8 Risks facing your retirement
Back when I was in my late 20s, my son and I had been invited on a campout with a group from our church. I was living in Las Vegas at the time, and then my son was only about two or three years old, so he could walk, but he couldn’t walk for long distances, which was the plan for this outing.
We’re getting excited to go, and we’re getting everything together, and one of the things that I wanted to know was how are we going to have to walk? How far was this place? Because I needed to know based upon the age of my son. I need to know how I could best prepare for it.
We were going out in the middle of the desert. It was late in the spring. It was quite hot as the temperatures were getting into the 90s, low 100s. We were leaving late in the afternoon that day. Although it was going to be hot, I thought it would start cooling off as evening came around.
I started asking them more questions. One of the guys who had been out to the place where we’re going said that it couldn’t be farther in the mile. With that in mind, I thought, okay, my son can walk part of the way, but he’s not going to be able to walk it all. But for a mile, I can carry him along the way.
As we got out of the car, unloaded our stuff, and my son and I went hiking, heading over to where we were going, I realized that there were two things that happened that I hadn’t prepared for.
Number one, the distance was way over a mile. We got to a mile, and we still had about two thirds of the distance to go. Well that created the other problem, and that’s that I didn’t have enough water for myself. I hadn’t brought enough liquid. Thinking we would only hike a mile, we’d be able to rest, get our dinner, take care of everything and then have a short hike back out early in the morning before it got too hot.
I had not brought sufficient water. What did I do? I sat there, and I worried for the next two miles. There I was, carrying my son as far as I could, and I put him down. He would walk as far as he could, and I’d pick him up. All this time, I’m worrying that we’re going to run out of water. I knew at some point, there was no way I was going to get through this with the water I had. It just created this unnecessary worry in my life. But we finally got where we were going. There were some other guys that did have a little extra water to give to us to get back. We were able to survive the experience.
I tell you this because for many of you, retirements are the same way. That when we get ourselves in a position where our retirement funds are going to run out, the biggest problem is the period of time leading up to the time they run out. I mean for myself once I got to camp and realized I didn’t have the water, I began going about the process of solving the problem, and in our own lives even in retirement, we can do the same thing.
But leading up to the time that we run out of money or up to the time that we pass away, there’s a lot of uncertainty. It’s this time that creates so much anxiety and so many problems with many retirees that I wanted to share with you some things to help you get through retirement and avoid many of the risks that you’re going to face.
I’m going to share with you eight different risks. We’re going to talk about some of the problems that they create and some things you can do to solve them.
First – Social Security Risk
The biggest risk that you have with your Social Security is determining when you’re going to take the money. You have an opportunity to take it at age 62. For most people, now age 66, would be your full retirement age or age 70. Far too many people think they’re not going to live that long. They think that they’ll just start taking it 62 even though they are not going to get as much money per month.
The problem is that people are living longer than they expect. If you do, and you start taking money at age 62, by age 81, somewhere around age 81, you’re going to hit a break even point. You’re going to be at a point where you’re going to lose substantial, additional benefits that you could have had if you would have waited until 66, or preferably even age 70. And worse, you could also be hurting your spouse.
If your spouse is going to be relying upon your benefits once you pass away, they’re going to want the highest amount possible because when you pass, there’s only going to be one source of Social Security coming into the house. The more money they can have, the better it’s going to be for them.
You want to make sure that when you look at taking your Social Security out, you figure out your estimated life expectancy, which you can do by applying for life insurance. Life insurance companies are great at determining how healthy you are and what your rate of risk is that you’re going to die at any given time. However, you want to make sure that you do this because again, it’s not only for yourself but for your spouse.
The other issue that many people have is the taxability of Social Security. They have too much money in their tax deferred or tax free bucket. It creates provisional income, which then causes their Social Security to be taxed. When this happens, you run out of money five to seven years faster. It’s very important that you do what you can, leading up to retirement, to be able to solve these problems.
Now, if you have questions about your Social Security, one of the best things that you can do is go to the Social Security Administration website ssa.gov. On the site, you’ll be able to sign up for an account, where you’ll be able to figure out how much of the benefit you’re expected to get at your full retirement age and then at age 70 if you were to go that long before you took out the benefits. There’s also a calculator on there where you can do a number of calculations. This is great information to help you better understand what benefits are available for not only you but for a spouse, or for even dependents or children. You may even have ex spouses, and many times they can qualify for some of your benefits.
Second – Lack of Income Diversity Risk
When we are preparing for retirement, one of the biggest challenges we have is if we’re not diversified. We are at risk of losing all of our assets. Unfortunately, in my career, I’ve seen far too many people fall subject to this problem. I’ve had many of my clients who have invested all their money into their business. We have something like we have now where there’s an economic downturn, and they lose everything. There’s nothing left by the time they’re done.
But when you get into retirement, it’s not such a big concern regarding your assets. What you want to make sure you have is the diversity of income. If you don’t have diversity of income in your retirement, you’re also going to have issues because you want to make sure that you have multiple streams of income that you can pull out of during those retirement years. Focus more on your income because this is what you need in retirement.
If there are assets left over in the end to give to your kids or charity—great—but don’t sacrifice your retirement years in the hopes of giving your kids all the money. What happens with kids when they get all the money is they go out and do all the things that you were unwilling to do yourself, so why not enjoy your life, be able to take advantage of the things that you built up. Again, if there’s something left, great for the kids. If not, you just move on and allow them to take care of themselves at that point in life.
Third – Tax Rate Risk
Tax rate risk is the risk that taxes are going to go up in the future. What could possibly happen to cause taxes to go up? Well, I can think of three main things. In other blogs, maybe you’ve heard me talk about these. Social Security is one of the big ones with Medicare being even bigger than Social Security. It’s turning out that the national debt may become bigger than any of these.
We’re on a track right now to hit what I estimate within the next year, somewhere around 28 to $30 trillion in our national debt. That will have gone up by almost 8 trillion dollars just over the last year as we continue to add this stimulus. Part of the other issue we have is we don’t have money coming in at the levels that we have in the past because business is not doing as well.
If you believe that taxes are going to go up in the future, you need to start solving this problem. You need to start making sure that your assets are in that tax free bucket because if not, you’ll find out that you’ll run out of money substantially faster than you otherwise would have.
Another great thing that you should look at here, especially if you’re putting money into a tax free asset, such as a Roth IRA, you’re able to put more money in there, then you are in a traditional account. Now, how can I say that they have the same contribution limit of $6,000? I say that because if you put it in after tax, now you’ve got $6,000, which you can then allow to grow completely throughout your retirement. If you put it in before tax, then that $6,000, at some point, is going to have to have taxes taken out of it. Your investment will be less than what you put into your tax free bucket. It’s a great opportunity to prepare by filling up that tax free bucket.
Fourth – Longevity Risk
Longevity risk is the risk that we’re going to live too long, and this is one of the challenges many people face right now. In fact, it’s the biggest concern that retirees have. Instead of being concerned they’re going to die, they’re afraid they’re going to live too long and run out of money before they do.
Now, is this a reality? For many people, yes, unfortunately, it is. If you make it to age 65, for an average male, your average life expectancy is 84. If you make it to age 65, as a female, your average life expectancy is now 88. Many of you are going to live into your nineties or even into your hundreds. Longevity is a big issue. The biggest problem with longevity risk is that it is a magnifier of other risks. Some of those we want to talk about here.
Fifth – Sequence of Return Risk
This is the risk that you have when you start taking money out of your account, the value is going to go down. Right now, we’re here in 2020. The market dropped substantially although it’s come back up quite a bit over the last month or so. However, it went down 20%.
Well, if you had to start taking money out for your retirement when that account was down, your retirement has a chance of running out of money up to 15 years faster than otherwise would. Your retirement can be cut in half, especially if you have down years during the first three years you start taking withdrawals out. You need to look at this in your own life. The five years leading up to and the five years after your retirement are years you want to make sure that the market is not going down because if it does and you have to take money out, it can completely derail your retirement.
Sixth – Withdrawal Rate Risk
This is the risk of you’re going to take out too much money. I go across the country talking to CPAs. One of the questions I often ask them is what’s the appropriate amount of money you can take out of your retirement account and not have issues? Well, the market historically is down between 8-9%. People think if the lower is somewhere between 6 or 7%, they should be buying, but the average return is 8-9%. They think they’re only taking out six or seven. They’re still making money, and they should be fine. Well, that is not the case.
Because of the sequence of return risk and market rate risk, the amount of money you shouldn’t be taking out in order for your assets to last you through retirement is only 3%. Some people are saying it could be as low as 2.8% now. Many people overestimate the amount of money they can take out.
In fact, in 2008, MetLife did a survey of retirees asking them how much money they could take out of the retirement account. 43% of them said they thought they could take up to 10% without running out of money. Well, if you go fast forward 10 years after people would have done that and you were to go talk to them now, chances are that the majority of them will have run out of money. If they continue to do that, they would have had to make some type of adjustment.
Seventh – Long Term Care Risk
Many retirees don’t realize, especially as you live longer, that chances are you’re going to have some type of long term care event. If you make it to age 85, you’ve got a 70% chance of needing some type of long term care assistance. Historically, you’ve had a couple of options to take care of this, and you’ve had three of them.
One, you could self-insure yourself, which is very expensive. Number two is to rely on a rich family member, which generally doesn’t work out too well. And the third is to buy long term care insurance. Unfortunately, when you buy long term care insurance, it can be very expensive, and it can also be hard to qualify for at times. If you’ve got a bad knee, a bad back, or any other physical problems, they may not even qualify you for long term care coverage. Obviously, if this happens, now you’ve got to fall back to your self insurance.
The other problem that you have is that if you were to pay for long term care insurance for a 30 year period of time, and die peaceful in your sleep, never having had to use this insurance, you’re not going to get anything back. So many permanent life insurance companies now have put into place inside of the policies, the ability to use part of the death benefit to cover a long term care event, and it can be a great opportunity for the right person to take this risk off the table. This is what we’re really trying to do. We want to make sure we’re doing the things that we should be to get these risks off the table. Our money will last us throughout our retirement.
Eighth – Inflation Risk
We talk about this all the time. One of the things I’ve talked about in previous blogs is the rule of 72. We use that rule to determine how fast our assets are going to grow usually. If you’ve got an asset that’s making 10%, you divide it by 72. Over 7.2 years, that asset’s going to double.
However, when we get into retirement, it goes the other way because most people are on some form of fixed income. If they’re on fixed income that is not being adjusted for inflation, over a period of time, their buying power is going to be reduced and for many people reduced substantially.
Let me give you an example. Inflation rate is 3%, you divide that into 72, and 24 years is the period of time that your buying power is going to be cut in half. If you’re making $60,000 a year off of a pension, or some other type of fixed income retirement over 24 years, by the time you get to the retirement age of 60, by the time you get to age 84, that buying power is going to have been cut in half. If you can imagine right now living off half the money you’re currently getting, it doesn’t work well for many retirees, and what they’re finding as they get older is they’re having to give up many of the benefits that they were able to enjoy earlier in their retirement.
How do we solve all these risks? I have talked about a number of risks facing your retirement: Social Security risk, lack of income diversity, risk, tax rate risk, longevity risk, sequence of return risk, withdrawal rate risk, long term care risk, and inflation risk. This is a huge laundry list of risks that you could be facing in your retirement. Well, how do you solve these? The solution is putting together a well-organized plan and focusing more on getting through retirement than focusing on getting to retirement.
Unfortunately, many financial planners and I would say, even many fiduciaries, they focus too much on getting you there to retirement rather than getting you through retirement.
It’s getting through retirement. That’s the important part, and it’s pretty easy for most people to calculate the amount of money that they’re going to need to get to retirement. This is very different when you get to all these risks, and you’re trying to navigate around them and eliminate those the way you should.
I’m here to tell you, if you’re relying on just a traditional stock market portfolio in your IRA or 401k, you have not eliminated any of these risks. You’re still going to be subject to lack of income diversity risks, tax rate, risk, longevity risk, sequence of return risk, and withdrawal rate risk for many of you because you’ll have to pull out more money for things such as shock expenses and aspirational expenses. You’re also going to still have the long term care risks.
If you’re putting your money where 95% of the rest of the retirees are putting their money, you’ve got a problem. You need to get yourself into a position where you have multiple streams of tax free income. Or you can use other products, such as annuities and life insurance, to help you take these risks off the table.
You’re not like I was on that camping trip with my son, where I was so concerned about running out of water and the problems it was going to create and whether or not I could continue to carry my son any farther or not. Your retirement is not going to be like that. It’s going to be a situation where you know, you’re prepared, and you no longer have to worry about it. You can just go through your retirement. Enjoy the time that you have.
What we found is that people who have guaranteed lifetime income, they’re the happiest people in retirement because they know every month that the check’s going to come in. They know how much is coming in, for they can plan around that. It’s when people get themselves into a position where they don’t have this income that they really worry about in retirement because those assets really start depleting themselves, especially with medical costs and other things you have to spend money on as you continue to get older.