How to Create Retirement Income from Retirement Savings
One of the most common worries from those nearing retirement age is that their retirement savings won’t last them long enough.
It’s impossible to know whether inflation, market volatility, and lifestyle changes will allow for everything to go as planned. Is it possible to create a regular stream of retirement income that will allow you to pay your bills, cover your needs—and have some fun—throughout retirement?
In this post, we’ll cover a few tips to turn your retirement savings into retirement income—starting with a solid understanding of your income needs, then allocating your investments to sustain you over time, delaying Social Security to maximize benefits, and staying flexible.
Determine How Much You’ll Need
First, understand your income needs going into retirement. Although your needs may be less than before you retired, you may be surprised that they are higher than you anticipated. This is because you may have goals, such as travel, that you want to achieve early in your retirement. If you are like many people, you will find that your income needs drop as your retirement progresses.
A rule of thumb is to take what you make right now and multiply it by 75 percent: This is an estimate of your needed income during retirement. However, this rule of thumb won’t apply to everyone. Are you considering extensive travel? Do you have expensive health costs? Will you be caring for dependents? Be as specific as possible about your income needs in retirement.
An online retirement calculator can help give you a ballpark figure about your needs and whether your savings are on track. You may want to talk with a financial advisor who can create a tailored plan for retirement that includes ongoing cash flow and budgeting.
Use Dollar Cost Averaging to Your Advantage
As you save over time in accounts such as your 401(k), IRA, health savings account (HSA), or brokerage account, you are inherently dollar cost averaging. This means you are regularly purchasing into retirement portfolios of stocks bonds, and cash over time, thus spreading out your costs and reducing the impact of short-term volatility.
To determine the appropriate asset mix you should have in retirement, you will want to determine your income needs (which you did in the above section), then how much income you will need from your retirement assets or investment portfolio on an annualized basis.
Consider keeping at least two years of portfolio-supported annual living expenses in cash or very high-quality short-duration fixed income. For your retirement goals that exist beyond two years into the future, you’ll want to follow a dynamic “total return” approach to help support your income needs in a sustainable manner.
The goal with a total-return approach is to use your whole portfolio to help generate the returns you need. It also helps smooth out volatile periods so that your distributions don't exceed the rate that you've determined is sustainable.
You will want to use a mix of stocks and intermediate- to longer-term bonds based on your risk preferences. The stocks serve to protect the spending earmarked for longer-term goals from the eroding impact of inflation. The allocation to longer-term bonds serves as a dampener against stock market volatility.
As time passes and your previously longer-term goals move closer to fruition, you will inherently dollar cost average out of your stocks and longer-term bonds. You’ll move into cash and shorter-term bonds that increase the likelihood of meeting your spending goals.
Delay Taking Social Security
Social Security is the most common income source for retirees in America. It’s natural to want to start receiving Social Security benefits as early as possible (especially if you must retire early due to health problems).
But if you’re able, it’s wise to wait to draw on Social Security as long as possible. Waiting until full retirement age (65 to 67 years old, depending on when you were born) can increase your benefits by 30% compared with drawing Social Security at age 62.
Waiting until age 70 can increase your benefits by 8% each year you wait. For example, if your full retirement age is 66 and you begin drawing on Social Security at age 70, your monthly payments will be 32% higher than if you had started at age 66—for life.
Be Flexible
No matter how well you plan, life won’t necessarily play along. You might experience disruptions like an illness, the need to support a child or parent, or an economic recession. A crucial element of any retirement income strategy is the ability to be flexible and make necessary adjustments to your retirement plan.
You’ll want to account for taxes when taking your required minimum distributions (RMDs) each year once you turn 72. Consult your financial advisor to plan out ways to allocate your assets to be the most tax-efficient when you begin taking those RMDs.
To help increase tax flexibility, consider contributing to a Roth IRA or Roth 401(k), or completing a Roth conversion. You do not have to take RMDs from Roth retirement accounts, and your distributions are tax-free since you paid income taxes when you made your contributions.
With careful planning, a solid retirement asset structure, and the right amount of flexibility, you can help increase your ability to enjoy a stable income stream that serves you for years to come.
If you are concerned about how this all comes together, consider working with a fiduciary financial advisor with expertise in retirement planning, such as our Greenwood Village, CO advisory firm. The right financial planner can help make sure you are on track before you retire and then provide comprehensive financial planning to help you feel confident throughout your retirement.
Discuss your situation with a fee-only financial advisor. Schedule a complimentary discovery call.
This material was prepared by Kaleido Inc. from information derived from sources believed to be accurate. This information should not be construed as investment, tax or legal advice.
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