If you were to ask a group of people, “What is the most important goal of a retirement plan?” most would probably answer, “To help ensure that you never run out of money.” But if you were to ask the same group, “What is the key to achieving that goal?” you’d probably get a variety of answers. Some might say smart investing or asset protection. Others might say healthcare planning.
Those are all good answers, but in our experience, the best and most accurate answer to that question boils down to a single word: income. Investing wisely and protecting your assets is all well and good, but if your strategy isn’t squarely focused on ensuring you’ll have reliable income to meet your needs and goals throughout retirement then it should probably be refocused.
In other words, the best way to ensure you have a retirement plan you can count on is to have a “retirement income plan.” And in today’s uncertain world, a good retirement income plan isn’t good enough. You need a great one. But what makes a great retirement income plan?
To a certain extent, the answer to that question is different for everyone depending on a variety of other factors. But there are, broadly speaking, certain key elements that every retirement income plan needs to make it great. In this blog, we’ll discuss five of them:
- Goal Alignment
- Diversification
- Tax efficiency
- Inflation Protection
- Focus on Income First, Growth Second
Goal Alignment
The first step to ensuring you have a great retirement income plan is to identify your individual retirement goals. That sounds obvious, but it’s surprising how many people try to create a financial strategy for retirement without ever having identified their goals. That’s like taking a long trip to a place you’ve never been without the aid of a map. Odds are you’re never going to reach your destination. The goals you identify should include:
- When you plan to retire.
- Where you plan to live.
- What you plan to do: travel, have hobbies, work part-time, etc.
- Any potential healthcare needs or other known issues/costs that may affect your goals.
Diversification
If you’re like most people, you didn’t have to think much about this core tenet of investing during your working years because you were probably investing in mutual funds through your workplace 401(k) or other plan. Mutual funds are designed to ensure your investments are diversified, which helps ensure more reliable portfolio growth and better protection from losses.
Once you’re retired or getting close to retirement, however, the job of making sure your investment strategy is sufficiently diversified becomes more complicated. For starters, you need to consider how and where to allocate all of your potential sources of retirement income, which may include:
- Social Security – Your benefits can be one of the most important elements to ensuring you have a “great” retirement income plan, but maximizing their value takes proper planning.
- Pension Plans – Relatively few people have a traditional defined benefit pension plan these days, but if you do it’s important to know the payout options and terms.
- Retirement Accounts – Though you may have the option to keep money in your 401(k) after retirement, most smart people roll their money over into an IRA, and many others take advantage of the tax benefits of a Roth IRA.
- Part-time Work – Again, if working part-time is one of your goals that’s great, but it’s important to make the most of this income and align it with your broader income strategy.
Tax Efficiency
The last thing you want is for your tax burden to increase during retirement, but it can potentially happen if you haven’t worked with the right professional to create a plan to maximize tax efficiency. Some of the most important issues to consider include:
- The potential benefits of a Roth IRA Conversion Strategy – This may help you maximize the benefits of staying in lower tax brackets from year to year.
- Minimizing taxation on your Social Security benefits – Under certain scenarios, up to 85 percent of your benefits could be subject to taxes.
- Your Required Minimum Distributions – Starting at age 73, the IRS requires you to start withdrawing a certain amount from your retirement accounts every year and paying taxes on the withdrawals. Having a strategy that minimizes the tax impact and other potential dangers of your RMDs is crucial.
Inflation Protection
Inflation is “the silent killer” when it comes to your retirement plan. Most people don’t realize how dramatically the effects of inflation can erode their purchasing power over time. A great retirement income plan needs to account for these effects and include effective strategies to counteract them.
This is especially true when it comes to healthcare inflation. Though some people may not realize it, medical and healthcare costs rise at a much faster and steeper rate than all other products and services, essentially doubling every 12 years. Obviously, this hits retirees hardest because our need for healthcare products and services almost invariably increases as we age.
Focus on Income First, Growth Second
In our experience, this is the single most important element to ensuring you have a great retirement income plan. It sounds obvious, but many people don’t realize precisely what it means. The answer starts with a simple equation: TR=I+G. That stands for total return equals inflation plus growth, and it illustrates a simple fact that many people forget: investment return isn’t just about growth. Total return is a sum of two things: growth, which comes from capital appreciation, and income, which is generated through interest and dividends.
Shifting your strategic investment focus from growth first to income first (from the G to the I) during retirement or — ideally — in the years leading up to it, can yield three important benefits:
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- It Reduces Your Risk: When you focus on income first, you’re typically investing in vehicles (such as individual bonds and bond-like instruments) designed to better protect your assets from market volatility while generating interest and dividends at a fixed rate of return. Many of these options are insured, meaning you are “investing by contract”. What’s more, an income-first approach eliminates the need to try to manufacture income with an old-fashioned withdrawal plan. Withdrawal plans, in our experience, are outdated and ineffective primarily because they rely on a huge unknown: sustained market growth year after year. Without that growth, you may increase your risk of spending down your principal and, ultimately, running out of money.
- It Increases Your Income: It should come as no surprise that a strategy focused on income first can give you more retirement income than a strategy focused mainly or entirely on growth. Through active management, an Income Specialist can take advantage of market opportunities to increase your interest and dividend return year after year.
- It Increases Your Growth Potential: Not only does shifting your focus to an income-first, growth-second approach mean you don’t need to sacrifice growth, but it also means you can potentially increase your growth. That’s because you are now growing your portfolio “organically” through the strategic reinvestment of any interest or dividends you don’t need for income. The right Income Specialist can help you do this in such a way that you’re able to take advantage of market fluctuations to strategically dollar cost average your way to more growth which, of course, can mean more potential retirement income in the future!
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Summary
A great retirement income plan is many things, but at its core it is a plan that aligns with your goals, is diversified and tax efficient, protects you from inflation and, most importantly, is specifically focused on income first, growth second. And, just as importantly, a great retirement income plan is one you create and actively manage with the help of a trusted financial advisor who specializes in retirement income: an Income Specialist like those at and aligned with Sound Income Group!
To learn more, contact us at Sound Income Group today.
