So, You're Retiring Early! Do You Know the Critical Steps to Creating Your Retirement Paycheck?
Whether you made the decision on your own or not, you're here. In addition to joy on one hand and concern on the other, what else is on your mind? The single most pressing issue facing anyone who is retiring soon is…a retirement paycheck!
Exactly how, do you create a paycheck for yourself now that you're no longer employed? Which account should you take it from? What is the best strategy? And…how much will you need? Do you have enough? These are among the most common questions facing every person who is about to retire. So where do you begin?
1. How Much Will You Need
Like most people, you may not be certain of the number you'll need in retirement. Why does this happen to most people? Well, we'll admit, it's a fairly daunting task to review and educate yourself about what you spend annually. And, it's fairly common for most people to estimate rather than truly know. If you've ever actually reviewed your most recent full year of spending, it is eye-opening for most. And not to mention, incredibly time-consuming. But, ever hear the words, "measure twice, cut once?" Those estimates are now going to be critical in determining the longevity of your money and the specific amount you can give yourself in the form of a paycheck. So, measuring your money is critical to knowing how much you need. You must review your spending plan and know how much it takes for you to live on an annual basis. Then, you can consider not only how much to pay yourself but also how long your money may last.
2. Creating Your Paycheck
There is a lot of information out there about creating your own paycheck in retirement. Yet, it seems it is primarily about creating an income stream to live on. Well, given where current interest rates are, near all-time historical lows, probably not likely that income alone will sustain you. At least for most people today.
If you're in the camp that has realized income alone isn't likely to cover it, you're probably right. Each person's financial situation is different of course, but, let's provide you with an example to help illustrate what we're talking about.
Illustration
Say there's a person who has accumulated $1,500,000 in assets spread between IRA's and some Taxable accounts. And, let's say this person needs $125,000 per year in retirement to live on, hypothetically of course. If this person was to rely solely on income from bonds today, a high quality, diversified bond portfolio let's estimate might provide about 3% income. So-$1,500,000 x 3% = $45,000. Just a simple calculation though, doesn't factor in inflation or taxes so please remember, this is just for illustrative purposes for simplicity.
Let's assume social security income will be $38,000 annually. $45,000 income from bonds plus $38,000 social security income = $83,000 annual income. And if the need is $125,000 income per year that leaves a void of $42,000.
Yet, if you are among those retiring early, the social security check may not be available yet if you're not age 62. And, there are many reasons to consider taking that social security check later on in retirement, but, that's a different discussion. Today, you're considering how to create your paycheck as retirement has arrived.
3. Automate It
Automate the transfer of funds you need on a monthly basis. You might transfer funds once a month or many choose to re-create the paycheck schedule you were on before retiring. Some choose to pay themselves on the 1st and 15th of every month. You can choose, but, whatever your choice, we think you should automate it. It's a great way to keep accountability of what you are spending and to stay within your budget or spending plan.
4. What Account Should I Tap Into First?
So, for most it's best to begin using funds from non-IRA accounts first then IRA accounts. But, it will absolutely depend upon your own personal tax circumstances as to how much from which account to remove. Sorry, but, this part is specific to each person. For example, you may have a lot of money in taxable, non-IRA accounts. Yet those assets may have high levels of gains tax to pay if you sell to provide for your paycheck need. Or, you may have very liquid, low-gain assets in taxable accounts where you could easily remove more money without a big tax consequence…see what we mean? It's personal and important to know the best tax advantaged way to create your paycheck.
5. 2 - 3 Years of Liquid and Low Volatility Assets for Your Paycheck
In retirement, we believe that keeping 2 to 3 year's worth of paycheck money in fairly liquid and low volatility assets is a good rule of thumb. A few examples of reasonably liquid and low volatility assets are cash, near-cash, short-term bonds or investments such as defined maturity exchange traded funds. The money you need for 2 to 3 years of your paycheck should be available to be sold without penalty and with a very low probability of loss or significant taxable gain.
IMPORTANT… you don't want to leave yourself in a position where you don't have the 2 to 3 year liquidity. Regularly reviewing your intermediate and long-term investments to determine what to sell to replenish your short-term - paycheck needs, is a vital part of your retirement income management. We think this is one of the most important aspects of managing your assets…be a price maker not a price taker. In other words, make the decision to sell not when you 'have to' but rather when you 'want to' sell. This way you can better manage for price and taxes along the way.
Why Is It So Important to Keep Funds Available for Your Paycheck?
Well, what if you were the one who retired in 2008? Remember 2008? Markets were down, nearly all of them, down significantly and it took a while for the values to improve. So, if you were taking a paycheck and had to liquidate to cover your income needs, you could have lost quite a lot and your financial picture long-term could quite possibly have changed dramatically. But, if you had that 2 to 3 years in liquidity available, you would not have to sell assets while down in value. When investments are sold as values are down, of course you lose the opportunity on those funds to potentially recover and provide you with money you may need for longevity in retirement.
For more answers to your retirement questions, please email info@lenityfinancial.com to schedule an introductory call. And, visit our website at www.lenityfinancial.com for more insightful articles on the subject.
Important Note:
The views expressed in this post are as of the date of the posting and are subject to change based on market and other conditions. This post contains certain statements that may be deemed forward-looking statements. Please note that any such statements are not guarantees of any future performance. Actual results or developments may differ materially from those projected.
Nothing in this post should be construed as an offer to sell, nor the solicitation of an offer to purchase an interest in any security or separate account. Nothing is intended to be, and should not be taken to be, investment, accounting, tax or legal advice. If you would like investment, accounting, tax or legal advice, you should consult with your own financial advisors, accountants or attorneys regarding your individual circumstances and needs. No advice may be rendered by Lenity Financial, Inc. unless a client service agreement is in place.