What You Need to Know to Get Through the First 10 Years
If you listen to our Money Wise radio show and podcast, you know we dedicate the second hour of every show to financial and investor education topics. That’s because the Davidson Capital Management team believes in giving you the unfiltered, real information you need to make smart financial decisions and meet your long-term goals. That certainly includes your retirement goals, so today I want to talk about how you can plan ahead to avoid some of the most common financial challenges retirees face in the first decade of retirement.
Though there are many financial considerations that you should keep in mind throughout retirement, these are some of the most predictable issues that give retirees heartburn in the first ten years after leaving the workforce:
1. Withdrawing Money Without a Strategy
After spending so long saving for retirement, now it’s time to put that money to good use building and sustaining this new phase of life. As you consider how to best withdraw your money, don’t forget how long it took and how hard you worked to save it in the first place. Make sure your withdrawal strategy is as carefully considered as your savings strategy.
There are many considerations, but the biggest one comes during tax season. Different financial accounts are taxed at different rates. For instance, Roth IRAs and Roth 401(k)s are taxed in advance of contributions, so any money you withdraw is tax-free. However, traditional IRAs and 401(k)s get taxed at an ordinary income tax rate whenever you choose to take money out of those accounts. Investment accounts funded with after-tax assets are taxed using a capital gains tax rate, which differs from the income tax rate.
It’s a lot to keep track of – but it’s crucial that you do. Making sure you take funds out at the optimal time can feel overwhelming but taking the time to strategize now can keep you from a sizable tax burden. That’s incredibly important at any stage, but more so when you’re trying to ensure you have enough money to last you for the rest of your days. We recommend a maximum annual gross withdrawal rate of 5% under our investment management philosophy. This withdrawal rate is designed so a retiree does not encroach on the original principal investment over the life of the portfolio. If your monthly retirement expenses exceed a 5% gross annual distribution you may want to re-evaluate your monthly expenses to find areas of additional savings and/or how much you have saved in total for your retirement.
2. Saying Goodbye to Your Budget
Retirement is all about embracing life, right? Often this is a prime opportunity to do everything you couldn’t do in your working years: travel more, dig into an important project, or pick up a new hobby. Just remember, those new endeavors often come with a hefty price tag.
Make sure to enjoy yourself, but also make sure to be smart about calculating how much money you’ll spend during the first decade of retirement if you dig into all these new activities. Overspending can eat into your savings significantly, so make sure you’re not unintentionally shortchanging your later years. Avoid “chunking” your retirement nest egg. Chunking is when a larger sum on money is withdrawn in addition to your standard monthly withdrawal. Chunking is one of the most dangerous withdraws because it will increase the total annual withdrawal percentage potentially impacting the longevity of your nest egg.
Creating a new budget tailored to your retirement goals is a great way to stay on track. Calculate your monthly income after establishing your 5% annual withdrawal strategy and base your budget on those new figures. Make sure to track your spending along the way to stick to your goals and, if you can, set aside some funds specifically for enjoyment and leisure activities.
3. Forgetting About Inflation
Playing it safe doesn’t seem like a risky proposition—but when it comes to investing in the stock market in retirement, being too conservative with your strategy can do more harm than good. Inflation is the culprit here—varying rates for different expenditures, specifically.
If the average rate of inflation is, say 3.2%, it’s easy to overlook that the long-term average inflation rate for healthcare expenditures is 5.28%. One of the biggest necessary expenses retirees face is healthcare, so you’re likely to feel that financial pinch. Obviously, in times of high inflation like we’ve been experiencing, things can get even more painful.
So, what’s the best strategy to counteract inflation? Work with a professional Registered Investment Advisor (RIA) like our staff here at Davidson Capital Management, to actively manage your investment portfolio between risk-aversion and calculated growth.
4. Forgoing an Emergency Fund
It’s nice when life goes according to plan, isn’t it? We all know, though, that sometimes the unexpected happens. Could you comfortably pay for a financial emergency or a major expense without putting your financial future in serious jeopardy? If the answer is no, an emergency fund can help.
There’s no magic number you should save up, but we recommend that retirees tuck away between 6 to 9 months of expenses. That can seem like a big number, but it can cover both unexpected costs and provide stability if your income or the economy takes a hit. Make sure you put it into an account that’s easily accessible and liquid so you can access your safety net when you need it.
5. Going it Alone
No retiree is an island – though many would like to live on one! To get the most out of your first decade of retirement, it pays to have a team of professionals who you can count on. You wouldn’t go to court without a lawyer or try to heal a broken bone without a healthcare professional. The same goes for maximizing your retirement income and avoiding common financial challenges that can damage your retirement security.
The Best Way to Avoid Common Financial Challenges in Retirement
Get ahead of potential roadblocks by using all the resources at your disposal – including a professional RIA to help you balance your portfolio and develop a retirement income strategy.
At Davidson Capital Management, we help our clients invest with confidence and purpose. We are a disciplined, transparent Registered Investment Advisor (RIA) serving the State of Texas and beyond since 1989. If you’d like to learn more about our services, let’s talk. You can schedule a call at a time that works for you, and we’ll be happy to answer any questions you might have.