Creating a Stable Retirement Income Strategy: A Smarter Way to Manage Retirement Funds

So I'll set up the case study for you today, walk you through the facts, and then we're going to talk through the income strategy that was most appealing to them. We'll touch on some other income strategies along the way, and then we'll start talking about where we can possibly put those dollars to most efficiently accomplish your goals. Now as I go throughout this video, I hope you drop me a comment.

If you have any questions, drop it right down there in the comments section. I'm committed to answering each and every one of your questions. If you have ideas about future videos, you have questions you'd like me to make a video about, drop those in there as well.

It's really helpful. So let's jump into the case study. So we have a couple, they're 62 and 63 years old.

And as I said, they're about a month out from retirement. They have about $1.5 million saved for retirement. But unfortunately, like most retirees that we meet with that are in this range, most of those assets are saved in tax deferred retirement accounts.

So we have what some might refer to as a tax time bomb on our hands. Now we have $1.35 million that's in an IRA. It was rolled over already from a 401k over to an IRA, and they're ready to start working with those dollars to create that income strategy.

And then they have some other dollars in a Roth. So they set aside about $125,000 that they started creating over the last few years, starting to realize it would be good to have a little tax diversity. Now today, we're not going to get into the tax strategy for this couple.

We're going to be focusing on creating that most important thing, which is how do we create a stable income in retirement that we can rely on in the ups and downs of the market that will inevitably come their way over a 20, 30 plus year retirement. And then they have some after tax money. So they have some after tax dollars set aside about $35,000 that have been set aside to put in queue there because those are often referred to as non-qualified dollars.

Qualified assets would be those assets that are in qualified plans, like 401ks or 403bs or 457 plans. Now non-qualified assets, these are the assets that you get a 1099 on each year. You have to pay taxes on your gains, and those are also known as taxable assets.

So these are just taxable assets. They're free and clear. They can take them when they want.

There's no strings tied to them. There's no taxes that need to be paid. Only about $35,000 there.

So that's probably going to make a pretty good emergency fund for them. You know, I don't believe that your Roth should ever be your emergency fund. That should probably be the last thing that you touch.

It's growing tax-free. You can leave it behind you as tax-free. And the IRA, that shouldn't be your emergency fund.

What if you need $50,000, $100,000 in retirement? You're going to have to pay taxes on those dollars. Your IRA was created, and it was founded on the whole concept of allowing you to save for retirement income. This was a concept that replaced pensions.

You came out with 401ks in the early 70s, pensions started to go away, and I think this is one of the things we lose touch with. Your dollars that you put away over the years, while you were focused on accumulation for the last 20, 30, 40 years of saving, the shift has to be from accumulation to income. You have to start thinking about what your grandparents probably did, which was they didn't have a big 401k.

They had a pension. They had an income. And that's what we need to create for this couple is an income that they can rely on, maybe like their parents or grandparents did as well.

But it's kind of going to be a tough shift in thinking for a lot of retirees as you make that transition. And so we're going to talk through that a little bit. Now they do have some Social Security benefits.

Lucky for them, they have $1,575 and $1,255 per month in Social Security benefits. That's a total of $2,800, $2,830 per month in Social Security benefits. And this is net after tax.

And some people go, wait, Casey, they're taxing my Social Security. That's right. They're taxing your Social Security.

And it could be up to 85% of those Social Security benefits are taxable. We've already taken the taxes out of this, that $2,830. That's what they're getting net after tax.

And there's different thresholds to keep in mind, $25,000, $32,000, $44,000. Once we get over these thresholds, we're going to pay somewhere between 50%, 85% max on our Social Security, which is going to be taxable. And so you can run those calculations, but it is a little complex.

The IRS uses something known as combined income and combined income is taking half of that Social Security, which would be about $1,400 a month. Plus the IRA distributions, any tax-free income. We know we have to take about $60,000 a year.

And they also have half of this Social Security is going to be about $20,000 a year. So they're going to be over these thresholds. They're going to be paying taxes on that Social Security.

That's the net after tax amount. Then we have expenses of $6,500 a month. So they have expenses of $6,500 a month.

That's about $80,000 a year. So they have what we call a gap. They have a gap that they need to fill of $3,670 per month.

This is a really important number for you to dial in. I encourage you to do that before you meet with a financial planner, if you can, because all income plans are dependent on how much income you actually need. You'd be surprised how many folks that we'll visit with that don't know what that number is.

That's a really important number for you to dial in before you start building a plan. Let's get it dialed in as possible. And of course, we work with families on that.

Maybe you've went 20, 30 years without having a budget. Now you're going to be on a fixed income in retirement and you need some help working through that budget. We help a lot of folks with that as well.

And if you want help with that, just give us a call on the number on your screen. We'll walk you through that process. So that $3,670, of course, I also want to emphasize this is after tax gap.

So they need to hit $3,670 after tax. We're taking all these distributions from IRAs. So we're going to have to take more than $3,670 in order to net $3,670.

They're in a pretty tax-friendly state. And so we're looking at federal taxes, about 15%, state, local taxes, adding up to about 18% altogether. And they're probably going to pay, at least initially in retirement, a lower effective tax rate than that.

But we want to overestimate that. Across the board, we'd like to be very conservative with our planning, whether that's planning for inflation, whether it's planning for investment returns or taxes in the future. So we're going to overestimate that just a little bit to make sure they have some breathing room in case taxes were to increase in retirement.

So that comes out to them needing $4,500 a month pre-tax. That's $55,000 per year that they're going to need from that IRA in order to net the income they need to fill in that gap and get themselves that $6,500 a month in after-tax spending dollars. So let's talk about the income strategy itself.

Now, we always walk through multiple income strategies. We'll walk you through all of the income strategies I lay out in my book, Job Optional. I talk about flexible strategies, systematic withdrawal strategies.

We walk through guaranteed lifetime income strategies. And of course, one of the big staples and probably the most popular today is the bucket income approach. So we're going to walk through that bucket income approach and generally how that works.

And that is really, we're setting up different buckets. Let's call them bucket one, bucket two, and bucket three. This couple are 62, 63 years old.

And so they really need to set up three different buckets. If you're 72, 73 years old, you might only need two buckets. If you're retiring when you're 55, you may want to consider four different buckets.

So this is where we customize this to your own unique situation. Now there's bucket number one. This is where we're going to set aside at least the next 10 years worth of income needs.

We're going to be setting aside in this particular scenario, $550,000 of that IRA. Now how long is that going to last? Well, this is going to be set aside in a stable area. So these could be named our very conservative dollars, your stable dollars.

Now these are going to be the funds that you know are going to be there when you need them. And you won't have to worry about selling when the market's down. Now, if they just left all those dollars alone and left that whole $1.35 million in one portfolio, what's the problem with that? Well, because it's not stable, right? That's going to look a little bit more like this, up and down, and it's not going to move in a straight line.

So what happens is we take income, we end up violating the number one rule of investments. We end up selling when the market's down from time to time. That's the most important thing in building an income strategy that you want to avoid.

You want to make sure that you never have to sell your equities when the market's down and violate that number one rule of investments. We're supposed to buy low and sell high, not the other way around. Now, how long and how much do you want to stick in that leg one? Some families want to set aside two, three years worth of income needs in that leg number one.

Some want to set aside five, 10 years, even 15 years. Some say, you know what, the heck with the whole bucket income approach. I just want a guaranteed lifetime income.

I want to know that I'm going to have all that income for the rest of my life, and I'm going to have it backed by a claims paying billion of insurance company. Just give me a paycheck every single month for the rest of my life. I don't ever want to think about it again.

Rather than with an approach like this, we're going to have to reallocate from time to time, and we're still going to have to deal with some fluctuations in the market in those leg twos and leg threes. Now, we know if we set aside $550,000 and we pull out 10% per year, $55,000 out of that $550,000, we're probably not going to be making 10% on our stable money, right, or our really conservative dollars. So this is going to go down over time.

This might last somewhere around 15 years. What's the great thing about that? That now we can set aside $300,000 over here to be our second leg that we know we don't need to touch for probably the next 15 years. We know we don't need to touch that $300,000 for quite a while, so we might allocate those a little bit more aggressively.

Maybe these are going to be allocated in more of a moderate allocation portfolio, because think about this. I think this is the cool thing about this income strategy. You're $62,000 and $63,000 on these dollars.

How are you going to invest them? I often ask people, how are you going to invest your dollars, your $62,000, $63,000? And they'll say, oh, I can't take risk anymore. And I say, well, why can't you take risk? They say, well, I need it now. I actually need to start spending those dollars.

I say, that's true, but you don't need to spend all of the dollars today, do you? We only need to spend some of those dollars. So we want to take those dollars and buy you some time. That's what we need to buy when we're building an income strategy.

We need to buy time. And that's what a bucket income approach allows us to do. We're buying yourself time to continue to take risk and invest with those dollars so that you can ultimately have a higher rate of return.

So in those moderate dollars, down the road, we're going to have to start reallocating those things. But we're essentially making you younger on these funds. If you rewind the clock 10 years ago, or say you're 52, 53, you know you're not going to retire for 10 years, you're probably going to invest a little bit more aggressively.

And you say, well, I'm down 10%, 15%. The market's down maybe 25%, 30%. I'm not too worried about it.

I've got time on my side, but I don't want to be 100% equities. I don't want to be too aggressive. I don't want to have to wait a decade to make up my losses, or five years to make up my losses.

Now, I want to set those aside more moderately. But on the assets that we don't need for, say, 20 years or more, let's say you're about 42 or 43 years old on this third bucket, and we still have $500,000 remaining. We still have $500,000 remaining.

We can be 100% equities on those dollars. You probably were 20 years ago, 20 years prior to your retirement date. You were concerned with what happened in the market.

The market's down 30%, 40%. It's just a buying opportunity. Or you just say, that's okay.

I don't need the money for 20, 25 years. This is that longevity portfolio that we're going to be very aggressive with. And I know sometimes it can be psychologically challenging to spend down our principal, but that's what you're supposed to do in retirement.

We're spending down some of our assets while we allow some of the other assets to grow. And what that's going to do over time is ultimately probably help you create a better overall return, even though you probably have a similar allocation. You'll probably have a similar allocation across equities and fixed income or stability and potential in a bucket approach as you would if you're using a 4% withdrawal approach or a systematic withdrawal approach, a total return approach.

Your portfolio probably doesn't look that much different from a makeup standpoint, but your results could be dramatically better because instead of just shaving a little bit of income off of all of those different assets in that one portfolio, you're being more strategic about it. You're spending down the lower yielding assets and letting those other assets continue to grow. And again, you're never going to violate that number one rule of investments if you're spending down those stable dollars.

Now let's get a little bit more granular now as we talk about the specific kinds of tools that we could potentially be using. And in order to do that, I like to talk about something known as the three worlds or the three worlds of tools that you can use as you step into this next phase, as you step into retirement. There's one of these worlds you've probably used most of your life.

There's some new ones that you may want to start thinking about using for this new phase of your life. Now I look at these different worlds and I'm going to draw a couple of different circles here. This one over here, this is going to be our stable world.

Now all the way over here, I should probably make this circle a little bit bigger because a lot more things are going to fall into this category, which is that potential category. Now across these different worlds, and I know there's another one here in the middle, we're going to get to that here in just a moment. Whether it's a world of stability, whether it's this hybrid world in the middle or this world of potential, all of these different worlds have pros and cons.

There isn't such a thing as a perfect investment. Everything has a downside. Everything has an upside.

And what we're trying to accomplish is, especially as we step into retirement, we need those assets to be as efficient as possible. And how do we make our portfolio efficient? We try to find the best tool for the job. We look for the closest distance between two lines, the two dots, that's a straight line, right? Straight line is what we're looking for, the most efficient tool for the job.

Now over here, let's talk about these pros and cons. So over here in this world of stability, we of course have stability. So there's different features to each one of these different worlds.

We have stability as one of those things here. And we are also probably going to be getting, and we are getting in this particular world, we're getting a fixed rate of return. We know what our interest rate is going to be every single month, every single year over the term of the account that we're looking at.

So what do I mean by term? Well, it means you're going to be giving up some liquidity. So these are going to be illiquid. Let's talk about some of those different tools.

All of the things that fall into this category, you could say are principal protected because they're backed by some type of legal reserve system. Think about those legal reserve systems or what kind of comes to mind. That would be banks that are issuing things like CDs, because the bank is backed by the FDIC.

It could be treasuries that are being issued by the US treasury backed by the full faith and credit of the US treasury. And then we have, lastly, we have insurance companies in this world issuing things like fixed annuities. All of these different tools, they have a term.

Take, for instance, your CD. You're going to buy a CD. You can probably only access your interest every year for a term of three to five years.

Take your treasury. You're going to get a set rate of interest. You're only going to get access to that interest if you're buying individual treasuries.

If you buy a fixed annuity, you're going to have a fixed period of time. They pay you a fixed interest, and you can access typically a bit more than your interest. Quite often, it's 5%, 10% of your account value.

But all of these different vehicles over here, they have these kinds of attributes. Then what do we do if we want to generate a higher rate of return? Now we have to start taking on some risk. We step over into this world of potential.

In this world of potential, as I said, we are getting just that. We're picking up some potential over here. This is why we take risk for the potential of a higher rate of return, not a guarantee of a higher rate of return.

The potential, we don't know what that return is going to be as we look over here. We know it's going to be volatile. As we saw that squiggly line earlier, there's going to be some volatility that's going to show up in that portfolio over time.

Volatility meaning, hey, the market goes down 10%. It's up 15%, right? We're going to have some ups and downs to deal with. But one of the benefits of being over here in general, most of these vehicles are going to be liquid.

What falls into that category? We have stocks. We have mutual funds. We have ETFs.

You may have various commodity and real estate investments. You have a lot of different ways that we could take risk. We could fill up this whole whiteboard with all the different ways that you could possibly take risk with those assets, ensure there are some illiquid ways to have risky assets.

We're focusing on those liquid assets that come with volatility and give us more potential. Then we have this middle world. This middle world is made up of these same three issuers.

Banks issuing things like equity-linked CDs, treasuries issuing things such as treasury inflation protection securities, and insurance companies issuing things like fixed index annuities. What kind of features do these have? We have a lot of those same principle-based features of the CD, but equity-linked. It's tying a rate of return to some type of index over here in the world of potential to give us more growth potential.

So we're getting the potential of this world because we know we have the potential for a higher rate of return. We're getting the stability because we're getting those principle protection features that are backed by the legal reserves of those issuing carriers saying you're not going to lose your principle. You're not going to get probably as much potential as you could get over here, but we will give you more potential than you're getting in those fixed instruments.

So not a fixed rate of return, more potential principle protection, but we're going to have to give up a little liquidity. So we have some illiquidity. We may only be able to access our interest.

Maybe 5%, 10% per year of those account values. When I look at these three different worlds, you may have only been exposed to one or two of them because this is what I often see. The banker says keep all of your assets here.

The insurance guy says keep all of your assets here. The broker says keep all of your assets in the market. The problem with that is that each one of these worlds, they have a place.

They have a purpose, but it has to be used for the right purpose. You may be using these types of vehicles for some of those assets that you would like to have outside the market. Maybe it's a long-term fund that you want to use for emergencies.

Maybe you want an overflow emergency fund. You don't mind some strings tied to it. Maybe you want to set some aside in here in this middle world to be that first leg of income needs.

Maybe you want to set some assets over here in those second and third legs to be exposed to more risk, a little volatility, but give you some more potential. In order to answer for yourself which one of these worlds is right for you, then you really need to start building a financial plan. If you would like us to walk you through your very own bucket income strategy along with various other options, we'll walk you through two or three different income strategies, or maybe you just want to explore some of the other tools that you're unfamiliar with to see if you can fill in some gaps in your income strategy.

All you have to do is call the number on your screen and we will visit with you for a personal financial review no matter where you find yourself. Today we can meet with you virtually or in person.