Retirement Planning 201: Myths + Misconceptions

By: Brian Seay, CFA

Are you thinking about retiring in the next few years? Googling ideas for taxes, income, social security, or healthcare?

We called this podcast episode the “201 class.” You likely already have the basic “101” ideas from your own research, but what traps are out there? When does the conventional wisdom not apply?

In this episode we dive deep into strategies on:

Retiring (…and why you might still work)

Timing Social Security Payouts (…and when delay might cost you more than it’s worth)

How much you might spend (…and why it’s likely more than the rules of thumb)

Health coverage (…and the “advantage” or not of the plans on T.V.)

Investing (…and why it should be last on the list)

Here is the video version of the podcast. You can find the audio version in The Capital Stewards Podcast channel wherever you listen to podcasts. Also, a transcript is down below.

Transcript:

Hello, and welcome to the next edition of the Capital Stewards Podcast. In this episode, we're going to dive into “retirement planning 201”. You might be wondering, which is the “101 class?” You can get a lot of basic retirement planning answers online. If you're listening to this, you probably already started Googling retirement planning and things like that.

So I wanted to go beyond the basics and give you some real planning advice as you think about life, work and what the next phase of the journey is for you.

We're going to cover things like:

• How much should you have saved?

• What will you do with your time when you retire?

• What are your real goals?

• What does retirement actually look like for you?

• How do you invest for retirement?

• What about taxes and healthcare?

• How do we lower taxes in retirement?

• How do we make sure that we have healthcare covered?

We're going to cover all of those topics in this episode. So if you're interested in a deeper dive into retirement planning, then this episode is for you.

 (Intro Music)

So planning for retirement is a huge step in your life. And the reality is most Americans are very uncomfortable when they think about retirement planning. The Employee Benefit Research Institute surveys Americans every year, and only 28 percent are very confident in their retirement plan.

That means the vast majority, 72 percent, have questions. So you're not alone in trying to solve the retirement puzzle. So if you're thinking, well, my neighbors all have this figured out, there must be something that I'm missing. You're not alone. Most people are trying to figure this out. So before we dive into how much you need to save or how to buy health insurance, it's really important that we take a step back and think about the big picture.

The first question that you need to ask yourself is what is my ideal retirement? I think 20 years ago, most folks thought “I'm just going to stop working. I'm going to play golf every day.” “I'm going to go to the beach, whatever.” I think now, the goals that our clients have for that next phase of life are very different.

Some people want to continue to work in retirement. Retirees typically take a step back, what they really want is flexibility, right? So they want to continue doing what they love vocationally. But but maybe they do that through teaching or through consulting or through a nonprofit or something like that.

Some people want a true sort of retirement where they don't work at all, and they go do hobbies that they love. Some people want to travel, they want to spend more time with their kids, with their grandkids.

All of those things are important goals and important things to think about as you consider retirement, specifically when we think about working I know a lot of folks that I talk to say, “you know, I really struggle with the idea of not working at all. And I think I'm probably going to work some in retirement” and you're also not alone either.

If you're having thoughts about working in retirement, according to the Bureau of Labor and Statistics, workforce participation among adults over 55 has risen each of the last 3 decades. So, you can see on the chart, in 1996, then again in 2006 and 2016, and then in projections for 2026 that adults ages 55 - 74, a higher percentage of them are in the labor force and continuing to work then then we're working in the decade prior and then certainly a lot more than in the 2 or 3 decades prior and sort of the natural inclination may be, hey, well, there's a lot of inflation.

Like, are people working because they need to work? Most of the people that are working. Right. Right. Are not working because they quote unquote need the money. Most of them are working because they really find purpose in their work. And so people are saying, Hey, I want to keep maybe some portion of that work around, or I want to keep doing something a little bit differently.

So more people are working when they sort of get into their late fifties and their sixties, even early seventies, but they're structuring their work differently. They have a lot more flexibility. So maybe their income is changing as part of that, but they're not necessarily you know, stopping work completely.

So. It's really important that you think about what does retirement look like for you? How are you going to spend your most precious resource, which is your time. And then once you have some clarity around that, once you have a really good idea of what you want to do, then we can start thinking about what your spending looks like, how long you might live.

I know it's morbid, but it's really important. The combination of work choices, your time horizon and your spending is what's going to get us to your savings goals for retirement.

Now, the next question that we get a lot is what is my number, right? What Brian, just tell me what amount of, of assets or what does the size of my brokerage account need to be in order to retire? The reality is the level of assets that everyone needs for retirement is different. It depends on your life expectancy and your spending needs.

One of the most common mistakes that I see frequently is that folks underestimate the number of years that they might need to support their family. A lot of people say, you know, I'm not going to make it that long. But the reality is the social security administration expects that on average, and average is the key word there. Men who are 65 are going to live until they're 83 and women are going to live until they're 85. However, by definition, average means that at least half of you were going to live a lot longer than that.

If you're married, the likelihood that you or your spouse live into your mid nineties is greater than 30%. So we think that you should be expecting to live. 30 years or more in retirement. And that means that your portfolio and your assets and your outside income need to support you for a very, very long time.

The other sort of mistake that I see people make when they start thinking about what retirement spending looks like and what their sort of number is is that they immediately assume some of these rules of thumb are going to apply about retirement spending. And so everybody says, Hey, I'm going to retire.

And when I retire, I'm just magically going to spend 80 percent less. The reality is the exact opposite happens. So Chase Bank has done some research where they actually look at the checking accounts of retirees. So instead of asking people how much they're spending and sort of getting their perception around that we've actually got hard data to look at.

And what happens is spending tends to go up immediately leading into retirement and immediately following retirement. And the reason for that is, is pretty straightforward. What happens? You think, Hey, I'm going to retire. What am I going to do? I'm going to relocate. I'm going to renovate my house. I'm going to buy a new house.

I'm going to furnish a house. I'm going to travel a lot more and take advantage of all this free time. And so the, I think one of the best analogies that I've ever heard is to think about it, like every day is a Saturday as retirement goes on. Certainly you age. You'll be a little bit less active but your healthcare spending will go up as your sort of activity spending goes down.

And so overall spending does generally decline a little bit in the later years of retirement. But early on, your spending is going to look a lot like it did right before you retire. If you think about it you know, maybe perhaps you pay your mortgage off or you have some structural things that change a little bit around retirement.

But once you're doing the fun things that you do in your life, they're not going to change. You're not going to want to change your lifestyle a whole lot. Just for retirement. Some people are more comfortable with that, but what we find generally is that most folks want their lifestyle to stay about the same.

And so in order to do that, you've got to assume that your level of spending is going to be pretty consistent. So now we've talked a little bit about your lifestyle goals, aging and spending. You should have some idea. Of how much money you're going to need each year. And the big hint there is it's probably pretty close to what you have today and how long you're going to need.

Now we can start thinking about how you source those funds. And the first part of that conversation almost always revolves around social security. How do I maximize social security?

And as you probably have heard, and this is one thing that I think is well covered in the media, waiting to claim benefits at 67 or 70 is going to result in higher benefit payouts, particularly if you live into your mid or late 90s. And you can see in the chart there, if you claim at 67 versus claiming at 62, you can see the difference there.

If you live to 85, 90 and 95 it can be several hundred thousand dollars. And then if you wait all the way until 70 you know, it could be several hundred thousand dollars maybe even over 400, 000 and, and all this math is assuming that you're getting maximum social security benefits.

So if you're not quite getting the maximum social security benefit, then it's probably going to be a little bit less of an impact there, but it's still significant significant dollars. Thanks. I'm getting money from social security, but, and there's a big, but it does not make sense for everyone to wait to claim social security until their full retirement age of 67.

Or until 70 and let's talk about a couple of reasons why you and your specific situation may not want to wait. You know, all of those years to claim social security. So, your health is the 1st thing to think about when determining whether to claim social security at 62 or later the break even time period between 62 is going to be somewhere between 10 to 12 years.

So that means that you've got to live you know, really into your eighties in order to benefit from all of those increased payouts. So if you have a health concern you know, we talked earlier about longevity and how you're probably going to live longer than you think you're going to live. But if you, you know what your health situation is, and if you've got a health concern, it might make sense for you to claim your benefits earlier, because you might actually get more out of the system that way.

Okay. Then, then by delaying your, your social security benefits. So in addition to considering your health, it's important to make decisions around social security payouts, considering your entire financial picture and specifically your tax situation. You may earn more from social security by waiting longer, but if you're depleting your portfolio, particularly a tax deferred account, like a 401k or an IRA um, if you're, if you're pulling money out of there to fund your lifestyle, you may actually be paying more in taxes than you would To the government, then those incremental extra payouts are worth.

And so it's really, really important to think about your tax situation. When you think about when you're going to claim a social security, if you have a 30 percent tax rate and you are. and you're pulling out 000 a year in social security. If you're pulling all of that difference out of your portfolio, you're going to erode the difference between the delay of waiting to 67 or 70 and and claiming benefits at 62.

So if, if you're thinking, Hey, I'm going to pull money out of my 401k or pull money out of my IRA, instead of claiming social security earlier, it might make sense to run the numbers and make sure that what you're, that you're doing the right thing from a technical standpoint. From an after tax perspective that you're that you're actually making the right holistic financial decision when you wait to take social security.

So delaying social security is the right move for a lot of people. But there are some situations where it makes sense to. Social security earlier and you need to do the analysis on your tax situation to understand whether you know, claiming benefits earlier might be the right thing for you, even though you get a little bit less out of the social security system, you may be wealthier for, for claiming those benefits earlier.

So really be thoughtful about how you think about social security.  

Speaking of taxes, you'll hear me say this a lot, but reducing taxes is a long term game. And this is also true. In retirement and in retirement planning, a lot of times high income earners they want to max out those traditional retirement account contributions without thinking about the long term consequences.

So folks would want to put maximum contributions as much as they can into their 401k into their IRA. And not pay taxes on it and takes to take those tax deductions during your working years. And there are times when that makes sense. So we're going to talk about that. But instead of simply automatically maxing out everything, your retirement account contribution should be determined based on your current and future tax rates.

We think about retirement accounts as Buckets as you approach retirement, you should be thinking about which bucket to fill up with savings based on your current and expected future tax rates over time. You should fill up the buckets in the most tax efficient manner. So we should put money into our 401k bucket or into our IRA bucket or into a traditional taxable account bucket or into that Roth bucket in the middle based on what our tax rates are this year.

And what we think our tax rates are going to be in retirement. Not simply max out those buckets on autopilot. And the reason for that is because if we get to hirement and all we've done is put money into a 401k or an IRA, every single dollar that comes out of that account is going to be taxable.

And if we've been. Funding that earlier in our career, when our tax rate was in the twenties, and then we get to retirement and we're making really significant distributions out of a 401k or an IRA. And our tax rates in the thirties, we're actually writing the government, a bigger check over the course of our lives.

Then we would have written, if we had paid those taxes and put the money in a Roth when we were younger. And so it's really important to think about which bucket you're filling up Some of this goes back to the question around spending, right?

Because folks assume their spending is going to go down, but if you assume your spending is about the same, that's a lot of money that's going to have to come out of your 401k or your IRA every year, if that's the only asset that you have so in years where your income is relatively high, contributing to that IRA or the 401k bucket may be the most valuable.

However, in years where your income is a little bit lower and you need to think about making Roth contributions, that may be the most valuable thing to do long term or perhaps converting money from an IRA or 401k into a Roth. And then there are other years where you may be in the middle and you may just need to contribute to a taxable account.

So, I think a good rule of thumb here is you should always be contributing enough to get your employer match in your 401k or your IRA. And then after that, you need to really be thoughtful about what your tax rates are now, what you think they're going to be in retirement in order to make decisions about continuing to make contributions to your 401k or IRA, starting to put money in the Roth side of a 401k or an IRA, or putting money in taxable accounts.

So, max out your employer match, but don't necessarily max out your contributions if that's not the right thing for you to do. And then when we get to retirement if we've got money spread across all of those buckets, then we can use the buckets to help manage our tax situation in retirement. So if we've got some traditional 401k IRA money, we've got some money in that Roth bucket, and we've got some money in that taxable account bucket, we can empty those in a way that makes sense.

On a year by year basis to minimize our taxes when we get to retirement. So it's really important to think about how you fill those things up and then how you're going to empty those things when you get into retirement. And a lot of that is going to be based on your unique tax situation. .

So let's shift gears a little bit and talk about health care before we talk about Medicare. Specifically. It's important to consider early retirement health care. 1 of the things that I hear a lot is Brian. I want to retire before I'm 65.

you know, maybe I'm, I'm in my late 50s or my early 60s. if you're going to do that, you've got to purchase. Retirement health care insurance either from your employer, if you're at an employer that has retirement health care, or you've got to buy a private insurance often through the exchange private policies for a healthy 60 year old generally cost a little bit more than 10, 000 annually.

So, if you think about that. It's you and your spouse. You might be spending more than 20, 000 a year on health insurance. And a lot of times that's not something that's in your budget today. So it's really important that you think about what your health insurance costs are going to be before you get to Medicare.

If you're thinking about retiring before you're 65, when you turn 65, you have a choice to make. Your first option is purchasing. care and its parts separately. And this is sort of traditional original Medicare. The second option is to buy an all encompassing Medicare Advantage plan from an insurer.

The choice between the, those two options depends a lot on your expected out of pocket expenses, what your healthcare situation is your tolerance for working through a set of network doctors and your desire for additional non Medicare benefits like dental and vision coverage. So those are kind of the things to think about when you think about should I use original Medicare.

Or should I use one of the advantage plans? Original Medicare has four parts or really three parts and then a supplemental plan. So part a that's hospital coverage. Part B is a outpatient doctor visits, specialists, things like that. Part D is your prescription drug plan. And then generally, if you're on Original Medicare, you're almost always going to want to have a supplemental plan or a Medigap plan.

And the reason for that is because your Original Medicare plan is, is generally an 80 20 plan. And that means that they pay 80 percent of the doctor's bill and you pay 20%. But there's no Max. So that 20 percent can be a really, really big number. If something significant happens when you get into older age, and you've got some really big health care expenses.

And so it's really important to have the supplemental plan or a meta gap plan to sort of kick in and cover things when they get to a certain amount. So that's that's kind of the 4 pieces of original Medicare. I mean, you'll have to manage all 4 of those parts yourself. If you have a Medicare advantage plan, it works a lot like a corporate plan that you may have had.

At some points in your career you buy those from an insurance company, they bundle everything up together. I mean, you've got one plan. So. Original Medicare, you're going to get more freedom, right? There's no network. You're not trying to figure out just like you do today. If you have corporate insurance, who's in network?

Who's out of network? Where do you go? Doctor? All that original Medicare. You can pretty much be your own sort of self determinant, you know, leader for your health care. You can go and go and you're going to have, you know, you're going to have your Medicare coverage. The advantage plans are going to have a little bit more sort of you know, some more restrictions on where you can go and those kinds of things, but you're going to get some extra benefits for that, like vision coverage, dental, those sorts of things.

So you just have to think about where you land on that spectrum. What's most important for you, the freedom of original Medicare. Versus maybe some, some sort of control by the insurance companies, but then some more benefits that come along with that in the advantage plan. So, so think about think about that.

And also it's important to remember that the cost of original Medicare plans vary with your taxability. So when you get into retirement you want to be managing your taxable income. I have some money that's in some of those different buckets, not 401k or an IRA. So that you can make sure that your Medicare, your Medicare costs don't go up.

If if you have to, if you have to make big withdrawals from a retirement account in one particular year, so manage your taxable income when you get into retirement,

lastly, investing for retirement. And I talk about investing for retirement last because I think most people assume we're an investment advisory firm.

You know, we're going to start with that, but I think often conversations around retirement start with mutual funds or annuities or investment solutions without defining what the goal or the problem that the investment solution is trying to solve. And so if you're starting, you know, by building your investment plan with the investments and not the goals, what were, what environment we're trying to create, how much we want to work, what we want our lifestyle to be, what our spending looks like, how we're going to deal with healthcare and social security.

If you start. You know, with the investments first, then you may not build the right investment plan to create the kind of lifestyle that you're trying to build in retirement. So you got to start with your goals. What is your retirement scenario actually look like? And then choose investments that are going to help you meet those goals.

One common investment mistake that I see when clients hit retirement is that they seek to minimize volatility or focus on income by owning mostly bonds. Instead of focusing on sort of common rules of thumb, it's really important that you focus on what the real risk is in retirement. So volatility is a given.

Some investments are more volatile than others, but the real risk is not that your portfolio goes up or down this month or next month or over the course of the year. The real risk is that you run out of money and you don't accomplish your financial goals in retirement. A well constructed retirement portfolio should produce total return from both capital gains.

That's the appreciation that comes from things like stocks and income that comes from things like bonds and other assets. And the combination of those things should give you a high degree of confidence that you're going to be able to accomplish your objectives. So that means you should own a diversified mix of stocks, bonds, real estate and other assets in your portfolio.

And you probably need more stocks than you think you do. And the reason for that is because we talked about earlier longevity, you're probably going to live 20, 30, 40 years even. And so that means you've got a long time to save and invest. The last thing I'll say about investing in retirement is we hear clients talk a lot about sort of safe withdrawal rates, right?

How much can I take out of my portfolio? The common assumption for that is 3 or 4%. And those rates may work in your situation or they may not. With average market returns, what we've seen over the last couple of decades a 3 to 4 percent withdrawal rates. Probably going to produce portfolio growth over the longterm.

You're actually going to have more money for some folks. That's great. That's exactly what they want for other folks. They say, Hey, I'd rather withdraw a little bit more and be able to do some more things and fund my lifestyle a little bit differently while I'm around than to have a lot of extra money when I pass away.

And so it's important to really be thoughtful about that. You know, on in the same vein, if you would draw six or 7 percent every year, you might spend down your money and not have any left at the end. So our real approach to withdrawal rates and retirement is a dynamic approach. And that means that we think about what are our real bills?

What are our real expenses are hard expenses that we can't change. And we make sure that those are on the low end. And then when we start thinking about more discretionary choices around spending you know, based on what markets are doing and what portfolio performance has been, we can change that over a couple of year over a rolling time period.

So it's important that you're, I think when you think about withdrawal rates you know, don't just sort of get stuck in the rules of thumb, be really thoughtful about what your goals are. And then think about how much money can you really access from your portfolio and, and then be willing to make, you know, not wholesale changes, but some small changes as you go along the journey as markets either do really, really well, or you underperform a little bit and need to cut back a little bit to make sure that you preserve your capital.

So in conclusion, we started this episode thinking about goals. The most important thing for you to figure out around retirement planning is what are your goals? What do you want your life to look like? Right? Then it's important to dive into the spending that you need to have to support those goals.

What's your income is going to look like. And then what are some really thoughtful ways to manage taxes and investments. And it's a retirement planning is about putting that entire picture together in a way. That supports you that gives you a high degree of confidence that you're gonna be successful in living the life that you want to live, having the assets that you want to have down the road to accomplish your financial goals.

That's what retirement planning is about. It's not about starting with products or starting with you know, things that folks want to sell you and, and you know, say, you're going to make your life better.

So really be thoughtful about what your goals are. Start there and then work back through what What's your tax situation is what's your investment situation is, and the kinds of things you need to do to set your life up to meet all of those goals. If you have questions, we're certainly here to help. You can contact us by clicking on the link below or go into our website and click it on, start a conversation.

We'd be happy to continue the conversation, help you apply any of these principles more in depth and, and in a customized way to your particular situation, right? We'll talk to you on the next episode.

(End Disclosure) The commentary provided is for general audiences and educational purposes only. It should not be construed as investment tax or legal advice for your specific situation. That's why you should talk to a professional. Hello. Past performance of market results is no assurance of future performance. All the information on the podcast has been obtained from sources we deem reliable as of the date of this recording, but it's not guaranteed.