As you progress through life, your priorities and goals evolve and change. As a result, the tools and methodologies you use to achieve them also change. A good way to illustrate this is by doing a quick analysis of all the vehicles that you’ve ever owned or leased.
Prepare a list of every car or truck you’ve had, including the reason that you purchased or leased each one. There was a driving (excuse the pun) factor that was responsible for having a particular vehicle at each point in your life. Whether it was to have a basic set of wheels, impress the opposite sex, have a family car, etc., there was one overriding reason that was responsible for your decision to buy or lease each vehicle.
Similar to choosing cars, there are different types of financial planning strategies and financial plans that are appropriate at different stages in our life. When it comes to retirement, unbeknownst to many people, there are two types of retirement plans we need to have at different times of our life: (a) retirement asset plan and (b) retirement income plan. The remainder of this article will briefly describe each one and will explain the differences between the two types of plans, including when each type should be used.
Retirement Asset Plan
When a potential new client comes into my office and tells me that they’ve done retirement planning, I ask them, “Which type of retirement planning have you done?” This question invariably provokes a puzzled look and associated response, “What do you mean, which type of retirement planning? Isn’t there only one?”
Chances are, the person or couple sitting in front of me isn’t aware that there are two types of retirement planning approaches. The first type, which is generally what my potential client has been exposed to, is retirement asset planning. Traditional retirement planning as it has been, and continues to be, practiced by most financial planners, focuses on the accumulation of sufficient assets to be used for retirement and “spending down” of those assets during one’s retirement years. This is, in essence, retirement asset planning.
Retirement asset planning is designed for, and works wells in, the accumulation stage of retirement planning. The primary goal in each case is to calculate a targeted amount of retirement capital that will be available beginning at a specific age through a detailed analysis of one’s current and projected financial situation. Once this is accomplished, investment strategies can be developed to accumulate funds necessary to achieve the desired retirement capital goal.
Retirement asset planning has two main shortcomings when it comes to providing a total retirement planning solution. The first is the “sequence of returns.” Those of you who retired at the beginning of 2009 when the Dow Jones Industrial Average hit a low of 6,469.95 on March 6 after peaking at 14,198.10 17 months earlier on Oct. 11, 2007 understand and appreciate this concept. Anyone who didn’t retire in the beginning of 2009 should read The Sequence of Returns – The Roulette Wheel of Retirement to understand how an otherwise well thought-out retirement asset plan can be derailed at the moment of truth, i.e., retirement.
Retirement Income Plan
The second, and perhaps the most significant shortcoming in retirement asset planning as a total retirement planning solution, is that it lacks strategies for providing a predictable income stream to match one’s financial needs in retirement. Too many things can happen, many of which are beyond our control, with the result being premature depletion of our investment assets. Although unplanned, the occurrence of one or more of these events can easily derail what’s supposed to be our golden years.
Something we have the ability to control, and, furthermore, is imperative for each of us to do, is the creation of a retirement income plan. Specifically, we need to replace employment income with a lifetime retirement paycheck. Even if you have accumulated what appear to be sufficient assets for retirement and you’ve been fortunate to sidestep the “sequence of returns” when you retire, you won’t know whether your assets will be sufficient to see you through retirement unless you have a retirement income plan.
While retirement income planning is still evolving, it’s logically and emotionally more appealing than traditional retirement asset planning for someone who is within 10 – 20 years of, and throughout, retirement. Assuming that your goal is to generate a predictable income stream to match your financial needs in retirement while minimizing your exposure to the sequence of returns, withdrawal drag, and various other risks common to all retirement plans, it generally makes sense for you to begin implementing retirement income planning strategies for a portion of your assets at least 10 years before you plan on retiring.
The amount of assets and the exact timing of implementation are dependent upon your particular retirement and other financial planning goals as well as your current and projected financial situation.
Successful retirement planning is a two-step process: retirement asset planning and retirement income planning. The use of each type of plan, like the cars you drive, is dependent upon your particular stage in life.
Robert Klein, CPA, PFS, CFP®, RICP®, CLTC® is the founder and president of Retirement Income Center in Newport Beach, California. Bob is also the sole proprietor of Robert Klein, CPA. Bob applies his unique background, experience, expertise, and specialization in tax-sensitive retirement income planning strategies to optimize the longevity of his clients’ after-tax retirement income and assets. He does this as an independent financial advisor using customized holistic planning solutions based on each client’s needs and personality.