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Thayer Partners Blog

Why Retirement Income Planning is Different from Financial Planning

[fa icon="calendar"] Oct 8, 2015 1:00:00 PM / by Chris Wilmerding

Chris Wilmerding

At Thayer Partners, we place a heavy emphasis on Retirement Income Planning, not just Financial Planning.

Why would we do this? Don’t the two terms mean basically the same thing?

Actually, no. These two terms don’t necessarily mean the same thing. While financial planning is a broad category of services that includes retirement income planning, estate planning, insurance, and portfolio management, many financial planners focus primarily on managing your investment portfolio with the goal of growing it large enough to provide sufficient income at some distant time in retirement. Sadly, they spend little or no time discussing and reviewing the other pieces of the puzzle, especially retirement income planning which is what actually delivers the retirement “paycheck” to your account every month.

Retirment_Income_Planning_vs_Financial_planningThe Problem with Most Financial Planning

A lot of financial advisors build a financial plan that shows 30 years of cash flows based on several general assumptions--assumptions such as 6% a year portfolio growth going in a straight line on a pretty little chart for the entire 30 years. Another assumption is that the bond market will continue to “play nice” and deliver a consistent, safe and steady income flow to offset the more volatile stock portion of your portfolio.

These are the assumptions that financial advisors have in mind when they recommend the 4% Rule to retirees. Under this rule, you would take 4% of your investment portfolio out to cover living expenses.

Retirees are fooled into thinking that this is fine, since their portfolio will be growing by 6% every year, more than making up for the 4% being taken out and ensuring that their investment portfolio will keep apace with inflation. This is kind of a spray and pray approach (where they expect the portfolio to grow enough to meet your income needs in the face of inflation, medical costs, and innumerable unforeseeable market crises) and urge clients to “save more” in their retirement savings accounts. However, this approach is completely inadequate for retirement planning.

There are a few problems with this:

  1. There is NO Such Thing as a steady 6% annual growth in the stock market. Any advisor who tells you that your portfolio with grow by a steady 6% year-over-year for three decades without addressing the possibility of large market fluctuations and prolonged down markets is simply not dealing with reality (and giving you a false sense of security in the process). There are far too many variables that can adversely impact the value of any investment portfolio.

  2. Elvis has left the building. Bonds, which have a fixed rate of return based on the initial investment, no longer provide that steady consistent income stream retirees want and need.

  3. Your Retirement Strategy is almost 100% Dependent upon the performance of the stock market. In the old days, you could have a portfolio comprised of half stocks and half bonds. The bonds would pay, say, 5% plus a year, and the values would not fluctuate very much. The other half would be stocks which, although more volatile than bonds, would deliver some income in the form of dividends and provide a hedge against inflation. As we’ve already said, today’s bond yields of 2% to 3% simply aren’t “paying” the investors enough.

Some advisors might suggest using as deferred income annuity, an immediate annuity, an immediate annuity paired with life insurance (to replace principal) or even an indexed universal life insurance strategy to create a kind of synthetic bond portfolio in this age of low interest rates.

So What’s the Solution?

As I said earlier, retirement income planning is a part of financial planning, an important part.

Yes, maximizing results from your investment portfolio is important so that you have the most money possible by the time you reach retirement. This is why many advisors focus much of their time effort on your portfolio. But it’s not enough. Financial planning doesn’t stop when you reach 65 and notice your account value is $1mm (with great excitement) because you will naturally then wonder how you are going to generate the income that will cover your living expenses. This is exactly where retirement income planning plays a critical role. By planning ahead and having a well thought out retirement income strategy, you can draw on a few different income streams to pay the bills and help avoid running out of money in retirement.

Growing the old investment portfolio is nice, but it doesn’t cover all of these different needs.

Think of your retirement income like a river, and each of your income sources is like a stream feeding into the river. Retirement income planning creates multiple streams of income feeding into the river to make that body of water as large and wide as possible.

Retirement income planners try to help you get as many revenue sources going as possible to spread out your risk so that you have as dependable and consistent a source of income in retirement as possible.

The major focus here is to avoid running out of money in retirement so you don’t become a burden on your family or get left without the means to support yourself. Leaving a legacy for your kids is nice, but that should be a (distant) second priority compared to making sure your own needs are covered.

* Advisory services offered through Commonwealth Financial Network, a Registered Investment Adviser.

Topics: Retirement, Retirement Income Planning

Chris Wilmerding

Written by Chris Wilmerding

Chris Wilmerding is Principal of Thayer Partners, an independent investment management firm located in Westwood, MA providing financial planning and wealth management counsel to individuals and their families.

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