Retirement Income Plans

When thinking about retirement planning, an important consideration for investors is how much income they will be able to generate. Knowing your retirement investments have the ability to provide enough income to cover at least a significant portion of your expenses is a key to keeping you from outliving your retirement funds.

But, there is significantly more to successful retirement income planning than just looking for how to generate the most income. It is important to understand holistically what you want to get from your retirement, how you approach managing your finances, and which types of investments you choose to make if you want to create a retirement plan that can support your goals.

Defining Your Retirement Goals

While you could start on your retirement planning without first defining your retirement goals, it is easy for this approach to backfire. It is tempting to simply seek the highest returns, assuming that by amassing as much as you can, you’ll be able to figure out what you want to do once you’re retired. Unfortunately, this can lead you to build pitfalls into your plan—such as taking unnecessary risk on investment that do not suit your risk tolerance level.

For some investors, plans may be aimed solely at maintaining their current lifestyle throughout their sunset years. For others, the goal may be to leave a legacy, requiring a plan that can produce income well past retirement’s end. Being able to define what you want is the first step in being able to estimate your cost of living, which is necessary when you begin planning the income you will need for a successful retirement.

Understanding Your Spending

While estimates based on your goals are important as a basis for your planning, you should also calculate the demands of your expenses as you approach retirement. These can help you understand how well your planning for larger goals complements how you will be extracting funds, and what type of adjustments you can make if you find you’re ahead or behind your plan.

This will mean looking at your current costs of living — for example, you will want to include the following expenses:

  • Monthly grocery bill
  • Monthly energy and utilities bill
  • Any debts (car loans, credit cards, mortgage)
  • Tax liabilities
  • Insurance and medical costs
  • Discretionary spending (movies, TV, books, meals out, travel, etc.)

Remember that some of your costs may change immediately after retirement. For example, if you are no longer commuting to work, you may well see your spending on gas decrease. It can be helpful to look at expenses again a few months into your retirement to see how your estimates matched.

Anticipating Change

There is more to retirement income planning than simply calculating your current expenses if you’re seeking to maintain or improve your lifestyle throughout retirement. Many factors might affect your income, particularly the income your retirement funds generate, including:

  • Inflation: Inflation is, simply, too much money chasing too few goods and services. This generally results in increasing prices, which reduces cash’s purchasing power. Assuming inflation continues over time, a dollar today will not buy a dollar’s worth of goods and services years down the line. Inflation affects all forms of savings, especially investments that provide fixed income streams.
  • Increased medical costs: As we age, our bodies are more prone to injury and illness. So, it is reasonable for retirees to assume they will face emergency or unplanned medical costs more often in their futures. Historically, medical costs have experienced higher inflation than other categories, so it is important to plan ahead.
  • Rising (or falling) interest rates: Bond investors’ future income may be affected by changes in bond yields, which typically fall as bond prices rise, and rise as bond prices fall. You can think of bond prices and yields as sitting on the opposite ends of ah hourglass; as sand in one end increases, the other decreases.

Retirement Income Planning with Southern Pacific Asset Management, LLC

Southern Pacific Asset Management can assist investors with all aspects of income planning, whether retirement is near or far. Our investment planning advice is paired with a focus on offering exceptional customer service. Our goal is not only to develop a portfolio that is aligned with your retirement goals, but to also provide the information you need to be confident in your strategy in a way that’s easy for you to understand.

How You Save Impacts How You Can Spend

The types of accounts you use to save for retirement can impact the income you are able to take from your portfolio. This is because various retirement savings accounts can result in different kinds of tax burdens. Depending on your time horizon, cash flow needs and other factors impacting your tax situation, these decisions can impact your retirement savings strategy.

As an example, the funds deposited in a Traditional 401(k) or an Individual Retirement Account (IRA) are not taxed as income when contributed, and you won’t pay capital gains or dividend taxes for the investments in your account. Instead, the income you apply to a Traditional 401(k) is tax-deferred. Your investments grow tax-deferred as long as you don’t remove them from your account; however, after age 59.5, withdrawals are taxed at your ordinary income rate. When you have a Roth 401(k) or Roth IRA, you pay ordinary income tax on the money before it is contributed. Roth accounts still apply penalties for withdrawals before age 59.5 but when you are eligible to take the money out after age 59.5, you pay no taxes.

This means that when you are planning how to generate retirement income with these types of accounts, you should always remember to factor in the tax that will need to be paid. You may decide that a Roth account makes more sense if your income tax rates in retirement are likely to be greater than they are currently. Southern Pacific Asset Management will work with your tax professional to guide you through these tough tax scenarios.

Required minimum distributions (RMDs) are another factor to consider with IRAs. Past the age of 72, people are required to withdraw at least a specific percentage from tax-deferred retirement accounts or face a penalty of 50% of the RMD value not distributed. This is an important factor to consider as 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.

Asset Allocation

Similar to how the accounts used to fund your retirement can impact income, which types of investments you have will also factor into the income your funds generate. Getting asset allocation right when planning your retirement may ultimately make the difference between having the income you need to serve your retirement goals and running out of it just when you need it most.

It is important to remember that all asset classes carry some risks, but all these risks come with trade-offs. For example, stocks are prone to short-term volatility, but have historically provided higher growth over long time periods than any other similarly liquid asset.

Bonds, alternatively, have shown lower growth as a class but tend to be less volatile in the short term. This does not 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 your bond’s value in the market. Perhaps more significantly, if you are a long-term investor, holding too much of your portfolio in bonds can leave you at risk for not having enough growth to reach your investing goals. Bonds can be very useful for generating income, but less useful in helping your account keep pace with rising costs of living.

In the end, getting asset allocation right is about balancing risk, growth potential and income generation to provide yourself with a plan that’s both flexible and sustainable for your situation. For investors with longer time horizons, this may mean taking more risk, and lowering that risk as you age and get closer to retirement.

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