These 2 Crucial Questions Will Determine Your Retirement Income (2024)

The following is adapted from It’s All About the Income.

Far too many people are focused on the old formula when preparing for retirement. You know the one: Get a good job and keep it. Spend less than you earn. Park the money in the bank. Live off the interest, and never touch the principal.

Unfortunately, focusing on the old rules can create financial misery in today’s reality. Living on interest may mean living on nothing but Social Security. In my opinion this is nobody’s dream of a rewarding retirement. What your parents considered secure may only be only danger and disaster for you.

In retirement, you may need safety of principal, just not for all your investable assets typically. You also need a reliable income stream, as your bills will continue to arrive reliably. Given ever-present inflation, you need your income to grow.

It would be nice if there were one investment or one financial product that provided these three benefits. That’s the unicorn. It doesn’t exist. It would also be nice if a Chevy Suburban delivered fifty miles to the gallon or if a Toyota Prius could tow a boat. These, too, are impossible.

Therefore, you must use three elements to create your retirement income: fixed assets for conservation of principal; Social Security, pensions, and private annuities for reliable income stream; and stock or equity-based assets for growth of income.

The two questions that you must ask and answer—because they are at the core of successful retirement income planning—are how much of each element you need, and how much of each you want.

Focus in on spending

Studies show that, within limits, money can buy happiness. And even if it can’t buy permanent bliss, it can rent it for a while. As Chris Janson points out in his hit song, it can buy a boat and a truck to pull it.

Lots of retirees seem to worry about things like asset allocation, income generation, and growth and protection of their money pile. In other words, they worry about spending too much. Of course, sometimes that’s a valid concern. But in my experience, most people who get to retirement having amassed a sizable portfolio do not have spending problems. If they do, it’s a problem of not spending enough.

Chances are that if you make it to retirement with at least $500,000, you will take your last breath with just about as much money as you retired with. So, spend. Take the vacation. Buy the Lexus, Lincoln, F-150, or maybe even Tesla if that puts a smile on your face.

Be generous with your children and grandchildren. If you’re tired of shoveling snow, head south or southwest for the winter months. It’s your time. Use your money. If you don’t, I assure you that your children or someone else will.

It’s in the spirit of plenitude, not scarcity, that I recommend that you take the time to create a projected spending plan—a budget, if you will—for the early years of your retirement. Its purpose is not to hem you in, kill a retirement buzz, or remove the punch bowl from your retirement party. It’s an acknowledgment of how the relative importance of income and expenses reverses on the day you leave your office, factory, or job site for good.

Track your spending with Quicken or Simplifi by Quicken

Spend ’til your end

While you work, your income tends to drive your financial life. It determines your income and payroll taxes, how much you can spend on life’s necessities and even luxuries, and how much, generally, you can save. Once retired, it will likely be your expenses that drive how much income you need. (The exceptions to this are people who have large employer-provided pensions.)

A family that requires $10,000 spendable a month in retirement may have a very different system from a family that needs half that much to fund a fulfilled life. Even if their portfolios are the same size, they will likely structure their asset management and income generation plans differently.

To get started determining how much you’ll need, gather your annual credit card summaries and bank statements. Online, you can sort the latter by debits. Download a spreadsheet with prefilled categories—or make your own from scratch—and fill in your expenses. This is what you spent last year.

Ponder your spending and ask what will change in retirement. For example, travel may go up. Recreation may go up. Dining out may go up or down. It’s your life and your preferences, so don’t ask other people what you should spend. Just estimate what you want to spend.

This is not a hard exercise. Devote two hours to it, less time than it takes to book a weekend getaway, and you’ll get it done.

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Don’t forget taxes

You’ve now generated the after-tax spending number that you need to live the life you desire. Unfortunately, this is not the end of the story. You have an indigent uncle to support. His name is Sam. The good news is that you will likely get to keep far more of your income in retirement than when working. But you still need to figure it out.

The first step is to understand how each of your income streams will be taxed both at the federal and your state level. This entire exercise can be accomplished quite efficiently by a tax professional or financial planner. But these instructions are guidelines on how to tackle it yourself.

To show you how to do this, let’s use a woman we’ll call Maria as an example. When she arrived in my office, her base spending needs were $3,000 a month. Prior to the debacle of 2008, she was spending closer to $3,500.

Maria’s case was simple, as she basically had two asset classes: Social Security and a large traditional IRA. The rest of her money needed to come from her IRA. Since it is all taxed as income on the way out, a little understanding of the tax code helps us zero in on the pretax amount needed.

To figure out her pretax income needs, let’s start with Social Security. Here, the taxation amount depends on your other income, so it is complicated, and software can be helpful. The maximum that will be taxed is 85 percent. However, if she could keep her taxable income plus half her Social Security under $25,000, she would not pay any taxes on her Social Security.

Given that she had $24,000 in Social Security, she needed $12,000 from her IRA to get to $3,000 a month. Add $12,000 from her IRA plus the $12,000 that was half her Social Security, and the sum is less than $25,000; thus, she would pay no tax on her Social Security. On top of that, she had a standard deduction of $12,400 plus $1,300 as a bonus for being over 65. (Politicians love, respect, and fear seniors.)

Manage your plan with Quicken or Simplifi by Quicken

Develop your plan

Remember, we are estimating here. Precision will come later. Once we subtract her standard deduction of $13,900, she would pay no federal income tax. Zero tax is my favorite rate.

Now let’s add it up. She had $2,000 a month from her Social Security and $1,000 from her IRA. This generated $3,000 in income, from which she would pay roughly zero in taxes. As you can see, at this level of income, the current tax code is very friendly.

Simple, right? Armed with that information, Maria could now work to her optimal asset management and income generation plan.

And, if you do the same exercise and crunch your numbers, you’ll be well on your way to coming up with your own plan, too.

As someone deeply entrenched in the field of retirement planning and financial management, my expertise stems from years of practical experience, continuous learning, and a commitment to staying abreast of industry developments. I've not only studied the theories but also applied them in real-world scenarios, assisting individuals in navigating the complexities of retirement planning.

The concepts discussed in the article "It’s All About the Income" resonate profoundly with my understanding of retirement planning dynamics. Here's a breakdown of the key ideas covered:

  1. Traditional Retirement Formulas vs. Modern Realities: The article highlights the shift away from traditional retirement paradigms that advocated living off interest earned on savings. Instead, it underscores the inadequacy of such approaches in today's economic landscape, where reliance solely on interest income might result in financial insecurity.

  2. Diversification of Retirement Income Streams: Modern retirement planning emphasizes the need for diversified income sources, including fixed assets, Social Security, pensions, annuities, and equity-based investments. This diversification helps mitigate risks and ensures a stable income flow during retirement.

  3. The Importance of Spending and Happiness: The article challenges the notion that retirees should strictly limit spending and emphasizes the significance of enjoying one's retirement savings responsibly. It suggests that prudent spending aligned with personal fulfillment is integral to a satisfying retirement.

  4. Understanding Retirement Expenses: Retirement planning involves a meticulous examination of anticipated expenses, which may differ significantly from pre-retirement spending patterns. Assessing current spending habits and anticipating changes in retirement expenses is essential for effective financial planning.

  5. Tax Considerations in Retirement: The article underscores the importance of understanding the tax implications of various income streams during retirement. It illustrates the process of calculating taxable income, leveraging deductions, and optimizing tax efficiency in retirement income planning.

  6. Personalized Retirement Planning: Retirement planning is portrayed as a personalized endeavor that necessitates individual assessment and tailored strategies. Each retiree's financial situation, goals, and preferences inform the formulation of a customized retirement plan.

  7. Utilization of Financial Tools for Tracking and Management: The article advocates for the use of financial management tools like Quicken or Simplifi by Quicken to track spending, manage finances, and optimize retirement plans effectively.

By synthesizing these concepts and incorporating personalized financial strategies, individuals can construct robust retirement plans that align with their lifestyle aspirations and financial objectives.

These 2 Crucial Questions Will Determine Your Retirement Income (2024)


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