For retirement income, investors usually think about stocks and bonds. To produce a reliable retirement income stream, they often consider mutual funds, and other investments that pay dividends or offer an attractive interest rate. Whether they set up their retirement accounts using financial advisors, financial planners, banks or a life insurance company, saving for retirement is becoming increasingly important to many Americans.
Many worry about the dependability of Social Security, balancing lifestyle spending and prudently using credit cards with tax breaks, avoiding excessive capital gains, and other aspects of long term retirement planning. Tax-free accounts like a Roth IRA can make a lot of sense, but other tax free options like municipal bonds can be a big mistake.
While the stock market often gets the lion’s share of retirement account attention, other investments such as a real estate investment trust (REIT) should be considered. Investors should look to build prudent portfolios, and focus on the total return – appreciation plus income like interest and dividends – to fund their retirement.
Like a critical operation where every move must be perfect and every minute counts, crafting a retirement plan entails some of the most important decisions you will ever make. What we do toward or past the end of our earning years has a finality to it, since we typically won’t be able to make more money to replace any lost to poor decisions. Likewise, we probably won’t have the ability to skip needed withdrawals and wait on a couple of market cycles to make up lost ground.
Getting retirement planning right can give us all the income we need for a satisfying lifestyle, with adequate reserves against the risks of higher health care costs and long term care, and to leave a nice inheritance to the people or causes that we care about.
Getting it wrong can bring a life of misery and even a shortened one if we can’t afford to pay for the drugs, operations, and other care we may need. This article could alert you to danger areas that you or your other advisors have overlooked, and brighten your future. If so, I am happy to have helped you and your family.
There are two big dangers in retirement planning that don’t seem to get much media play, so I want to emphasize them.
The first is so-called “longevity risk,” the risk of living longer than expected or than our assets can support. Lifespans have gone way up – far past your parents’ – and it is likely medical technology will give those that can afford it another big leap soon. The risk of running out of money has never been bigger, and the conservative approach is to consider a much longer life expectancy than may seem reasonable.
The second is cognitive risk, the sad truth that our brains just don’t function as well as we age. “Old timer’s disease” does not necessarily mean Alzheimer’s or other forms of dementia. Cognitive declines occur even as part of the healthy aging process, which is probably not good for financial and investment decision making. Recent studies have shown a steady decline in financial decisions quality after 65 or so, perversely with an increase in financial decisions making confidence! In other words, older folks can have rock-solid confidence in poor decisions, and stubbornly cling to them even as they go sliding down the ladder. I can’t think of a better reason for retirees to seek out quality advisors, and take their advice! (For ideas on how to pick a quality advisor, click here to download my report 8 Big Mistakes to Avoid in Choosing a Financial Advisor.)
Poor tax planning is probably the biggest roadblock to wealth accumulation facing most Americans. This goes double in retirement, when every penny can become more precious.
Many assets have different tax treatments (capital gains vs. ordinary income, higher and faster taxation of mutual funds vs. ETF’s, max-bracket and additional excise tax exposure in annuities and IRA’s, max-bracket on interest vs. lower rate on dividends, etc.) and it is very common to see the wrong types of investments in the wrong sort of accounts, such as stocks and other capital gains assets in IRA’s, which can double, or more, the effective tax rate.
Paying attention to lining up account type and asset type tax treatment has been called asset location planning, but is often overlooked by investors and their advisors. But asset location and withdrawal location planning can make a huge difference, with net annual return potential said to be over 3% or more a year. On a million dollar nest egg, that could be over $30,000 more a year to spend! Other mistakes include not harvesting capital losses to offset taxable gains, not planning other income around Social Security tax issues, ballooning the amount in Social Security benefits forgone due to higher taxation, and so on.
As you have no doubt heard for decades, home ownership is the biggest investment many Americans make. Unfortunately, real estate is fairly rigid and illiquid, and most people go to their deaths never unlocking this sometimes very large pool of resources that otherwise could have lifted their income, lifestyle, and safety margin.
This can be really huge for you. While there are many ways to skin this cat, the three most basic are:
- Sell your home and find somewhere cost-effective to rent. If you can live with moving, the numbers may work so well that your spendable income jumps dramatically. You would also save on taxes, repairs, and breaking your back to keep the place up. This also makes eventual transition to an extended care facility smoother if it becomes necessary.
- If you love your house and won’t consider moving, you may want to use a home equity line of credit, with which you are no doubt familiar already. Downsides are interest rate risk (these are usually not fixed rate so when rates go up your costs do too), tightened rules post-2008 which may make these loan products harder to get and live with, and foreclosure risk – they may actually expect you to pay the money back sooner than is convenient, and if you (or your heirs) don’t the house is toast.
- Reverse mortgages still have a pretty bad hangover reputation, but actually have evolved into fairly good products. While too complicated for me to get into here, the main points are you don’t have to pay the money back during your lifetime, you can’t be forced to move, and come payoff time if the house can’t be sold for what is owed, the government, not your heirs, eat it. While I personally think this is bad tax policy for the country, I think it is very good for you and you should jump on it if this sort of program works for you in boosting income, converting home equity into assets to invest elsewhere or pay off other pesky debt, or just set up a line of credit safety margin facility for you.
Best Retirement Investment Ideas for Many Retirees:
- Dividend stocks offer the opportunity for strong regular income, and price appreciation to keep up with inflation, build up an inheritance, and generally grow wealth. Both individual stocks as well as ETFs and mutual funds focusing on dividend stocks can be used.
- REITs and MLPs are interests in companies that typically own and rent out large real estate projects like hospitals or apartments (REITs) or infrastructure like oil and gas pipelines (MLPs). Cash flow can be very strong, and is often tax-advantaged, though it can complicate tax return filing for non-IRA investments. We suggest publicly traded REITs and MLPs, the kind that trade like shares of stock, and can be bought or sold at will for little commission cost. Non-public kinds can offer opportunity, but can also cost big commissions and be hard to get rid of.
- Physical real estate managing your own residential or commercial rentals is really a part time job, but can offer non-material rewards as well as good income and appreciation potential. If this interests you, read a bunch first and go in slow to make sure you like it, and know what you’re doing!
- A job! Yes, if you’re working a bit you’re not really retired, but work can keep you young, sharp and maybe longer-lived besides easing your financial burdens and maybe helping with health care. Don’t rule it out!
- Maybe annuities – if you research carefully and learn to avoid the big commissions and high hidden costs. Expensive, abusive products have given a annuities a bad name – and there is so much overpriced product out there that you really must be careful – but the right annuities will do something nothing else will – guarantee lifetime income no matter how long you live. To download an extensive Annuities Handbook by this author that will help you learn the ins and outs of annuities to make better decisions, click here.