The way you receive income changes in retirement. Instead of earning a paycheck every other week from an employer, a large portion — if not all — of your income in retirement will be derived from your assets. But if you don’t change your financial strategy, you could risk outliving your savings.
Step No. 1: Create an income plan
The first step in this transition requires you to assess your financial situation. List your assets, including savings, investments, real estate and retirement accounts. Then determine your current and future living expenses, considering inflation and health care costs, and calculate those expenses with guaranteed income sources including Social Security, pensions and 401(k) and IRA savings.
Once you’ve got an idea of your financial situation, you’ll want to create an income plan. Organize your different sources of income into the following three categories: guaranteed income, investment income and portfolio withdrawals. Guaranteed income is the funds you’ll receive from Social Security, pensions and annuities. Investment income refers to dividends, interest and any rental income. Your portfolio withdrawals will come from your IRA, 401(k) and any other taxable accounts.
Step No. 2: Create a withdrawal strategy
The other component of your plan should include withdrawal strategies for these accounts. Consider using the 4% rule as a starting point for annual withdrawals from retirement accounts and opt for dynamic withdrawals to adjust based on market conditions.
With a plan in place, you can now optimize your asset allocation. When it comes to your portfolio, it’s important to keep it diverse by maintaining a mix of stocks, bonds and cash to balance growth and stability. You’ll also want to increase liquidity by ensuring you have access to one to three years’ worth of living expenses in cash or short-term bonds to cover immediate needs. It’s also important to adjust your risk tolerance by shifting to more conservative allocations when needed to reduce volatility, yet maintain growth potential as you’re nearing or entering retirement.
When transitioning from earned income to retirement income, minimizing your tax burden becomes even more important. You must therefore plan how you’re going to withdraw funds from your various accounts. Prioritize making withdrawals from your tax-advantaged accounts, such as Roth IRAs and health savings accounts (HSAs). You also need to be aware of required minimum distributions (RMDs), particularly for traditional IRAs. For traditional IRAs, you must start making withdrawals once you turn 73. As for your 401(k) or profit-sharing plans, you can delay taking RMDs until the year you retire, unless you’re a 5% owner of the business sponsoring the plan, the IRS states.
As for Roth IRAs and designated Roth accounts, RMDs aren’t required until you die. Once you die, your beneficiaries will be required to take these distributions, complying with the IRS’ guidelines.
Another tax-efficient strategy is to harvest capital gains, by taking advantage of lower tax rates on capital gains in low-income years.
Step No. 3: Monitor and adjust
If you’re looking for ways to grow your income in retirement, look for opportunities to make passive income. You can invest in dividend stocks, get involved in real estate by investing in rental properties or REITs or purchase annuities.
Once you reach retirement, it’s important to monitor these strategies and make adjustments as needed. Keep your expenses in check, especially in the early years of your retirement, and make sure your investments are keeping up with your financial goals. Market changes can also impact your financial situation and may require you to adjust withdrawals or asset allocations. A financial adviser can help you navigate these challenges, while helping you create a plan that suits your specific needs.
These independent views and opinions are expressed are those of Joel Russo and are not necessarily the opinions of CoreCap Investments. Securities sold through CoreCap Investments, LLC, a registered broker-dealer and member FINRA/SIPC.
