You have worked very hard all your life and are now interested in slowing down, but you just do not know if you can afford not to have a paycheck coming in. You do not want to worry about your day-to-day living expenses, including medical costs and health insurance.

In my 20+ years as a financial advisor working with individuals and couples, the one thing everyone who can afford to retire has in common is … Not their net worth. Not their income. Not their demographics (single, married, divorced, widowed…). Not their occupation. It is their level of saving as a percentage of their income.

Real-Life Story: One Couple’s Journey into Retirement

I know of one married couple who retired in 2006, at age 65, with a $240,000 401(k) (invested 70% in low-cost mutual funds that own stocks), a home in New Hampshire with a mortgage, and no other income but Social Security. They lived mostly on their Social Security income, with the occasional draw from their portfolio for the real estate taxes on their home. The husband passed away 13 years later at age 78. His widow is still living on her Social Security income and still has a nest egg of over $150,000 today, despite withdrawals of $210,000 over 18 years — and despite their portfolio declining by 20% during the depths of the financial crisis in 2009.

How can this be? While past performance does not influence future performance, and nothing in the future is guaranteed, I attribute their successful financial plan to the following:

• They managed their income taxes. They paid less than $11,000 (total) in income taxes over the past 18 years of their retirement, due to careful tax planning and structuring transfers every year between their IRA and a brokerage account. This kept the money invested but removed it from the IRA at (mostly) no tax cost.
• They live in New Hampshire, which does not have an income tax or sales tax.
• They kept their expenses low.
• They avoided taking on any debt other than their mortgage.
• They stayed the course during times of investment turmoil and did not sell stocks when they dipped.

Caveats:

• Past performance does not predict future results.
• Timing of their cash flows could have influenced their results.

A Higher Net Worth Story

Now, not everyone can live on the income that Social Security can provide. In fact, Social Security was never designed to pay 100% of a retiree’s expenses. It should be but one leg of a multi-legged stool. That brings me to my next example, which is a composite client profile based on discussions I have had with many clients over the years:

• Ages 60 and 58
• Investments: $2,300,000 split between 401(k)s, traditional IRAs, Roth IRAs, and brokerage accounts
• Earning $200,000/year, saving $30,000/year in their 401(k)s and $12,000/year in their brokerage accounts, plus $15,000/year in their Roth IRAs
• Good health
• Mortgage will be paid off by age 62

Me: What is important to you?

Client: We want to retire when I turn 65. I love what I do, but I’m really tired of the politics involved in my job.

Me: What’s stopping you from retiring now?

Client: I heard health insurance is really expensive, and I have a good, stable job with good benefits.

Me: You are currently living on $143,000/year (after we back out your savings).

• When you retire, you will no longer pay FICA taxes of about $11,000.
• You may no longer need your life insurance (as you have enough assets to retire), disability insurance, or other benefits. That saves you $5,000/year.
• Your health insurance will cost about $12,000/year each — an additional expense.
• Your Social Security income, at age 67, will be $40,000/year, and your spouse’s will be half that ($20,000/year) when they turn age 67 two years later.
• Your Social Security income will not kick in for at least seven years (as you are only age 60). If you collect at age 62 (the earliest date you can), your benefit will be cut from $40,000/year to about $28,000/year, and your spouse’s benefit from $20,000/year to $14,000/year. Therefore, from ages 60 to 67, you will need to withdraw more from your investment portfolio than after age 67.
• Starting in two years, your expenses will decline by $1,500/month, as your mortgage will be paid off.
• $143,000 current lifestyle − $11,000 FICA − $5,000 benefits + $24,000 health insurance − $18,000 mortgage = $133,000 in retirement expenses, about $11,100/month.
• Your taxes won’t be as high in retirement, as some of your portfolio distributions will be tax free, coming from a brokerage account (where only the earnings are taxable at low capital gains tax rates) or from your Roth IRA (where distributions are usually income tax free). Your monthly spending may only be $9,500 as a result of this.
• A well-diversified portfolio (at least 70% stocks) of $2,300,000 should be able to sustain distributions of $9,500/month. As your expenses rise through the years, the portfolio distributions should be able to rise to offset them.
• At age 67, your distributions should drop to $4,500/month (maybe you round up to $5,000) as a result of collecting a combined $5,000/month in Social Security payments.
• Such a portfolio will have about $690,000 in a “war chest” of low-risk investments to offset the (historically temporary) significant declines in the stock market.
• You may need to temporarily reduce your future withdrawals due to a significant and extended reduction in your portfolio balance.
• We will need to prepare a tax projection specific to your situation to make sure this all works. Tax planning is a critical component of a successful retirement!
• If you can keep a close eye on your expenses and adjust them when necessary, then you can retire now. Slightly higher distributions than $9,500/month for one or two years won’t make a meaningful difference to your long-term plan.
• Past performance is no guarantee of future results, so we will need to monitor your plan as time goes on.

Client: That all sounds great! I am so looking forward to retiring, and I want to implement this as soon as possible.

OR 

Client: That’s a little too close for comfort. I would rather work another two or three years to make my situation a little more comfortable before pulling the trigger on retirement.

Me: Whatever works for you! There are no wrong goals. We can reevaluate this plan every six months. Also, if you retire from your high-stress job now, can you cut your spending by about $500-$1,500/month or earn that much (after tax) in temporary/part-time work for a few years? That will make the plan even more solid.

Important Caveats

There is nothing simple about financial planning and taxes. There are lots of moving parts in any calculation, and plans should be reviewed often (at least annually). In addition:

• This plan doesn’t factor in the lifetime tax savings you will realize by implementing a partial Roth IRA conversion strategy to even out your income taxes at lower tax brackets.
• We must also keep in mind the extra Medicare premium tax at age 65 that is calculated based on your income from two years prior.
• It is crucial to do tax planning every year, especially as the tax laws change.
• Past performance of investments does not predict future results.
• If one of you dies early in retirement,your Social Security will be limited to the higher benefit, reducing your income. You may need to reduce your spending by the lower benefit amount ($1,666/month).
• Once you are filing your taxes as “single,” not “married,” .
• Your tax rate may also rise due to the bracket problem.
• We still need to discuss how to plan for long-term care expenses for you.
• We want to make sure you have a solid estate plan in place that includes:
  • Revocable living trust that names successor trustees to run your financial life if you are unable to (either while you are living or not)
  • Durable power of attorney that names primary and contingent representatives to make your financial decisions if you cannot (while you are alive)
  • Health care proxy detailing who makes your medical decisions if you cannot
  • Detailed beneficiary planning for all accounts
• If you decide to work past age 65, you will need to think about when to apply for Medicare.
• There are many other facets to financial planning in your 60s that we should discuss.

These are but two real-life retirement examples. Your circumstances are unique to you. If you need assistance with your overall financial plan, we encourage you to reach out to our team