What Makes a Great Retirement Plan?: How the 4% Rule and Other Rules-of-Thumb Fall Short!
*** Transcript ***
(Edited for grammar and clarity)
Retirement planning can be a daunting task, requiring a great deal of thought and consideration.
There are some popular rules of thumb that people try to use as shortcuts.
One widely accepted guideline is the four percent rule which indicates that you can withdraw four percent of your retirement assets and never run out of money.
Other rules declare that you need a certain dollar amount before you retire. Maybe one million or even two million dollars.
But the problem is these rules are just too overly simplistic for something as important as retirement planning.
Today I'm going to discuss why these rules are inadequate. And make sure you stay to the very end when I discuss the various components that should be included in a comprehensive retirement plan.
As a special bonus I will give you a link to my free e-book called the 8-Step Retirement Roadmap. If you're serious about planning for your retirement, you'll want to get a copy of this free resource.
Hi, my name's JP Geisbauer founder of CenterPoint Financial Management. I'm a Certified Financial Flanner professional (CFP®), a Certified Public Accountant (CPA), and this channel is dedicated to helping diligent savers maximize their lives and minimize their taxes as they transition into retirement.
The dream of retiring comfortably is a common goal, but achieving it requires more than just following a one-size-fits-all rule. The four percent rule suggests that you can withdraw four percent of your retirement assets and have enough money to survive for thirty years. But how often do your expenses follow such a rigid timeline? There are rules suggesting that you have a certain dollar amount of investment assets before you retire. But these are arbitrary, and based upon a multiple of your earnings, just prior to your retirement.
And while these sound like easy ways to prepare for retirement, there are six variables that these rubrics do not take into consideration.
1. Where are you going to live when you retire?
The cost of living can vary greatly from state to state and country to country. These general rules of thumb don't take into consideration these geographic disparities, and these differences can have a dramatic effect on your retirement.
Housing costs, property taxes, health care, entertainment can all vary widely by location. If you're planning to relocate in retirement, it's crucial that you take these differences into consideration to estimate your future expenses
2. Are you healthy going into retirement?
Your health and longevity is a critical component of your retirement plan as they will directly influence how long your savings needs to last. The retirement rules of thumb do not take into consideration your medical history, lifestyle choices, and overall well-being.
To gain a clear picture of your retirement needs, you'll need to consider such factors as preexisting conditions, family health history, and whether long-term care should be a part of your plan.
3. What are you planning to do during retirement?
Retirement often gets broken down into three timeframes. The go-go years, the slow-go years and the no-go years.
The go-go years are generally your first years of retirement where you have the resources, health and the time to finally enjoy all the traveling and life experiences you’ve neglected while working. So, the expenses of the go-go years will be considerable.
Then life will transition into the slow-go years where maybe there are health and mobility considerations where you're not able to do the things that you were able to do in the go-go years. This will likely result in a lower cost of living.
Finally, there's the no-go years, which might consider the factor of being in a long-term care facility. These years may be more expensive.
As you can see, retirement costs aren't necessarily going to be uniform. Relying upon a rule of thumb that just has a uniform drawdown strategy, is obviously not the best method.
4. In what type of accounts are your Retirement investments held?
There are typically three types of accounts: taxable brokerage account, pretax retirement account, and your tax-free Roth account. Each of these will have different tax considerations as you draw them down.
Distributions from your pre-tax accounts will generally be taxed at your ordinary income tax rates. Brokerage accounts may have capital gains treatment. And finally, tax-free Roth accounts will be tax-free forever.
As you can see, $2 million in a pretax account is going to be a lot less than $2M in a Roth account. And those general rules of thumb essentially ignore where the investments are held. And ignoring such a critical component just doesn't seem prudent in a retirement plan.
5. How are your Retirement assets invested?
Your investment portfolio's composition can greatly impact your retirement income. Equity generally offers higher returns, but more volatile. Depending on market conditions, a heavily weighted stock portfolio can either significantly boost or deplete your savings.
Bonds typically offer a lower return but with reduced volatility. However, in a low-interest rate environment, relying heavily on bonds could result in under performance. Rental real estate offers the potential for real estate income and asset appreciation but comes with management responsibility and possible market risks. And these types of assets are generally ignored in these general rules of thumb.
You may have other assets that include business interests, partnership interests, and alternative investments which may add diversification but increase risk. These assets could also have quite a lumpy cash flow model.
Asset allocation is a big miss for these general rules of thumb. Any asset allocation should be based upon an individual's risk tolerance and financial goals. These generic rules of thumb do not consider these variables, potentially leading to overly conservative or overly aggressive withdrawals.
6. What is the legacy that I want to leave?
Your financial dependents play a crucial role in your retirement plan. The four percent rule assumes a static set of circumstances. But life is rarely that predictable.
You may want to take care of family members when you're gone. You may want to make a significant philanthropic impact in your community. If so, these considerations need to be a part of your retirement plan.
What makes an effective retirement plan?
Simply stated, a comprehensive one.
One that covers not only the financial aspects of your retirement life but also the personal ones.
You'll want one that includes a retirement income and spending plan. That considers Social Security time and income tax planning, an investment asset allocation that aligns with your risk tolerance and your financial goals. And you'll want to incorporate the legacy you want to leave for your family institutions and communities that you care deeply about.
If you're serious about creating a retirement plan, I wrote an e-book called Your 8-Step Retirement Roadmap. This e-book discusses these various aspects of a comprehensive retirement plan. And it's 100% free. You can get your free copy here.
Retirement planning is too important to leave a chance. Take control of your financial future today to make the most out of your retirement.
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Thanks again for watching and I'll see you next time.
About the Presenter:
JP Geisbauer is a Certified Public Accountant, a Certified Financial Planner ®, and the founder of Centerpoint Financial Management, LLC, a financial planning, investment management, and income tax planning firm located in Irvine, CA. JP Geisbauer is dedicated to helping California-based business owners and executives transition into retirement. He has been quoted in many news outlets including Forbes, Newsweek, US News & World Report, MarketWatch, YahooFinance, CNN and NerdWallet.
Need help with your transition into retirement? Schedule a complimentary 30-minute call with JP here.
Disclaimer:
This article is for general information and educational purposes only. Nothing contained in this article constitutes individual financial, investment, tax, or legal advice. Before taking any action on any topic discussed in this article, consult with your own financial planner, investment advisor, tax professional, and/or attorney for advice on your specific situation.