio, though it will also have more volatility, too.
4. Make withdrawals from the right accountsIt’s important that you make the most of your tax-advantaged retirement accounts. The longer you give them to compound without having to pay tax on the gains, the better off you’ll be. So financial advisors recommend that the order of withdrawal from your accounts should be taxable accounts first, followed by tax-deferred accounts, allowing those special accounts to grow. Given the extra value of these tax-advantaged retirement accounts, the difficulty of accessing the funds in them and the penalties that come along if you do need to take a distribution from them before retirement age, it makes a lot of sense to pay for your early retirement with funds in taxable accounts first. Even when it does come time to tap your retirement accounts, it makes sense to use taxable funds first when you can.
5. Manage your moneyOver time, you’ll need to keep up with your portfolio and make sure you’re staying on top of your day-to-day finances, too. Managing your portfolio well can help you avoid having to sell when the stock market is down, helping to preserve the long-term growth in your portfolio. To do so, it’s vital to have an emergency fund of at least a year’s worth of expenses in cash. You won’t have to sell into the market if it’s down, and you’ll have the security of knowing your cash is available at any time. Some advisors even recommend at least two years’ worth of expenses or more, but depending on how much you spend, that may cost you a lot of extra return. Many advisors recommend that their clients think about their finances in terms of three buckets:
- Cash reserves: This bucket contains your cash and other short-term fixed-income investments that can be converted to cash with little or no loss. You can move these assets to the best high-yield accounts to maximize what you’re getting. Your reserves help you stay in the game with your long-term investments.
- Intermediate-term needs: This bucket contains investments that you’ll need for about three to seven years out. These investments can be weighted somewhat to safety, but given the longer time horizon, you can also have growth assets such as stocks here, too.
- Long-term needs: This bucket contains assets that you don’t need to tap for seven years or longer, and you’re investing your money here into riskier, higher-performing assets such as stocks. The longer time horizon gives these investments more time to recover from the ups and downs of the market and go on to outperform. The goal here isn’t to shoot the lights out but rather to have a strong chance of solid long-term gains.