Today I’m going to answer the top retirement questions.
Transitioning from the working world to retirement is the most vulnerable time of your financial life.
One mistake, and decades of hard-earned savings can be wiped away.
Even worse, at the same time, you could end up leaving the IRS a giant tip!
If you’re within five years of retirement and you want answers to the most critical questions, this article is for you.
Your Answers to the Top Retirement Questions (in Plain English!)
In 2010, when Nobel laureate Harry Markowitz was 82 years old, a Journal of Financial Planning columnist asked him whether he was ready to retire.
Markowitz, best known for pioneering Modern Portfolio Theory, replied with a question of his own:
“What would I do with all my books?”
Now 94, Markowitz is still gainfully employed as an adjunct professor at UC San Diego.
You, on the other hand, might be hoping to retire sooner than that.
And if you’re five or so years away from retirement, you’ve probably got many questions, beyond what will happen to your books and stuff:
- Can you afford to retire, and if so, how lavishly or sparsely will you live?
- What steps should you take, in what order, to avoid the most common retirement mistakes?
- What will you actually do with your time?
- If you’re a couple, are you both ready for the transition?
- How does it all work?
Getting started with your retirement planning can be the hardest step. To help, here are answers to the top retirement questions.
Retirement Income Questions
For as long as you can remember you have been receiving a paycheck, and once the last one is deposited you have “officially” entered retirement.
Financially the game just changed, and you must figure out how to turn that nest egg you have so diligently nurtured into a stream of cash flows with which to replace your paycheck. That’s the money you’ll use to live on in retirement.
Retirement Income: The strategy you use to replace the paycheck you earned while working.
Factoring in some types of retirement income (such as pensions) can be more straightforward than navigating the investments in your retirement accounts (e.g., 401ks, 403bs, IRAs, etc.).
Each source may have widely different options available to you. Knowing your options is crucial to figuring out what is best for you and how much (and when!) you can regularly take from your nest egg to replace your paycheck.
How Much Do I Need to Retire?
There are three important steps to determining how much you need to retire.
First, estimate a range (budget) for how much you think you’ll spend in retirement—from needs, to wants, to grand plans. (For those less budgetary inclined, rules of thumb like 80% of your current income can be a good place to start.)
Second, add up your retirement income sources, such as:
- Savings and Investments
- Social Security
- Retirement Plan Assets
- Pensions and Annuities
- Part-Time Work
Summary of Retirement Income Withdrawal Strategies
If you’re just learning about retirement income withdrawal strategies, here is a summary below (in plain English!) on some of the most common approaches. It’s critical to do your homework and understand the pros and cons of each.
|Income Strategy||Plain-English Summary||Resources to Learn More|
|4% Rule||Total up your investment portfolios and multiply the value by 4%. This is the amount you are allowed to withdraw each year in retirement. Every year you take the amount and adjust by inflation.||Learn More|
|Guardrails||Known as a “dynamic” distribution strategy. After you determine the initial withdrawal rate, use the rules of this approach to increase and decrease your allowable withdrawals each quarter based on inflation and the performance of your investments.|
While your quarterly retirement paycheck will fluctuate up and down with the markets, this approach will allow you to maximize your income and avoid leaving a mattress full of money at the end of your life.
|Learn More |
|Interest & Dividends||Construct a portfolio of dividend-based investments and bonds (i.e., income-producing securities). This strategy has you withdraw these dividends and interest payments without touching your principal invested.||Learn More|
|25x, 33x, 50x||Create an annual retirement budget. Then, before you retire, accumulate a nest egg of at least that amount, multiplied by your estimated number of years in retirement.||Learn More|
Third, determine which is bigger: your income sources or your retirement spending estimates?
If your estimates are realistic and you’ve got considerably more income than expenses, you are almost ready to go.
If your projected after-tax income won’t cover your spending plans, you’ll need to make some adjustments.
But what’s truly “realistic”? How could our expenses change in ways we haven’t anticipated? What are the weaknesses in the methodology used to determine a sustainable income from your portfolio? Have we considered all the angles?
It is very important to identify key weaknesses or areas where your plan could go off the rails.
Here are a few details we often see people overlooking in their calculations:
- What’s your life expectancy, based on family history and your own health? This will help you zero in on prudent retirement spending by age.
- How much will health insurance and health costs run you?
- Will you stick with your investment strategy in both good and bad times in the markets?
- How much high-interest debt are you carrying? Can you pay it off before you retire?
- Do you, or might you have dependents?
- Do you have a well-stocked emergency fund (typically, at least a year’s worth of padding)?
- How will your monthly expenses change when you retire—not just in a vague “I’m sure we’ll be spending less” way, but based on actual accounting.
- What kind of investor are you?
- What about taxes? Don’t assume they’ll decrease just because you’re retiring. Some years, taxes may actually be the same or higher as you spend down your taxable and tax-deferred investment accounts.
How Will My Expenses Change in Retirement?
While many assume expenses will go down in retirement, that’s not always the case.
The following expenses typically change the most in retirement and demand some extra attention: taxes, healthcare, charitable contributions, and housing.
Hopefully, you have an idea of what you want your retirement lifestyle to look like. For many, this means continuing to live the same lifestyle enjoyed before retirement (minus the work part). For some, it means doing even more fun things, which may increase your expenses in retirement.
Outside of lifestyle changes in retirement, we find clients entering retirement to be most surprised by the unexpected cost and impact of their taxes and healthcare (see below) in retirement. While these aren’t the most exciting topics to plan for, they do play a massive role in retirement success.
Oftentimes, we see clients overestimating how much their tax rate will fall in retirement, or not properly accounting for how much withdrawing from their retirement accounts will impact their tax bill.
Unfortunately, when you retire, your tax bills don’t magically disappear.
If you have deferred taxes for years by contributing to a 401k, or building up unrealized gains in your taxable accounts, the tax bill may come due as you enter retirement.
We create lifetime tax plans for clients and suggest you do the same. Perhaps start with a plan for your taxes for the next 5 years, as a more digestible starting point. (Note: Tax codes are written in pencil and may change as much as your portfolio changes!)
“At a minimum, create a tax plan several years before retirement.”
Still not sure if you’re retirement ready?
We find it helpful to try a dry run, living within your projected retirement income budget for at least a year before you actually retire. Deposit only the budgeted amount into your checking account, and have any other income automatically moved elsewhere, out of reach.
Healthcare in Retirement
According to a 2021 Kiplinger’s Personal Finance survey, healthcare expenses fall just behind rising inflation as a concern that keeps retirees awake at night.
People are living longer and retiring at an average reported age of 61.
That’s nice, but not if you forget that Medicare coverage doesn’t kick in until you’re 65. Even then, it’s easy to be blindsided by the various costs of Medicare parts and supplement plans.
How Much Will Healthcare Cost in Retirement?
Unfortunately, healthcare in retirement will likely cost more than you think. Enrolling in the various parts of Medicare can often add a cost to retirement that you weren’t planning on.
For example, in 2023 Medicare Part B for high-income households costs as much as $560.50 per month, per person. Generally, healthcare costs can be broken down into two categories (as described below): before Medicare, and while on Medicare.
Before retirement, talk to your human resources department (if you have one) about whether your healthcare benefits will continue. If they don’t, ask about the finer details on how your plan works with COBRA, and any ability to extend it.
*Healthcare is one of the leading causes of bankruptcy, please ensure you have adequate coverage.*
How Do I Estimate Healthcare Expenses?
To conclude, here are a few key points to review with your financial planner and/or a reputable insurance agent:
- Familiarize yourself with how Medicare works. While you generally don’t have to pay for Part A, the various other parts B, C, and D all have there own costs associated with them.
- Read this overview of Medicare to get information on the various estimated costs.
- Note: you will get bombarded in the mail/solicited by a lot of companies offering Medicare solutions as you approach Medicare eligibility.
- If you expect to retire before age 65 (current Medicare Eligibility date), and will not have any employer-provided healthcare coverage in retirement, you will be retiring before Medicare eligibility. A good next step is to go on your state’s healthcare exchange and get estimates.
- If you’re a Washington state resident, click here to learn what is included.
- Keep an eye on the annual estimates on coverage available from the healthcare exchanges, as they frequently change.
- If you plan to work past age 65, research whether or not Medicare overlaps with your employer’s healthcare coverage.
- You may be able to save a significant amount of money in a hospital/emergency situation by knowing whether Medicare or your employer’s policy is your primary insurance coverage.
- Even if still covered by your employer, you generally need to sign up for Medicare Part A.
Along with Medicare, you may also benefit from long-term care insurance or other strategies for covering healthcare expenses related to a debilitating illness or injury.
For that, you can check out our blog post, “Creative Ways to Fund Long-Term Care.”
Real Estate Retirement Questions
One of the most common questions and favorite discussion points of clients in the Seattle/Tacoma area is: What do we do with our home in retirement?
As home prices have soared in the last several years, you may have a lot of equity in your home and be considering selling.
But remember, even if you do sell your home and capture the equity, you still have to find somewhere to live.
Should I Sell My House?
While this question deserves more in-depth analysis, here are a few essential talking points to help get you started:
- Personal preferences: Is continuing to live in your community something you want to do? Where do you want to live? What do taxes, cost of living, and real estate prices look like there?
- Practical: Will your home age with you? Is it possible to live on the first floor? How close are you to healthcare/emergency services? Is accessibility by friends and family reasonable as you age? Will they want to travel there to visit you? Do you want to continue to deal with the hassles of home ownership?
- Prep work: What will it take to sell your current home (decluttering, repairs, upgrades, etc.)?
- Financing: How will you finance the move, and what will that cost? (Case in point: We’ve seen individuals apply for a new mortgage in retirement, only to discover their lack of a traditional paycheck resulted in them qualifying for a much lower amount then was expected.)
- Taxes: What will the tax ramifications be on the sale of the property? If moving out of state, will there be an income tax?
- Net worth: what percent of your net worth is in real estate? Do you have sufficient liquid assets to go to in case of emergency?
What About the Seattle Real Estate Market?
In 2021, Seattle fell from the #2 hottest housing market in the country all the way to…
…wait for it…
Redfin also has Tacoma listed as the #4 Most Competitive City in the Nation!
For better and worse, the average home price in Seattle and the surrounding areas is substantially higher than in most of the rest of the country.
While this has been a boon to many homeowners’ net worth, it is leading many to think about relocating to areas with lower housing costs and locking in their home equity gains.
That can be a windfall when you’re the seller, ready to downsize, relocate, or otherwise start anew.
But you’ll still need to live somewhere. Whether you buy or rent in Seattle, those sky-high prices suddenly become a headwind in your way.
When You Sell a House Do You Have To Pay Taxes?
The Federal government taxes on a portion of the difference between your equity stake and the sales price. So, if you bought your home 50 years ago for $50,000 and you sell it for $1 million, that’s a $950,000 difference!
- You get to exclude the first $500,000 of gains for a married couple, or $250,000 if you’re single.
- You’re taxed at capital gains rates, which are usually less than ordinary income rates.
- You can also whittle down the taxable gains by adding property improvement costs to your home equity. Start hunting down those records today for the money you’ve sunk into your home over the years.
Taxable gains on a home sale can also wreak havoc on your overall tax return. It’s worth planning for the event with a tax specialist who can advise you on ways to offset the pain.
For example, if you’re charitably inclined, you might use some of the gains to fund your Donor-Advised Fund.
You may also decide to stay put. At least for now, the step-up in basis upon inheritance remains alive and well, meaning your heirs won’t incur the same gains you would upon sale.
Or you could rent rather than own in retirement. This won’t mitigate the gains. But it might give you a more hassle-free lifestyle, and the financials may pencil out about the same or better.
Again, it’s worth having a professional help you compare and contrast all your options before you decide which one is best for you.
What About the New Washington State Capital Gains Tax?
As touched on above, many long-time homeowners in the Seattle/Tacoma region have a lot of equity built up.
Fortunately, the relatively new Washington State capital gains tax exempts gains on your principal home, so you should be square there.
Side note: Unfortunately, you might be subject to specific Washington State capital gains taxes on the rest of your taxable portfolio. Especially if you are not careful about the years you recognize gains in your taxable investment accounts. In 2021 the Washington State Legislature enacted a “quasi” income tax for the state. If you recognize more than $250,000 in capital gains in a calendar year, you will incur an additional 7% tax on amounts above the threshold. Please see the link above for some other useful planning and information about the tax.
To make informed choices, start planning before you retire. True, your plans will evolve; there’s no telling what the Seattle real estate market (or any other place) will be moving forward.
But the roof over your head is usually a big chunk of the cost of living. By planning ahead for this significant expense, you’ll have more realistic numbers for answering Question #1: How Much Do I Need To Retire? (Plus, some independent living communities have long waiting lists.)
Retirement Investment Questions
Watching your portfolio of investments decrease in value can be anxiety-producing. That’s true whether it’s from the simple act of regularly pulling out money for retirement income, or from dips in the stock market.
When both happen simultaneously, it can become terrifying. It can feel like a mysterious force is working against you!
In retirement and with a “fixed” nest egg, it is easier said than done to consistently follow a retirement income strategy through good times and bad.
Of critical importance is to have a plan, constantly monitor it, and only make changes when necessary. Always remember, you are planning not just toward a specific retirement date, but for the rest of your life, and potentially for multiple generations.
How Do I Invest for Retirement?
Based on generic advice about how to invest in retirement, people often assume they should automatically invest more conservatively once they retire—decreasing their stock allocations and increasing their fixed income.
You might call it the “bird in the hand” approach: Aspirational returns are reduced, but the wealth you’ve already accumulated is less likely to fly away.
For the right reasons, there’s nothing wrong with this approach.
When you’re investing for retirement, you’re in accumulation mode, working and actively contributing to your accounts. You have more time to ride out the stock market dips and reap their expected rewards.
When you invest in retirement, you’re in decumulation mode. It’s a double-whammy to your wealth when the stock market falls and you have to withdraw money for spending.
However, while retirement spending is a factor influencing your investment strategy, it’s by no means the only factor. Each situation is different. Each investor is different.
And remember, you’re not just growing your investments for the day you retire. You’re building a portfolio to meet your needs for your entire life, which could include several more decades after you’re no longer working.
Should I Change My Investment Strategy for Retirement?
If your current portfolio has been serving you well, adjusting it for retirement may be more about making modest adjustments than major overhauls. Here are some steps to help you prepare:
- Evaluate your portfolio’s overall effectiveness: Is it already structured to reflect your personal goals and risk tolerances? Is it globally diversified to minimize concentrated risks? Is it invested in well-managed, low-cost funds?
- Ensure that you have enough money in your emergency fund to endure a sustained downturn. That way, you’re better positioned to leave your investment plans in place, knowing you’ve got a sturdy safety net to see you through the challenging times.
- Evaluate how much growth you need from your investments to maintain your desired standard of living in retirement. If you’re investments are exposed to more risk than required to pursue the necessary growth, it may make sense to reduce those risks. If you need more growth than your portfolio is likely to deliver, you may need to reconsider your retirement plans.
Social Security Retirement Questions
The next most common retirement questions we field tend to be about Social Security.
Why is it so important?
As it is not subject to the ups and downs of the stock market, Social Security can provide a stable and regular income source for you to live on in retirement. It is often the bedrock of any retirement income strategy.
If you or your spouse have worked and paid into the program for more than 10 years you are likely eligible for a benefit. Go ssa.gov to see what your benefits look like.
Please see our guide on Social Security for more detailed answers and considerations surrounding social security.
When Should I Claim Social Security?
Big picture, try balancing data-driven and quality of life factors as you decide when and how to tap your Social Security benefits.
Ask yourself, if you were to take the benefit today, what would you do with the money?
For those looking for a quick, rule-of-thumb answer:
To maximize your personal benefit, delay taking Social Security as long as possible—UNLESS taking it sooner will significantly enhance your overall retirement.
But what if your life expectancy isn’t so great, or you sorely need the money right now?
If the additional income from turning on your Social Security benefits would allow you to do something that would increase your life’s satisfaction significantly, you may want to begin your benefits earlier.
Is Social Security Taxed?
Yes, Social Security is typically taxed. If you file a joint tax return and are above the income threshold, depending on your benefit amount and other taxable income sources, up to 85% of your Social Security benefits may be taxable.
For Example: Jack and Jill have an AGI of $100,000 and receive a combined Social Security benefit of $25,000. As a result, there “combined income” is $100,000 + $12,500 = $112,500 which is above the upper married filing jointly $44,000 Social Security threshold. Therefore, $21,150 (85% of the $25,000) in Social Security benefit is taxable.
If I’m Receiving a Company Pension, Am I Still Eligible for Social Security?
If your career has been in the private sector, then it is very rare to have your pension impact your Social Security benefits.
However, if you have held a government or railroad job at any point that has its own form of Social Security you may need to conduct additional planning. If you have heard any of the following terms discussed: windfall elimination provision, pension offset, social security replacement fund, you likely need to investigate your pension options further with your employer.
What if Social Security Goes Bust Before I Reach Full Retirement Age?
In my sole opinion, I find it unlikely that there is a scenario where your Social Security benefit goes to zero.
Changes to the amount you receive and when you receive it seems possible. So do new qualifications, means testing, taxes, and inflation calculation changes.
The “silver lining” is, if you start planning now, I would anticipate phased implementation of any such changes, giving you sufficient time to make any adjustments.
“What would my retirement look like if I were only to receive 80% of my Social Security benefit?”
If Social Security running out of money causes you to lose sleep, if possible, please do not be entirely dependent on your entire Social Security benefit.
Will Social Security Run Out of Money?
Every year Social Security releases its projections on funding and tax revenues to cover payments. And every year, this topic fills the airwaves. You can find that report here.
It also seems to be one of the few areas where the government looks farther into the future than usual.
There are many possible solutions to this problem and predicting with any degree of confidence what the government will do over the next decade is anyone’s guess.
While we don’t have a crystal ball and don’t know exactly when/if Social Security will run out of money, we figure:
- It seems highly likely Congress won’t let the program go entirely belly up.
- We expect it will find “solutions” that will cost more and deliver less—which in turn will require a fresh round of retirement planning.
- Even if the government does almost nothing to address the shortfall, we would not expect your benefits to fall to zero. A reduced benefit amount is more likely.
If you have more questions about Social Security, check out our other comprehensive guide for retirement savers, “The Top 13 Social Security Questions Answered.”
Are You Ready To Retire?
What will it take to retire on schedule?
You’ve now learned about the steps you can take to prepare for spending, drawing Social Security, paying for healthcare, living, and investing in retirement.
You may have spotted a related message we tucked between the lines of our advice:
At Jarvis Financial, we love helping Seattle-area families navigate through these and many other retirement planning challenges, as they prepare for their ideal retirement years.
“Will You Run Out of Money in Retirement?”
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