By Phil Lubinski, CFP®
As I’ve worked with financial advisors over the years, I’ve found there are certain topics they are hesitant to deal with. Much like the famous scene from the movie Caddyshack when Bill Murray retrieves the
"Baby Ruth" candy bar in the swimming pool, there are unpleasant topics that must be addressed in a comprehensive retirement income plan. Many financial plans I’ve seen simply assume that retirees are going to live for an arbitrary period of time and consume comfortably with a linear spending pattern that is only adjusted using a fixed inflation rate.
Additionally, research shows that 80% of advisors use what is called a Systematic Withdrawal Program (“SWP”) income strategy. This strategy invests your assets into a single portfolio that is invested in a mix of stocks and bonds that is consistent with your individual risk tolerance and then begins to deliver income at a “safe” withdrawal rate, which is usually around 4% annually. To show that there could be investment risk in this portfolio a probability of success analysis is done (i.e., Monte Carlo testing) that accompanies your report. What you walk away with is an income projection, not a plan. If you are lucky, that projection may predict success 80-90% of the time. Like magic, your $1,000,000 with provide you $40,000 per year, adjusted annually with a pre-determined inflation assumption (usually 2-4%) for the next 25-30 years.
WHAT UNPLEASANT TOPICS ARE NOT BEING ADDRESSED?
When you have an 80% probability of success that means you have a 20% probability of failure. With this type of probability testing, a 20% probability of failure means you run out of money before you die. And, if you do fall into this 20% failure category, it doesn’t happen until you’re well into your 80’s or 90’s. Ask yourself, would you board an airplane that only has an 80% probability of reaching its destination? If your answer is “absolutely not”, then why would you get on a retirement income flight with this kind of uncertainty? How comfortable are you going to be enjoying your wealth in the early years of retirement knowing that you have a 20% chance of running out of money later on?
Retirees spending patterns are anything but linear. In my over 30 years of working with retirees I found that the spending curve is shaped more like a “smile” than a straight line. Most retirees want to do extra things during their early years when their energy is high and their health is good. This early phase is usually followed by a normal slowdown in spending. During the later years of retirement there can be an increase in spending due to health care costs, thus creating the “smile” spending curve. The most overlooked expense by many advisors when creating your retirement income plan is your “out of pocket” health care costs. Based on the Medicare plan you select and your health conditions, these costs can be substantial. Bankruptcy rates for people 65 and older have increased by 500% since 1991, primarily due to health-related expenses. Does your advisor have access to technology and data that can help you estimate these expenses?
Just like spending is not linear at a constant inflation rate, inflation is not fixed either. Currently, we are in a very low inflationary environment, but I certainly remember a f year period from 1977-1981 when inflation averaged a little over 10% annually. Could an inflation storm like this destroy the chances of your money lasting? There are good technologies available that can “model” a variety of inflation scenarios that can confirm your assets will still support.
All expenses are not equal when it comes to inflationary growth. Some expenses, like the principal and interest payment on your mortgage, may experience NO inflationary increases, whereas health related expenses have increased at least twice as much as the national inflation rate. Is your advisor breaking your monthly income needs into individual expenses and applying the appropriate inflation assumption to each?
The purpose of this article was not to throw cold water on your retirement dreams, but rather to point out that retirement income planning is complicated and requires an advisor who is a specialist, trained in the unique needs of retirees. Retirement income planning is filled with decisions that you never had to make when you were growing your wealth. Advisors who primarily focus helping you build your wealth while you are working may not have the expertise to assist you with turning that wealth into a reliable retirement paycheck.
The investment and tax strategies that worked for prior generations are not appropriate for today’s retirees. Today’s retirees want a written retirement income plan, not a probability-based analysis. They want and need a plan that is intuitive, provides clarity and can easily be modified along the way as markets change, tax laws change and, most importantly, as your needs change. Retirees need a “trusted advisor” who will guide them through the uncomfortable “Baby Ruth” situations. It is a well-documented fact that retiree’s financial acumen declines as they age and a recent study by Vanguard Investments found that many retirees want to know that their advisor will not only be helping them during this decline but will be there to help their surviving spouses and beneficiaries.
Even if you never used one when you were accumulating your wealth, you should not think that you can continue to self-manage your own retirement income plan. One of my best clients never used an advisor during his working years. They were very savvy investors and understood the tax laws. When I asked them why they chose to work with an advisor in retirement they simply said, “We know how to grow money, but we have never had to distribute it, and we don’t want to learn on our own money. Plus, managing our wealth is taking time away from the things we really want to do in retirement.”
Be very diligent when selecting an advisor. As you interview advisors, think of it like a job interview. Your advisor is applying for a very important job: to ensure you have a happy, financially secure retirement. Like any job interview you should ask about their education, experience, philosophy and what and how they charge for their services. There are credentials that advisors attain that show they have received specific training in retirement income, including:
“RICP (Retirement Income Certified Professional)”, which focuses on retirement income specifically.
“CFP® (Certified Financial Planner)”, a comprehensive planning curriculum that includes retirement planning.
“ChFC (Chartered Financial Consultant)” which has a similar curriculum as the CFP®. These credentials are not exhaustive but are highly regarded and meet industry standards. Each of these credentials requires advisors to complete continuing education courses every year to remain current with changes that impact their planning. Although a credential alone does not guarantee the quality of advice you will receive, it is an indication of disciplined academic training.
Additionally, insist that your advisor gives you referrals to clients that he/she has helped through their retirement. Not just a client who recently retired, but someone who has been retired for several years. Make sure they have an investment philosophy and strategy that is unique to retirement income planning and a technology that address all the “Baby Ruth” issues previously discussed, such as “out of pocket” health care expenses, long term care costs unique to your area, and a variety of inflation assumptions. Does their technology address the risks of you dying too soon, living too long and/or becoming disabled and requiring long term care? Finally, make certain your advisor has access to a variety of products from multiple industries since different types of products address different needs. You would not work with a doctor who only writes one prescription for all patients.
In summary, retirement should be one of the happiest and carefree phases of your life, but as you can see, it is not simply a “set it and forget it” period. Many people will hire a guide when they take their first trip to a location they have never visited before. Although the difference is you only get ONE retirement journey, and you want it to be well planned. Working with an advisor who is trained in retirement income planning and uses current retirement income strategies and technologies is an important first step and paramount to your success.
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Phil Lubinski is a certified financial planner who has specialized in retirement income planning for more than 30 yrs. Currently Phil is a co-founder of WealthConductor®LLC and co-developer of the IncomeConductor® retirement income technology. www.incomeonductor.com