Most strong and stable structures should have a solid foundation. Think about the story of the three little pigs. They each built a house, but only the one with the strongest base withstood the risk of the Big Bad Wolf.
The same holds true with retirement planning. While you may be saving and investing for the future, without a specific plan in place, your money – and your retirement income – could be at risk of running out at a time when you still need it.
The Difference Between Investing and Actual Retirement Planning
People often wonder how much money they need to save for retirement. That is a difficult question to answer, though, at least without knowing the parameters and goals that you’re trying to accomplish. In addition, everyone’s objectives can differ. So, what might work well for someone else may not be the ideal plan for you.
Unfortunately, many financial advisors simply sell “products” to their clients, without any particular objective in mind. So, even if a particular financial vehicle has a good track record, it may or may not be the right tool for the goals you are hoping to accomplish. This is the difference between simply investing and having an actual retirement plan in place.
With that in mind, a well-thought-out retirement plan should have a variety of financial “tools” that work together in moving you towards your short- and long-term goals. For example, if you have a goal of saving $5,000 for the down payment on a new car, placing these funds in a low-risk and liquid account – such as a money market – will typically make more sense than investing in high-risk small-cap stocks that could result in losing all your money.
As it pertains to longer-term plans, there are several components that should be considered when you’re developing a strategy for your retirement. These can include your:
- Time frame until retirement
- Risk tolerance
- Income generation sources
- Life expectancy
For instance, investors who are in their 20s or 30s may be able to take on a bit more risk – and in turn, attain the opportunity for growth – than someone who is in their 50s or 60s and would have little time to recoup any losses.
Why Your Financial Plan Should Differ Before and After Retirement
Even with the best saving and investment plan(s) in place, everything is different once you have retired. That’s because you will have to convert some or all of the assets you’ve built up into a reliable, ongoing stream of income that will ideally continue for as long as you need it to.
In other words, when you retire, you will be moving from the “accumulation” phase to the “distribution,” or income, phase of your financial planning. These steps are oftentimes referred to as climbing up and down a mountain.
For example, during your working and saving years, you are essentially “climbing up the mountain.” Many financial advisors stop you there, though, once you have reached your “number,” or your goal.
But this is really just part of the overall “journey,” because a successful retirement also represents climbing back down the mountain – and this can require a whole different set of “tools” and strategies. This is why it is important to work with a retirement income planner – who may or may not necessarily be the same person or firm that helped you during the accumulation phase.
What Should Your Money Be Doing?
Retirement income expert Tom Hegna says that there are two questions you need to ask yourself as you plan ahead for your retirement income. These are:
- What do you need your money to do?
- What do you want your money to do?
Regarding the first question, it is important that you have enough retirement income being generated so you can pay your essential living expenses. These will usually include housing, utilities, transportation, food, and healthcare. This could be considered your “income floor.”
There are strategies that you could put in place that guarantee you a set amount of income on a regular basis so that you know you have the essentials covered. Knowing that you will still be able to pay your necessary expenses – regardless of what happens in the stock market or with interest rates – can lead to a less stressful retirement that allows you to focus more on the things you want to do.
Once you have the essential expenses covered, you can then determine how much more income you would need for non-essential items, like travel, entertainment, and fun. In this case, it may be possible to place a portion of your assets into higher-risk, but higher-return financial vehicles.
Then, if the investments perform well, you can use these funds. But if they do not perform well, even though it may be disappointing, it won’t prevent you from paying your necessary living expenses.
Where Will Your Retirement Income Come From?
Many retirees have income that is generated from more than just one source. For instance, you may receive income that comes from:
- Employer-sponsored pension plan
- Social Security
- Interest and/or dividends from personal savings and investments
- Reverse mortgage
- Rental income
While all of these are viable sources of retirement income can also require the proper timing in terms of when to receive them, as well as various maximization strategies so that you generate the most income possible for the longest period of time.
Will Your Current Retirement Plan Withstand the Test of Time?
A truly successful and worry-free retirement will require you to have a plan in place that leads you towards your desired destination yet is flexible enough to revise as your needs change over time.